Video Nasties are not normally associated with the reception lounges of car showrooms but one graphic production showing in auto supermarkets in the North of England has been alarming squeamish motor finance company managers.
The film in question spreads the word to consumers about how to voluntarily terminate hire-purchase agreements by returning keys to the lender and walking away once half of the borrowed amount on the car (including interest) is paid.
By actively spreading what one finance sector executive dubbed “the VT virus”, this video guide – aided by sales staff complicity – is encouraging the premature ending of finance deals which, according to latest figures, is costing lenders nearly £100m a year.
Enshrined in the 1974 Consumer Protection Act, the VT option was designed to protect borrowers from being forced to pay excessive HP repayments.
However, Phil Stone, managing director of Black Horse Motor Finance, points out that the legislation’s origins date back to 1938 with moves to combat unscrupulous cattle dealing. He says: “What was intended to avoid farmers being lumbered with high payments on three-legged cows is resulting in finance companies taking back what might as well be three-wheeled cars.”
Truncated HP agreements, which account for most VTs, cost finance firms an average of £1,500 per abandoned vehicle according to the Finance and Leasing Association.
Stone believes the problem was triggered by the reduction of new car prices after the “rip-off Britain” campaign four years ago. “Lower new vehicle prices and knock-on damaged residuals created the climate in which VTs thrive. Minimal deposits, high advances and longer-term repayment terms compound the problem. It is not surprising that some in the trade are complicit in encouraging VTs,” said Stone.
“They want to hit volume targets via shorter replacement cycles. So the prospect of a car’s depressed future value generating negative equity makes VT a quick fix to maintain turnover and hit manufacturers’ new car bonus targets. At the end of the day the customer is likely to struggle to find equity for the next deal. It is hardly likely to engender consumer loyalty.”
James Broadhead, sales and operations director for independent lender Close Motor Finance, which operates exclusively through retailers, says he understands dealers’ ambivalence towards VTs caused by pressure to “sell as many cars as often as possible using the cheapest monthly payments as the prime means”. But for lenders it means “carrying the can and picking up the tab and pain for a flawed system”.
Broadhead is relieved that players in the sector to date have not stretched repayments towards “suicidal” six or seven-year periods to protect or expand market share at any cost.
Running an operation that accounts for 20% of point of sale motor finance, Phil Stone acknowledges the irony that independent and dealer-dependent finance providers are the main victims of the VT trend. He says: “They are part of a move to counter High Street and direct lenders’ incursions into the market with unsecured personal loans, which of course are not liable to VTs.”
Black Horse intervened early in 2001 to limit the damage of early terminations. Proposed retailer deals are monitored with the central aim of avoiding negative equity. Stone explains: “We make the customer aware of the pitfalls, but avoid alienating, penalising, or leading them into mutually damaging temptation. Re-writing the agreement on a personal loan basis is usually the favoured option.”As a result, Black Horse’s annual multi-million pound VT losses now stand at one fifth of the figure racked up during 2001. Equally, the average VT penalty per car sustained by BH is around £1,100.
Black Horse’s below average VT “hit” is partially due to being part of a diverse group including Auto Lease and Dutton Forshaw that helps ease the pain of processing returned cars.
Stone endorses the unanimous finance sector view (endorsed by the SMMT and FLA) that the VT provision should be “abolished, abandoned and erased” from consumer protection legislation following Department of Trade and Industry consultations.
He says: “It is the only solution and the ’74 act works against lenders and the consumer in the long run. We have restrictive offerings at point of sale as a result. As long as the 50% rule applies and you have low or zero deposit and extended payment terms then VTs will plague us.
“We could be far more flexible and creative with our products. It extends to not being able to consider higher risk clients because there is no equity in the merchandise.”
From the standpoint of Close Motor Finance, James Broadhead commented: “We have not solved the problem, but in our company we have stopped it getting worse. Our average loss per VT is below the nominal average and overall we are losing 25% less compared to two years ago. This is because we took a stance against longer agreements and avoided the silly numbers game.
“Some people escalate agreements from 48 to 60 months and inevitably the depreciation curve and the repayment timetable come together to destroy any equity on the car.”
He finds that more vulnerable “value brands” suffer particularly badly from the VT trend due to lower front-end prices, poor residual values and longer repayment periods. Declining to name individual car makers he cites larger dealer groups in “certain regional areas” as the main proponents of contract termination.
With 5,000 dealers on its books, Close claims to have held its nerve by preaching the gospel of customer retention through educating the consumer about shorter payment periods protecting RVs and leaving consumers with something worthwhile to trade in. If retailers want to offer 60-month terms then a minimum 10% deposit is stipulated by Doncaster-based Close.
Broadhead suggests that the VT option may not be deleted but arguably revised with a 75% loaned figure repayment termination threshold. “You cannot go on for ever with VTs because ultimately you take customers out of the market,” he said.
John Watts, CAP’s senior forecast manager, paints a bleaker picture when he says: “If the vehicle goes to full term finance companies make a reasonable margin. But if it is voluntarily terminated any time after the cut off date they stand to lose more than they make out of interest.”
Watts is also product manager for CAPCalc, a piece of software that provides dealers with the projected value of a given model, based on the assumption that its owner will opt for VT. “The whole issue of voluntary termination is not something that consumers are that clued up about, compared with all their other rights,” said Watts. “Otherwise, the problem could be even worse.”Alain Favey, Citroen UK’s managing director and architect of the innovative “VAT free” offers initiative, is custodian of what is arguably a value brand referred to by James Broadhead. But he denies VTs are any more a problem for the twin chevron-badged cars than the rest of the industry. He describes the right to terminate as “just bizarre and a nonsense” while acknowledging that “sales pressures against equivalent cars lead them (salespeople) to do strange things”.