How Uncertainty Is Benefiting Car Rental’s Bottom Line

I’m usually wary of good times. We only need to look back at February 2000, when the dot-com bubble was about to burst, and November 2007, the precipice of the Great Recession, for validation. This past year, was arguably the most profitable ever for the U.S. car rental industry. Am I getting agita that we’ll see a similar crash soon? I’m not.

Those moments in time were characterized by “irrational exuberance” that fueled market expansions on speculation over substance. Back then, no one could see the good times coming to an end. Businesses were so fat and happy they’d rent out stadiums for corporate picnics and would waste 2 million bucks on a Super Bowl ad. No one is calling any business fat and happy in this era, even those with widening profit margins.

All businesses, particularly those in travel, are plagued by daily uncertainties brought about by waves of pandemic shutdowns, disruptions in staffing, and massive cracks in the automotive supply chain. In response, car rental companies are crouched into lean-and-cagey mode. I’ll take lean and cagey any day.

That mindset takes into account tumultuous market conditions and takes a conservative approach that stresses profit margins over growth at all costs. We’ll acknowledge that car rental companies were largely forced into this position by an underproduction of vehicles. But their ability to successfully manage in these conditions is the real story.

With expected overall revenues of $28 billion in 2021, it’ll take a few years for the U.S. car rental industry to climb back to the record highs of $32 billion in 2019. But this year the industry squeezed a record average revenue per unit, per month (RPU) of $1,320 on just 1.8 million cars in service, a more than 11% increase over average RPU of $1,174 in 2019, our last normal year.

That’s a huge jump, considering the industry saw only marginal percentage point gains in RPU over the last 10 years. Operators are doing more with less, now more than ever.

Here’s what some independent and franchised operators are saying:

• “2021 will be our best year ever. By far.”
• “The T&M environment is very strong right now. We are at an all-time high of utilization. The operating environment is exceeding my expectations.”
• Regarding 2022, “I am expecting plagues of locusts or the like.”
• “I am on a growth curve and demand continues to support growth through year end.”

The “locusts” comment highlights the irony of operators realizing strong bottom lines yet with eyes wide open on the unprecedented challenges behind and ahead.

Vehicle Supply

The industry desperately needs more cars to refresh its fleet. The industry fleeted only 693,998 vehicles through November 2021, a 57% decrease from 2019. Mileage on de-fleeted risk units has reached all-time highs.

Some manufacturers have extended MY-21 production into December, thus resulting in a much shorter MY-22 build schedule. MY-22 fleet order banks are already closed for many makes and models, including the U.S. domestics. The main manufacturers still have more orders than plant production capacities and supplier parts availability. That said, operators are expecting small numbers from the domestics in January and February.

Some operators are sourcing more inventory directly from dealers, though it’s only five to 10 units when it was two to five before. And these are just replacement vehicles to help wash out older units. 

Some operators have overordered, knowing they’ll get a lot fewer units than what they ordered. Those who have ordered their normal amounts are now getting significantly less. 

At the very least, there seems to be light at the end of the tunnel, when there was none only two months ago.

“We seem to have reached the point in the supply crunch that we can at least say that conditions are not getting worse,” says Jonathan Smoke, chief economist for Cox Automotive. “However, we are not expecting big changes in deliveries and sales until we get into the back half of 2022.”

Even when new vehicle production returns to near capacity later in 2022, Smoke says, it will take time for supply to move appreciably toward normal levels. “With delayed retail purchases, extended leases, more retail sales on order, and of course starved sales into rental, the market will absorb every incremental unit that the manufacturers can provide for months,” he says.

Rental Demand

Thankfully rental demand is still high, though supply constraints get even hairier in this environment. Travel this Christmas season looks to be even stronger than historical levels, which is keeping rates 25%-30% higher than normal, according to data collected by John Healy of Northcoast Research partners.

Renters are willing to pay those rates. Other forms of ground travel (particularly Uber and Lyft) don’t seem to be able to grab that excess demand, as they’re managing even higher prices and labor constraints.

Will this strong demand continue into 2022’s peak season? New COVID variants could screw it all up, but the continued shortage of cars should keep rates buoyant.

New Vehicle Pricing

Operators should expect little to no fleet incentives for the 2022 model year. This year one major automaker hadn’t released rental incentives or pricing as of Dec. 1, which is normally July at the latest.

Net pricing is still being adjusted to reflect manufacturers’ margins and profitability. This cycle will continue until plant production capacities exceed demand, which isn’t expected until the end of 2022. 

Residual Values

The silver lining to these machinations? Record returns for de-fleeted units.

“Residuals are still on the moon,” writes one operator. “I would have thought we’d see them pull back by now.”

Those strong values will continue for the next 24 to 36 months. This will be driven by a combination of new and used supply shortages, new vehicle price increases, and lower new vehicle incentives. Rental fleets will continue to extend replacement cycles, which will evaporate the pool of low mileage used vehicles.

Labor Shortage

While many sectors are experiencing a labor shortage, such as food services and hospitality, some rental operators feel the pinch while others are relatively unscathed. They’re doing more with less, with senior employees stepping in as needed.

Smart operators are getting more aggressive with bonuses and staff perks, which make financial sense. “Anyone who walks out will cost much more to replace, if you can at all,” says one operator.

Says another operator: “If you are having a hard time hiring, pay more.” 

Supply Chain

Supply chain issues are extending beyond the vehicles themselves. Lacking transporters to deliver them to rental lots, vehicles linger in rail yards — which is costing thousands in lost rental revenue.

The dearth of replacement parts is elongating out-of-service times for routine maintenance and dealer warranty work, leaving more revenue on the table. Operators with ownership ties to body shops and those able to handle some mechanical work in house are faring better.

Inflation

With future orders essentially on hold, lenders are having a hard time setting credit limit amounts for their clients.

High car rental rates are masking most inflation worries. But if inflation persists, operators could see interest rate hikes that would cause them to pay even more for their fleet.

New Normal

“We are most likely looking at the 2023 calendar year before there is clear light at the end of the tunnel,” says one major fleet dealer. “Even then, I wouldn’t expect a return to normal in the auto industry in the U.S. — I would expect to see a new normal.” 

This dealer expects a continuation of “hand-to-mouth” allocation processes, lowered days’ supply, continued new vehicle price increases, and lowered incentives, as well as limited supply into rental.

A “new normal” is an overused phrase that also conveys agita — because it brings disruption and requires adjustments to operations and mindsets that aren’t yet known.

But that’s exactly what’s driving this lean-and-cagey attitude. A little agita is good for you; it’ll keep you on your toes.