New car sales figures for the six months between April and September (Q2 and Q3) made uncomfortable reading for many people in the UK automotive industry. 132,000 fewer new cars were registered than over the same six-month period last year, and there appears to be no end in sight to the falling market.
Initially, the industry brushed off concerns. Changes to road tax rules were said to be responsible for boosting sales in Q1 and hurting car sales in Q2 as buyers raced to beat the tax rises. Seemed reasonable.
Then in mid-April, the prime minister called a general election. That’s traditionally never a good thing for car sales, as both private and fleet buyers hold off purchasing for a few weeks to see how things pan out. Then we had the debacle of the hung election and uncertainty that lasted until the end of June.
So it was easy to write-off poor overall sales figures for Q2 as the result of external events. But you would then expect things to stabilise and bounce back to normal during Q3. Except that didn’t happen. July, August and September were all bad months as well.
Industry organisations like the SMMT have been eager to point the blame at Brexit, lack of government support, economic uncertainty, media coverage, aliens or any other external cause they can think of. But very few people within the automotive sector seem to accept that the car industry has played a large part in bringing its current problems on itself. It’s quite simple:
The UK car industry is reliant on customers buying cars they don’t need with money they don’t have. That is simply not sustainable.
Over the course of this decade, new car sales have soared year-on-year. Certainly part of this was a recovery from the global financial crisis, but it has been more than that. Private new car sales increased by 46% between 2011 and 2016, just ahead of an overall market growth of about 39% for the same period, according to SMMT figures. So where did this growth come from?
The country’s population grew by less than 4% over the same period, so it was clearly existing drivers choosing to buy new cars, rather than any massive population increase. Average weekly earnings improved by less than 9%, although real-world incomes have barely changed at all, so it’s not like we all had extra cash to flash on a shiny new car. The inevitable answer is cheap car finance in the form of personal contract purchase (PCP) and leasing (personal contract hire, or PCH) agreements.
At the start of this decade, fewer than half of private new car buyers financed their cars through the dealership, with the majority borrowing from a bank or elsewhere, or using their own savings. Today, nearly 90% of private new car buyers are financing through dealerships, which is all because of PCP car finance.
Although the PCP has been around for a long time, its popularity has boomed over the course of this decade. The government scrappage scheme in 2009/2010 was a massive boost in getting first-time new car buyers onto the PCP treadmill, providing a handy deposit that was combined with low monthly payments to put many thousands of drivers into a new car for the first time.
As the market recovered from the global financial crisis, demand for both new and used cars was strong and PCP customers came to the end of their agreements to find that they had a handy amount of equity between their car’s value and its settlement figure, which they rolled into another PCP on another new car. And as millions of car buyers have found over the last few years, once you get onto the PCP or leasing merry-go-round, it’s quite difficult to get off again.
Short-term desperation has caused longer-term problems
With PCP finance becoming more popular and customers swayed by low monthly payments, car manufacturers and finance companies began looking for ways to gain an edge and keep sales flowing. Different methods have been used to keep the advertised monthly payments as low as possible for both PCP and lease agreements, putting short-term results ahead of long-term sustainability.
Finance companies started pushing guaranteed future values (GFV/GMFV) up, even though used car values were falling due to the increased number of three-year-old cars coming back onto the market. The better the GFV, the lower the monthly payment. Of course, that meant less chance of a customer having equity at the end of the agreement, but that was a problem for tomorrow, not today.
Advertised offers have been based on ever-decreasing annual mileages. Instead of basing calculations on 10,000 miles per year, which is a reasonable average for most drivers, most deals are now advertised on the basis of 6,000 miles per year. Lower mileages mean better GFVs, which keep monthly payments down, etc. This was often not conveyed clearly to customers and many buyers have found themselves with unexpected excess mileage penalties.
The other tactic has been to stretch the contract lengths from the previous default of 36 months (three years) out to 42 months or 48 months (four years). A longer term means lower monthly payments on either a PCP or a lease. Again, it’s great for doing business today but creates problems tomorrow.
The net result of these tactics is that customers are coming back at the end of their PCP agreements (or before, when dealers have been chasing them with phantom early upgrade offers) to find that they don’t have their expected or promised equity, so they don’t have a ready-made deposit for a new car. With less deposit, they can’t afford the car they want, so they take a four-year term instead of a three-year term. That means that they are not going to be buying another car for at least a year longer than last time.
If every private PCP customer switched from a three-year PCP to a four-year PCP, some quick back-of-the-envelope maths suggests that it would cost the industry about 300,000 new car sales per year. If contract hire (both private and corporate) customers did the same thing, it would be even more disastrous. It would have a much greater impact than the various external excuses being thrown around.
Customers are still dependent on low monthly payments
Plenty of industry mouthpieces have complained that the general media is scaring the public away from buying cars with dire warnings about the perils of car finance. But those arguments don’t really stack up.
Media coverage and other warnings about PCP finance don’t appear to be putting people off. Monthly reports from the Finance & Leasing Association (FLA) show that a record 86% of private new car buyers are financing at dealers in 2017. The number of deals being done has decreased in line with the decrease in new car sales, but the amount of money being borrowed is still going up as buyers take on even higher levels of PCP debt.
It’s not like we’re seeing more buyers borrowing from elsewhere or paying cash. They’re still taking dealer finance – there’s just fewer of them about, and they are being talked into taking longer contracts so there will continue to be fewer coming back again each month for the next few years.
There have been waves of financial incentives and cheap credit thrown at car buyers to keep them coming into showrooms, but it would seem that the new car market has reached saturation point. There simply aren’t enough customers for all these vehicles. And with used car values continuing to fall, new cars are starting to look very expensive by comparison.