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Leasing takes a lashing as Detroit cuts costs

Image: 2008 Liberty sports-utility vehicles
Unsold 2008 SUVs wait for buyers at a Chrysler-Jeep dealership in Centennial, Colo. Chrysler's leasing arm said this week it will stop financing leases to limit the size of its portfolio.David Zalubowski / AP file

The U.S. auto industry passed another bleak milestone Thursday as Chrysler stopped writing leases on new cars and trucks, marking the end of an era that allowed many drivers to enjoy cars they probably couldn’t really afford.

The nation’s No. 3 automaker stunned the industry last week when it announced its financing arm would stop writing new leases beginning Aug. 1. The financing units of rivals General Motors and Ford quickly followed suit by saying they would either cut back or charge more for financing cars and light trucks.

The reason: Auto financing companies are losing billions, largely because of the rapidly declining value of pickup trucks and sport utility vehicles that have fallen out of favor due to high gas prices.

“This is the perfect storm for our business and we see no signs of it blowing over,” said Robert Hull, chief financial officer for GMAC Financial Services. Hull spoke to journalists and financial analysts Thursday as the company, which finances houses as well as General Motors vehicles, announced a loss of $2.48 billion for the second quarter.

The move by the big leasing companies doesn’t mean that leasing, which accounts for about 20 percent of U.S. automotive transactions, will come to an immediate halt. But options will be much more limited for many potential buyers.

Car leasing looks like it’s the latest victim of the credit crunch. Just as the excesses of the housing bubble allowed Americans to recklessly borrow too much money and buy houses they couldn’t really afford, car leasing has let Americans own and drive cars that they normally couldn’t afford to buy.

Car leasing certainly has its advantages — a low down payment, typically smaller monthly payments than on a car loan, the ability to drive a car you wouldn’t normally be able to afford to buy and the luxury of trading it in for a new model every two or three years.

The downside of leasing is that, despite monthly car payments, you don’t own the car at the end of the lease, although you do normally have the option to buy it at a depreciated price.

For automakers, the advantage of leasing has been the ability to boost their sales numbers. An automaker agrees to buy back a car at the end of its lease at a set price. That’s fine when vehicle values are relatively steady, but if they take an expectedly sharp decline the automaker is left with a significant loss on its books and a lot of used cars that will further depreciate vehicle values if they are unloaded on the market.

That’s exactly what is happening.

Ford, for example, saw the resale value of its SUVs and trucks fall 25 percent or more last month, and it reported its worst single quarter in history last week, posting a second-quarter loss of $8.7 billion in part due to financing losses. The automaker had to set aside $2.1 billion to cover the plunging residual value of the trucks and SUVs it has under lease.

Erich Merkle, an automobile consultant at consulting firm Crowe Chizek and Co., points out that leasing is yet another area where the Japanese automakers hold an advantage over their U.S. counterparts.

Leasing is far more economical for Toyota and Honda because the residual value on sedans like the Honda Civic and Toyota Camry are rock-solid, compared to vehicles like the Ford F-series truck and Chevy Silverado pickup, he said.

“[Toyota and Honda]’s mix favors the smaller cars, the midsize sedans. Although Toyota does have some exposure to large trucks ... it’s nowhere near as much as the Big Three,” he told CNBC.

Backing out of leasing would seem to assure the continued loss of market share from the Big Three to Toyota and Honda. But the U.S. automakers are faced with choosing the lesser of two evils, explains Aaron Bragman, senior automotive analyst at consultancy Global Insight.

“Yes, they will lose some sales and market share, but they’re already losing billions of dollars in bad leases,” he told CNBC. “So with a limited amount of capital and lenders no longer willing to fund a lot of these leases, it’s really pretty much the only option they have.”

“Car dealers are still able to offer leases through independent lenders, but the area that automakers are looking to get away from is trucks,” he continued. “The resale value for trucks is dropping so dramatically that they are really not making any money on those vehicles.”