21 March 2014

Since September 2010, new car sales’ volumes have steadily improved. In particular, sales to private buyers drove this increase, having grown almost every month against the equivalent period in the prior year. Ultimately, private buyers buy new cars when they both need and can afford to, so an aging parc coupled with great deals has made for resurgence in new car sales among franchised dealers and their respective manufacturers.

Closer analysis of this reveals it is the surge in popularity in ‘dealer finance’ packages, encompassing PCPs (Personal Contract Plans) as well as PCH (Personal Contract Hire) and more traditional Hire Purchase (HP) agreements, which have driven this trend. Prior to the recession, as figure 1 shows, most private new car sales were funded by the consumer through some combination of cash, personal loans and trade-in. It was the squeeze on the availability and cost of consumer credit that followed the recession in 2009 that forced the manufacturers and their franchise dealers to take action to support sales.

However, from 2011 this figure began to rise dramatically, from 59% then to an estimated 74% in 2013. This also coincided with significant growth in the volume of vehicles sold to private buyers; from just over 0.8m to in excess of 1.0m units over the same period. As consumers – attracted by low monthly payments of dealer finance products such as PCPs – began to see how new cars were again affordable despite their ever-stretched budgets, a revolution happened on the forecourts of the UK as private new car buyers fundamentally changed the way they bought cars. Private buyers started to consider monthly cost as the most important component in their purchasing decision, and dealer finance packages looked increasingly appealing.

Comparing 2013 to 2012, 50,000 fewer cars were sold to private buyers funded through traditional Hire Purchase, personal bank loans or other forms of cash. By contrast, it was the growth in PCPs in particular – adding an extra 150,000 to 2012’s total of circa 370,000 – which pushed new car sales to record highs. But why the change now, given the existence of PCPs for many years?

The answer lies in manufacturers’ behaviours. Despite poor sales in the rest of Europe, short-cycle fleet has not been used in the UK as a dumping ground for unsold inventory at heavy discount – in fact, many such fleets have struggled to get the stock they want. Similarly, large cash incentives offered to private buyers in previous years have also fallen out of favour. Every manufacturer is only too aware of the cost to future sales of forcing a market with cut-price product.

Rather, manufacturers began pushing the route that disguises the value of any effective discount and ensures any vehicle sold is out of the used market for long enough that natural depreciation would eclipse the value of any hidden incentives. Enter the PCP.

Sewing up discounts in PCP deals is not entirely without cost: while 12 month and 36 month old used values tracked each other until the end of 2010, it is in 2011 – the point at which PCPs began to be pushed by the manufacturers – when 12 month old vehicle values clearly began to suffer. However, 36 month values appear to have been unaffected thus far.

This could be dangerous territory: to this point, the lack of availability of 09/59/10 plate vehicles in the wholesale market has kept values, at those ages and older, buoyant. This has, in turn, meant prospective purchasers with trade-ins have not been hurt by poorer residuals, and so guaranteeing the next crop of willing private buyers ready to convert to the benefits of a PCP.

Life is, unfortunately, never so simple. High residuals (both now and remain forecasted by many) combined with favourable interest rates has allowed the funders of PCPs to keep monthly payments low. So low in fact that it can be cheaper to buy a new rather than a nearly-new car in some cases.

Monthly payments will be on the rise.

Finance costs are likely to increase. Positive economic data coupled with falling unemployment suggests the Bank of England will raise its rate sooner rather than later. Although Sterling may strengthen against the Euro, and so permit larger manufacturer discounts, these would only offset against each other. With demand now beginning to turn the corner in the rest of Europe, the manufacturers may not need to either.

Residuals will decline in real terms as the wholesale supply of vehicles increases, driven by growth in the 3-4 year old parc. While we are not exactly expecting a crash – more of a soft landing – it is unlikely current levels will be maintained, and so the percentage of a new car’s value covered by a trade-in will decline.

It’s a one-way street.

An increase in monthly payments won’t mean consumers will stop buying PCPs. The reality is, they can’t. In opting for a cheaper monthly rate than available through a more traditional HP agreement, the buyer has essentially given up most if not all the equity in the vehicle – only the difference between the residual value and the balloon payment remains. This will make deposits harder to come by when they next come to buy a new car, perpetuating the PCP cycle – and so the revolution in private buying will not be undone.

By the time this takes effect, the economy will be in slightly better shape. With rising employment, fleet/business sales will keep advancing and so it is likely total new car sales will continue on its upward trend, even if fewer are sold to private buyers in the meantime. This is still good news for the industry.

* Author Richard Parkin is director, valuations & analysis at Glass’s. For more information see: http://www.glassbusiness.co.uk/

Tags: Glass's Guide, PCP, Residual values