Money-trap guarantees

Fresh competition and renewed scrutiny by the Office of Fair Trading threatens the grip of electrical retailers on the 400m extended warranties market. Now a Marketing Week investigation shows that retailers are continuing to mislead customers

Electrical retailers are continuing to mislead the public and make huge profits on warranty schemes that should have been changed and made more transparent over 14 months ago.

At the end of the summer, the Office of Fair Trading will decide what to do with the 400m business, which enjoys near monopoly status. It is now completing its latest inquiry into the way electrical retailers sell extended warranties – policies which insure goods against breakdown – and at the moment insulate retailers against falling profits.

The retailers have been on a warning for more than 18 months, since the OFT first demanded greater transparency. Retailers like Dixons and Comet signed up to a self-regulatory code of conduct run by the British Retail Consortium 14 months ago.

But a new investigation by Marketing Week reveals that retailers are ignoring the earlier OFT demand that stores openly display the prices of warranties (not only their own but also those provided by manufacturers and insurers) and clean up their act when it comes to over-selling these products.

The investigation also shows that retailers are continuing to ignore the self-regulatory code drawn up by their own trade body the BRC, and signed by the retailers in May 1995, which prevented the OFT from introducing statutory pricing limits on warranties.

Retailers such as Dixons are not giving customers adequate information about warranties, and denying shoppers the information needed to choose the best-value policies.

The BRC took the sting out of OFT efforts to introduce more heavy-handed policing. It produced the six-page, Code of Practice: Extended Warranties on Electrical Goods, which was supported by the major players in the industry. The code says that retailers should display the full range of warranties available, including those from manufacturers at point-of-sale sites; refrain from pressure selling; monitor how the new procedures work; and provide a copy of the code on request.

But the Marketing Week investigation has found that there is virtually no acknowledgement of the code by the major retailers. We visited six sample stores – two Dixons, Comet, Currys, Tandy and Powerhouse. Although a small sample, all six were major outlets and none even came close to meeting the basic conditions of the BRC code.

In a Dixons store in London, the only mention of the code was a single line declaring “Dixons fully supports the British Retail Consortium code on extended warranties” underneath a poster advertising the retailers own Coverplan warranty. When a Marketing Week reporter asked an assistant about the BRC code, he looked at the line and said: “I have never noticed that before.” The code has been in place for 14 months.

We asked for written information on the code – it is a condition of the BRC that it should be provided on request – and the Dixons assistant produced a checklist purporting to show how much better its warranties were compared with other retailers. But no code.

When we asked for a copy of the code in a second branch of Dixons, we were given a Dixons Coverplan Price & Benefits Leaflet. Both assistants said that if we wanted an extended warranty we could only get Coverplan from Dixons. The assistants in both stores led us to believe that the line about the BRC is an industry endorsement of Dixons Coverplan.

Nowhere in either store was there any information on extended warranties sold by manufacturers.

We purchased a portable Sony CD player worth 79 to 99 and were sold a three-year extended warranty for 45. We were told specifically that there were no other warranties available other than Dixons Coverplan. An equivalent Sony warranty is available for 33.

In a Central London Tandy branch it was as if the code didn’t exist. There were no signs informing customers of the code. And when we asked about an extended warranty on a small colour TV, we were told that the only option available was a TandyCARE warranty. When we asked about information on the BRC code, we were given a TandyCARE leaflet.

At a Comet store in London’s Old Kent Road, only the chain’s warranties – Comet Five Star Supercover and its One For One exchange warranty – were displayed. There was no information available about alternative manufacturers’ warranties.

A Comet salesman claimed that manufacturers of brown goods did not provide their own warranties, a claim that Comet’s press office supports. But Hugh Peltor, director of Brema, the brown goods’ manufacturers association, rejects this and says: “This is a wildly inaccurate statement. There is a feeling that it is white goods manufacturers who do more of their own warranties, but it varies enormously.”

Comet says it does not display the prices of manufacturers’ warranties – which are often included within the packaging – because the manufacturers refuse to give the chain the information.

“We wrote to the manufacturers 18 months ago asking for information about their warranties, and 99 per cent wrote back refusing to allow us to sell them as a product,” says Comet corporate relations director Sandy Skevington. She says manufacturers would rather sell their warranties directly to the consumer, than have to pay commission to retailers. She also claims retailers have tried opening the packaging to reach the manufacturers’ warranties, and have been accused of taking them out to sell their own in preference.

This conflicts with the OFT’s view. It insists that retailers must display the prices of the manufacturers’ guarantees: “If there are warranties in the box, then we think they should be on display,” says a spokesman. Its report from January 1996 – Transparency in the Sale of Extended Warranties by Electrical Retailers – says: “Details of manufacturers’ extended warranties should be readily available to consumers before purchase of the goods.”

But they are not. Unless retailers change their ways before the end of the summer, the OFT will have to make good its threat and recommend that the DTI polices the sector more closely and introduces statutory price marking in stores. Even if they do change, it is already probably too late.

This represents a serious blow to retailers, making substantial profits from selling their own warranties. If they are forced to give customers the information they need to choose the best value policies, shoppers may well opt for warranties other than those of the retailers.

Financial services companies are now also entering the market. Norwich Union Direct has launched its own electrical goods insurance, covering all household electrical goods for just under 8 a month. Barclays Bank will launch its own policy next month, and TSB is planning a similar launch in the autumn.

While none of them will admit it, they want to be in the market before the OFT forces tighter restrictions on the electrical retailers and to present themselves as honest brokers before the whole market is regulated.

To call the sale of these retailer warranties a nice little earner would be a gross understatement. It is more accurate to call them essential parts of an electrical retailer’s business equation. The OFT estimates that the 5 million warranties sold each year add up to a 400m business.

Analysts estimate that the sale of these breakdown cover plans account for up to 50 per cent of an independent retailer’s profits, and up to 30 per cent of a big chain’s profit margin.

Based on that calculation, the Dixons Group, which recently announced full-year profits of 135.2m, made nearly 40m on warranties. The high street retailer refused to comment on these figures, but it does describe its warranty trade as “significant and healthy”.

The retailer margin on the sale of a television or a washing machine is less than ten per cent, but a warranty sold on the back of either of these items nets the store as much as 35 per cent of the cost in pure profit.

Warranty prices are set by an insurance company assessment. It looks at a brand’s portfolio, analyses its return rate, and then judges the risk. The insurance company then gives this figure to the retailer, which, in this current uncompetitive market, adds whatever mark-up it thinks the consumer will pay.

All retailers train their staff to sell these contracts, which for the customer do not come cheap. The average cost of insuring a 22-inch colour TV for five years is just under 100, insuring a family PC over 1,500 for the same period – and including at least one year’s manufacturer’s guarantee – will cost almost 500.

Manufacturers’ warranties are expensive but not as costly as those of retailers. For instance, to insure a Sony video recorder priced between 300 and 350 for three years will cost 105 at Dixons but 62 directly from Sony. The same cover, on the same machine, for five years costs 190 at Dixons, while Sony charges 125.

The retailers would argue that the policies are not as good. But a significant body of opinion questions whether most items need warranties at all. Amstrad chairman Alan Sugar describes them as a waste of money, saying that most electrical goods are now so reliable that a breakdown within the first seven years is rare.

The Consumers Association agrees with him, estimating that there is a one in six chance of an appliance breaking down in its first five years. It adds: “Unless you’re very unlucky, the cost of getting your appliance repaired will be far less than the cost of the policy.”

The OFT first investigated this area in December 1994. It was astonished to find the huge mark-ups retailers were making on extended warranties. It found the price to insure the same make of washing machine varied from 95 in one outlet to 240 in another. The reason retailers can do this is because customers are in the dark about how the warranties work. Few know that you can buy an extended warranty from the manufacturer (over and above the year most give as standard), or direct from an insurer.

At the time OFT director general John Bridgeman said: “Most of the 5 million warranties sold every year represent poor value for money.” The OFT said that it wanted customers to be made aware of the full range of warranties on offer, and less high-pressure selling of them by staff.

But the BRC code appears to have just given the industry breathing space. When the OFT carried out an interim review of the code in January, it found that only 41 per cent of Dixons and 40 per cent of Comet stores displayed adequate information about the range of warranties they carried on TVs. Dixons came back with its own survey, carried out by an independent market research firm, saying that 95 per cent of its outlets complied with the code. But none of those stores surveyed by Marketing Week met even these basic requirements.

In January Bridgeman stated: “If substantial improvements are not apparent when the code is reviewed in May, I would have to recommend more effective action, possibly a recommendation to the Secretary of State for Trade & Industry that he makes a price-marking order. I have already written to him about this possibility.”

That review concludes at the end of summer. The OFT has put electrical retailers on notice and changes are going to come whether they like it or not. Retailers are now waiting to see if the regulator will make good its threat. Some may also feel that they have to make the most of the time they have left to maximise profit on warranties.

But all the major stores claim that they have observed the code.

Comet is the most bullish of the major players. Comet’s Skevington says: “A warranty is a product and we are not in the business of selling other people’s products. Only if we could sell manufacturers warranties would we back displaying a list of them in our stores. Otherwise it would be like displaying a list of Philips TV prices in a store that only sells Sony sets.”

But Tandy marketing manager Peter Aske is more philosophical: “It looks as if the OFT is hardening its attitude and will tighten up the code. And if it does we will have to go along with it.”

When we put the results of Marketing Week’s survey to the retailers we got a range of replies.

Dixons, which though not good, had applied the code more than anyone else. It says it is surprised by our findings, as all of its staff have been briefed on the code. A spokesman adds: “There should be no reason for our staff to be unaware of their obligations.” The group went on to say that in future it would be possible to print a copy of the BRC code at its cash machines for any customer requiring one. But the code, and the clause that it should be available on demand, has been around since May 1995.

Tandy’s Aske claimed that the retailer’s in-store point-of-sale material, promoting the code, was being reprinted and would be in the retailer’s shops within ten days.

The OFT has let it be known that it is not happy with the way the legislation is being flouted. Insiders say it is close to recommending to the DTI that a pricing order be put on retailers. Marketing Week’s investigation reinforces the need for action.

All of this spells trouble for the retailers, and possibly for consumers as well. If the retailers are prevented from making the huge mark-ups on their extended warranties, they may have to hike prices on the goods they sell. But with the cut-throat nature of the market, price rises will be difficult to impose.

Warranties have become the most profitable business area for electrical retailers. The immediate impact of any change, whether it is the advent of greater competition or the imposition of price controls from the OFT, will be on the retailers’ profits. That explains why they are still misleading the public and not even meeting the basic requirements of their own code.

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