Colonnade Provides Insight Into The VSC Industry

By: Jeff Hatch

January 23, 2019

A new report from Colonnade Advisors details the significant interest among investors and consolidators in the vehicle service contract industry. The following is an excerpt from the appendix of the whitepaper, which provides an in-depth look at the trends and growth drivers behind this expanding market. 

Strong Macro Trends are Driving Acquisitions and Investments in the VSC Industry 

U.S. consumers spent an estimated $35 billion on VSCs in 2018. VSCs are typically marketed at three points in the life cycle of an automobile:

(i) at original sale (the new vehicle segment – extended warranties),
(ii) near or after expiration of factory warranty primarily via direct-to-consumer sales (the end-of-warranty segment) and
(iii) at resale (the used vehicle segment).

The VSC market benefits from high new and used car sales and increasing penetration rates. Consumers value VSCs as they have limited funds to pay for repair bills and they are owning vehicles longer. Dealerships focus on VSC sales to enhance margins. F&I products provide increasing incremental profitability and represent 25% of total dealership gross profit, compared to 15% in 2009. We expect these dynamics to continue.

The VSC market size has grown by 6.9% to $35 billion since Colonnade’s last whitepaper in August 2017. The growth is attributed to three trends:

1) the increase in attachment rates on new vehicle sales,
2) the increase in used car sales and
3) the increase in vehicles out of the OEM warranty period.

Retail Market for VSCs in 2018 Compared to 2017

New car sales ultimately drive sales in the VSC market. New car sales were 17.3 million units in 2018, a slight increase from 2017. However, VSC attachment rates, or the percent of new vehicles sold with a VSC, have increased significantly in the last year causing the new vehicle VSC market size to increase by 5.9% to $16.2 billion.

Used vehicle sales are at an all-time high level and are driving the purchase of VSCs. Older vehicles have typically outlived OEM warranties and have higher maintenance needs, factors that have a positive impact on consumer demand for VSCs. There has been an influx of late-model off-lease vehicles returning to dealers which are older, higher mileage and outside of the manufacturer’s warranty, thereby increasing the need for VSCs on used vehicle sales. Colonnade estimates that 42% of used vehicle sales through franchise dealerships and 20% of used vehicle sales through independent dealerships have a VSC attached. The estimated franchise attachment rate increased from prior Colonnade analyses based on surveys completed by Baker Tilly and NIADA.

The number of vehicles post-OEM warranty has increased to an estimated 87 million vehicles from 86 million in 2017. These vehicles were post OEM warranty and less than twelve years in service, the “sweet spot” for aftermarket VSCs. Year 2017 represents the fewest vehicles in the sweet spot in the last seven years, as a result of the low number of new vehicle sales during the recession. Our research indicates that longer vehicle life coupled with continued high levels of new car sales post-recession will generate a continued growing market for post-OEM sales of VSCs.

Increasing Number of Vehicles Off OEM Warranty

Of the 276 million vehicles on the road, 48% are eligible for a VSC. This group includes new vehicle sales, used vehicle sales and post-OEM warranty vehicles that are less than twelve years old.

Increasing Consumer Demand for VSCs 

Consumer demand for VSCs is increasing as the vehicles on the road are older and higher mileage vehicles have heightened maintenance needs. U.S. consumers are holding on to their cars for longer than ever, partially due to the higher quality of vehicles.

The average age of passenger vehicles on the road was 11.7 years at the end of 2017, up from 9.6 years in 2002. One of the reasons for the increase was the 40% drop in new vehicle sales in 2008 and 2009. The record number of new vehicles purchased in 2015 and 2016 will slow the rate of increase, resulting in an average estimated age of 11.8 years in 2020, according to IHS Automotive.

Length of Ownership

Vehicle owners are increasing their length of ownership. New vehicle buyers now own their vehicle for 6.6 years compared to an average of 4.3 years in 2006, according to IHS Automotive. Used vehicle buyers now own their vehicles for 5.5 years compared to an average of 3.3 years in 2006. This trend is due to longer loan terms and the higher quality of vehicles. By using longer-term loans, consumers can reduce monthly payments and afford more expensive vehicles. Over 85% of new vehicle and 53% of used vehicle purchases are financed, and six to ten-year loans are becoming more popular. As a result of the extended terms, borrowers are not in a net equity position until their fourth year and frequently beyond the manufacturer's warranty. To increase a borrower's ability to pay on loans, lenders include the value of F&I products in loan-to-value calculations as a borrower is more likely to stay current on a functioning car. These trends create the opportunity for higher VSC penetration.

The increasing number of older cars is creating more vehicles that need repairs and maintenance; repairs generally become more expensive as vehicles age. Many consumers are unable to afford repairs as the growth in costs is outpacing wage growth and 40% of Americans do not have $400 in emergency funds. These trends are driving demand for VSCs.

F&I Focus at Dealerships 

Despite improved auto sales, dealership margins remain under pressure, and F&I products provide meaningful incremental profitability. Dealerships have become more dependent on F&I products, as they represent 25% of total dealership gross profit compared to 15% in 2009. This trend will continue as dealership margins on vehicle sales may be squeezed in coming years. In addition to increasing vehicle sales margins, F&I products improve long-term profitability by enhancing customer loyalty and retention by setting the stage for repairs, routine servicing sales and subsequent car purchases at the dealership.

Growth in the number of older vehicles is a positive trend for aftermarket repairs. However, dealerships will face strong competition for these increased repair revenues. Longer periods of ownership take consumers farther away from the selling dealership service lane to less expensive non-dealership repair facilities. Dealers seek to counter this trend by selling VSCs and prepaid maintenance plans to increase the likelihood of drivers returning to the dealerships.


Click on the following link to read this report in its entirety: https://coladv.com/wp-content/uploads/VSC-White-Paper-January-2019-Final.pdf

Filed Under: Colonnade, contract, industry, market, service, vehicle

Stand Out From The Background Noise

By: Jeff Hatch

June 22, 2018

One day as he drove to work, Chris Johnson noticed there were so many dealerships along the road that it looked like one huge car lot.
 
“You could not tell where one began and the other finished,” said Johnson, owner of 6th Gear Auto Sales in Fort Worth, Texas.
 
Johnson, who had established his independent dealership in 2011, knew he had a better operation than most. He had grown up in the business and had been taught by his father, a successful dealer.
 
The problem was how to distinguish his operation as special among the two hundred used car operations within a five-mile radius of his store.
 
The more he thought about the competition the more he thought the best way to increase his business would be to broaden his base from the used car row of Fort Worth to the national market by way of the Internet.
 
The problem was, he found the same clutter on the web that he’d seen on the street around his physical lot.
 
The same problem of how to stand out among all the car lots trying to be heard also exists on eBay, Carfax or any other of the many automotive listing services.
 
As Johnson studied the problem it became clear that if he wanted to stand out, whether on the street or on the Internet, he was going to need a certified pre-owned product.
 
Johnson had built 6th Gear Auto Sales from the ground up. He wanted to see the business thrive and provide income for his family and his employees for a long time to come.
 
“I realized that without being able to advertise certified pre-owned, I would lose the 60 percent of the market that is currently looking for the comfort of a certification program,” he said. “Sixty percent is a large segment. Not all of them know exactly what certified is and what it means, but they know it is something special and they want it – or at least the option of having it.”
 
Johnson knew to take 6th Gear where he wanted it to go, he would have to find a certified pre-owned program his customers could afford. He also knew his options were limited as an independent dealer.
 
“There are not many national programs to choose from,” he said. “The factories have their programs but they are exclusive to franchises – and they’re way too expensive.”
 
Eventually, Johnson came across a program that was tailor-made for his operation – the NIADA Certified program.
 
“First off, it was a National Independent Automobile Dealers Association program,” he said. “Since I was already a member of the association, that made me feel confident.
 
“When I found out it was backed by Warrantech, the same people who handle General Motors CPO and Mazda’s and Bentley’s programs, I knew this would be the program for us.”
 
Johnson’s employees love the changes that have come out of becoming an NIADA CPO dealership.
 
“It has been a culture change for us,” finance manager John Frymire said. “People see the certified cars on the Internet and because there is a warranty protecting them, they don’t mind coming from a long way away to buy our cars.”
 
There has been a big change in the inventory because the cars are selling faster. Johnson said he had 90-  to 120-day turn of inventory before the CPO program – now he is at 47 days and is working toward turning his 70-car inventory in as little as 30 days as his operation becomes more known for having certified pre-owned inventory.
 
“The news is spreading like wildfire on both the Internet and in the community,” 6th Gear salesman Elvys Agreda said, “and that is good for business.”
 
Want to stand out from the background noise in the used car market? Just ask Chris Johnson how adding NIADA Certified Pre-Owned vehicles changed his business.
 
ABOUT THE AUTHOR: William Carr is a longtime auto industry veteran in sales management and training and the regional training director for Warrantech Automotive, Inc., administrator of the NIADA Certified Pre-Owned program. For more information on the NIADA CPO program, visit www.niadacertified.com/dealers.

This article originally appeared in the June 2018 edition of Used Car Dealer magazine and can be found online at: http://www.omagdigital.com/publication/?i=502218&ver=html5&p=28

Filed Under: car, Carr, Certified, CPO, market, NIADA, Pre-owned, vehicles, Warrantech, William