The summer season is in full swing and you're ready to rent cars - but have you seen that used car market? Auction prices are higher than ever and dealers are scrambling for low-mileage used units - the cars you're renting right now.
It's the perfect car rental Catch-22: You're sitting on gold, yet you can't cash in because replacing your current fleet with new inventory is a questionable proposition at best. So what are car rental companies doing? And how long will this last?
"We have some [rental operators] that were selling their cars for $500 to $1,000 more than the price they bought from us a year ago," says Mark Eckhaus of Eckhaus Fleet, a supplier to auto rental companies. "We have guys that have gone to the auction and from week to week the car is $800 more."
Matt Rawlings of City Auto Rental in Cleveland, Ohio, reports similar pricing. Rawlings bought a 2009 Kia Rio at auction in December for $7,400 that was fetching $10,000 in May. Similarly, a 2010 Chevy Aveo bought for $9,200 was going for $11,000 five months later. That's right, a used Chevy Aveo.
The numbers are not anecdotal. In May, a straight average of auction prices for rental risk units remained above $14,500 for the third consecutive month, according to Manheim auction data. The Manheim Used Vehicle Value Index stood at 127.8 - the highest it's ever been.
But if you sell, you have to replace those cars. And there isn't much out there. After bankruptcy, the auto manufacturers had found religion with their new business model of building to demand and regulating sales to the rental market. Then the Japan crisis forced both Japanese and domestic manufacturers to cancel orders to rental and commercial fleets.
"We've been advising people that if you have cars on order, and you think you're going to get them, don't sell what you're renting yet," Eckhaus says.
David Wilson, a Thrifty licensee in Nashville, Tenn., says that while he would like to sell into this market, he is staying put for now. "We decided because of the uncertainty about orders, we'll turn off our sales and hold our fleet through the summer, hoping that the market will hold and we'll sell for a profit later this year," he says, adding, "Though it's tempting to keep selling right now, we're in the business of renting cars."
Jack Vercollone of VERC Rentals in Massachusetts was able to replace canceled orders through purchases from other manufacturers and fleet dealers. "We're paying more money for them," Vercollone says. "But there's an opportunity on the flip side to sell some of our small stuff. We're willing to go with tighter utilization now if we can sell those cars at a good profit."
"We had a bunch of orders canceled but I think we'll be all right, and yes, we're going to have to run some cars longer because of that," says Charlie Mullen of ACE Rent A Car, regarding the company's 12 non-affiliate locations. Mullen - and other operators - report that early summer demand has been soft, mitigating some of the supply issues. "All things in balance, we're going forward with a smaller summer rental fleet and we'll have higher rates," Mullen says.
Tough on the Little Guy
While holding inventory is viable for some, the depleted used car market is not helping the independent RACs, such as Rawlings, who rely on the auctions to stock their fleet. "It's costing me $2,300 more just to buy the exact same car I bought five months ago," he laments.
This hurts his floor plan as well as the business model. "I've got to go out and borrow more money just to maintain the same fleet size, or come up with more capital somewhere," Rawlings says. "I have inexpensive cars and an inexpensive rate. It's hard to maintain that rate when your costs go up by $2,000."
Moreover, the cars Rawlings traditionally bought with 15,000-20,000 miles now have 30,000-40,000 miles and require more recon, including tires. "It's costing me more to put those cars on the road," he says.
On the back end, Rawlings has adjusted his remarketing strategy. He moves most of his metal from his own lot. He has a website to advertise his inventory and has arranged for flexible financing for buyers with less-than-stellar credit.
"I've picked up my retail selling efforts instead of taking them to the auction," he says. "I'm doing a better job of letting my renters know I have cars for sale."[PAGEBREAK]
Working the Short Season
Rental companies that serve a short summer tourist season are also squeezed into a short supply scenario. "Holding fleet isn't really the answer for us in most cases," says Randy White, CFO of Corpat Inc., a National and Alamo licensee serving the northern Rocky Mountain states. Corpat needs a much larger fleet for the summer season, though holding program cars longer can cause problems with the program mileage caps.
White says his group has been dealing with cancellations, but worked the supplier contact list hard for replacements. They got the cars, but in terms of price, they had to grin and bear it. "There's not as much room to negotiate these days," White says. "We needed the cars."
After ordering, it becomes an issue of timing. The goal is to get out of the cars when the season ends, but minimum hold periods may force operators to hold cars longer than they actually need them, White says. And with cities spread out over hundreds of miles it becomes a logistics problem to move them to auction.
"We're not standing too bad on numbers, but they've been slow in getting here," White says. "If the cars come late, we may have all these relatively new cars we don't need in October and November."
The Fuel Wild Card
As evidenced by the skewed pricing for economy cars, high fuel prices are once again throwing a monkey wrench into the market - but to what extent?
"This market is not overreacting like we saw in 2008," says Ricky Beggs, managing editor of Black Book. "This isn't uncharted territory - it's not disrupting the whole industry as it did before."
Tom Kontos, chief economist for Adesa, says auction values of trucks and SUVs have softened in the face of firming prices in other segments, especially versus compact cars. However, "The supply of SUVs and pickup trucks is not nearly as skewed as it was in 2008," Kontos says. "Back then there was almost a boycott of buying SUVs."
While the demand side is lifting compacts and economy cars more than trucks and SUVs, "The rising tide of tight supply is lifting the values of all ships," Kontos says.
With large car values still somewhat depressed relative to other segments, some are adopting a buying strategy that goes against conventional wisdom: "I can buy bigger cars for about the same price I can buy these smaller cars for," Rawlings says, "and rent them for more."
Fuel prices peaked in May, according to the U.S. Energy Information Administration's Short-Term Energy Outlook, and will continue to fall - though not to the extent they did after summer 2008, leading into the recession.
Nonetheless, falling fuel prices may be starting to impact the wholesale market. "We've already seen the bubble burst on our Priuses," says Vercollone, who saw gas prices drop in his area for three weeks in a row. "They peaked three or four weeks ago (in May) and now they're starting to come down. They're about $1,000 less now than we were getting for them, maybe more." [PAGEBREAK]
The Tipping Point
"When I talk to people about what the used car market will be like in the next eight months, I ask 'how can it possibly be any higher?'" says Dave Arney of VRCG, a consulting firm and supplier to the rental market. "The used car market, I believe strongly, has topped out and is on its way down. If you can sell cars, sell them right now."
Arney points to the recent months' hyper appreciation of cars as a market aberration. Arney, like others, sold a few thousand cars to rental fleets last fall that were worth more six months later, even with 15,000 more miles on them. The market can't sustain those prices, Arney contends.
"There was sort of a panic [in mid-April] when prices peaked," Arney says. "Large rental companies gobbled up thousands of used cars at auction that would have gone to dealer lots. Dealers grabbed what they could as well. The Japan crisis, and then $4 gas, only exacerbated the situation."
But high prices are already starting to affect demand as dealers are having a hard time moving overpriced used vehicles. May's used car sales dipped about 1.4 percent compared with the same month a year ago, according to data from CNW Research.
Joe David Pacifico of Pacifico Marple Ford Lincoln in Broomall, Penn., reports a case where a dealer paid "well over invoice" for low-mileage Ford Fiestas. "There's not a lot of markup in those cars as it is. You pay the freight and the sale fee and you own the car for practically MSRP. And they're used. Who's buying them?"
"There is no doubt the bubble will burst at some point this year," says Art Spinella, president of CNW Research. "As soon as the Japanese new vehicle supply issue is resolved - perhaps by September - pressure will be off dealers to concentrate heavily on used models, which is the case right now."
With new car supply more readily available, consumers can reject those high used car prices. "Eventually some of the shoppers who would have bought a used car will buy a new car," Kontos says.
Time to Sell
By the end of May, car rental companies were keeping their cars 1.5 months longer than they had in January, according to CNW Research. At the same time the average mileage of rental risk units sold at auction moved above 40,000 miles, according to Manheim Consulting.
After the summer, car rental companies will be looking to dump those units, which will have higher mileage than usual, putting downward pressure on prices.
Spinella expects that as soon as supply of new Asian-built product comes back online, retail used values will fall 8 to 14 percent compared with the beginning of June.
"I'm worried about placing orders for the fall," says Wilson of Thrifty Nashville. "We'll need to unload the cars we have now, which could get brutal."[PAGEBREAK]
Looking Long Term
When looking long term, a bubble bursting may be the wrong analogy. That outlook may be more akin to an air mattress deflating - owing to a shortage in off-lease volume.
The volume of lease originations fell by more than 25 percent in both 2008 and 2009 year over year, reports Kontos, when some players pulled out of the market. Off-lease supply will bottom out in 2012, which means "We can expect to see the beginnings of a recovery in off-lease volume in 2013," Kontos says.
How then should any car rental operator play this roller-coaster market? Sound advice may be to simply stick with what you do best.
"Three years ago the market was atrocious, and there was nothing we could do about it. We had to keep going and wait for things to rebound," says Rick Mullinax, executive vice president of Midway Car Rental.
"We're going about our normal activity because we realize that there is a bubble, and even though car prices are high, they're going to come back down," Mullinax predicts. "I prefer to look at what our operating profit is without reintroducing last year's car sales to this year. Without those gains, are we still making more profit?"
"There are things I can't control, but I can control my employee costs, the types of cars that I buy, to a limited scope my rates and the level of customer service we provide," Mullinax says. "We're running a marathon, not a 100-yard dash."