In recent weeks, lenders have moved to ensure business survival in the automotive sector, prioritising a range of critical areas. Here, Deloitte partners Vivian Pereira and Nick Smith explore these priority areas in more detail and suggest actions that may need to be taken.
COVID-19 created a set of unprecedented circumstances with an impact to economies all around the world, affecting businesses and consumers. Containment measures have been brought in by governments to curtail the spread of the virus so that health services can cope. The hope is that once there is confidence that the spread can be contained and then managed, an easing of the lockdowns could follow allowing for a restart to the economy.
The automotive sector has been hard hit – new car production has halted across Europe and buying new and used cars has come to a standstill as dealers have been required to close showrooms and cars cannot be delivered.
In recent weeks, lenders will have moved to ensure business survival, prioritising critical areas such as:
- supporting staff, customers and government efforts to cushion the economic impact of the pandemic
- confirming resilience of key internal operations including for example, a shift to remote working for key employees
- ensuring sufficient liquidity
- mitigating financial impact (e.g. curtailing operations, cost cutting)
In this article, we explore some of these priority areas in more detail and suggest actions that may be taken to address them.
Though crises are often very challenging times, they can also be a period for rapid innovation and change. In tackling the immediate need to service the customer base, companies can also position themselves to prepare for a different future than previously planned.
Supporting customers experiencing financial difficulty
According to data from the FLA (Finance and Leasing Association), some 6.6 million new and used cars were sold on credit between April 2017 and December 2019. Most of these contracts will still be live. Delinquency rates within motor finance have historically been low, meaning that large teams and bespoke systems to handle distressed customers have not been required.
However, this has all changed in recent weeks with many organisations experiencing a significant increase in customers reporting payment difficulties. The government and the FCA (Financial Conduct Authority) have recently introduced a range of targeted temporary measures to assist consumers who are facing payment difficulties during the COVID-19 pandemic.
The changes apply to companies which have commitments under some of the most commonly used consumer credit products such as personal loans, overdrafts and credit cards. The FCA has also proposed similar measures covering consumers with commitments under motor finance agreements. This is expected to be finalised by April 24, 2020.
Companies should develop a clear customer communication strategy so that they can engage with customers consistently and offer appropriate support.
Some banks and credit card providers have proactively reached out to customers directly to ease concerns, help identify vulnerable customers and support customer confidence. Others have used their websites to address customers, highlighting the help that is available and inviting those in financial difficulties to get in touch.
During these exceptional times, the FCA expects companies “to provide strong support and service to customers”, and to treat customers in financial difficulty positively and sympathetically, fairly and with forbearance. The Financial Ombudsman Service (FOS) reiterated this message, noting that it expects car finance providers “to listen and proactively look for signs of financial difficulty”.
Assessing the payment horizon
Lenders may not have the relevant data to assess the current financial circumstances of their customers. Companies will need to make appropriate enquiries and obtain additional information from customers to gain a proper understanding of their circumstances. Some of the information needed will be forward-looking. Obtaining a holistic view will enable case handlers to treat customers fairly and take account of the particular needs of those who may be vulnerable.
The crisis has impacted borrowers across the credit spectrum. It presents an opportunity to engage with customers in circumstances when they would be amenable to providing up-to-date information about their financial situation and also of possible future changes in their circumstances that could impact on affordability. Companies can also take steps to review compliance with recently introduced regulatory requirements on responsible lending and assess the adequacy of policies and procedures and methodology for assessing affordability.
In its proposed guidance for lenders in the motor finance sector, the FCA expects customers who are seeking payment deferral due to financial difficulties caused by COVID-19 to be given a three month payment freeze. However, lenders are free to assess whether payment deferral serves the customer’s interests. Alternative assistance to three-month deferral can be provided if it would be more appropriate in the particular circumstances and was considered necessary in order to treat the customer fairly. For example, granting a payment deferral for a shorter period than three months where the expected loss of income is for a shorter period.
Companies will need to develop a well thought-out plan (including the firm’s response strategy) for undertaking the work. The plan should address immediate challenges such as scaling up existing collections and customer contact teams, ensuring sufficient depth of relevant expertise, creating a team environment and collaboration during the lockdown, enabling systems access for remote working and mitigating risks from data security. Deploying smart technological solutions could be an effective way of addressing some of the resourcing constraints which have arisen as a result of the lockdown.
With the government and regulators focused on ensuring that customers whose finances have been affected by the crisis are supported, this will be an important exercise for all companies. A well-handled response will pay dividends. Lenders can create significant customer goodwill while retaining good profitable business. Considered and sympathetic engagement with customers would avoid adverse publicity and reputational damage. Careful case handling could allow recoveries over time and ultimately mitigate losses.
Contracts maturing during the lockdown
Companies will also need to prioritise engagement with customers whose Personal Contract Purchase contracts (“PCP”) and lease arrangements mature over the coming months. Companies should explore extension of current contracts at lower monthly rates or usage-based payments methods to avoid cancellations. The goal is two-fold – to retain customers who could otherwise be lost and reschedule maturities beyond the short term to avoid having to offload cars into a second-hand car market that may not be functioning normally or is hit by oversupply depressing prices.
The most pressing batch will be customers with contracts that matured in late March and early April. Assuming that new contracts had been agreed involving replacement vehicles, these are unlikely to be generating any revenues for lenders as the replacement cars will not have been delivered due to the lockdown. As a holding strategy over this period of disruption, companies may seek to enter into short-term lease arrangements with customers over cars that have come out of contract but not been collected from them. Companies may also seek to prepare personalised retention offers for customers on contracts expiring from May onwards.
Impact on funding arrangements and securitisations
Lenders will need to review existing agreements to understand how the crisis will impact their funding arrangements and liquidity. Measures taken to assist struggling customers could have a knock-on effect on some of these arrangements including for example, securitisations of customer receivables.
Many securitisation deals contain triggers designed to protect investors in the event of a downturn in performance. If the level of defaults starts to rise over the coming months, these triggers could be breached, forcing changes. The parties to these transactions will need to contemplate making changes such as managing exposures to higher arrears and agreeing to amend the terms of the deals; this will help issuers to cope with a wholly unexpected stress scenario and to work collaboratively through the operational challenges that have arisen in these transactions. This may prompt a re-evaluation from banks and non-captive lenders who may begin to see the asset class of loans differently and look to other sources of income.
Supporting the dealer network
Car dealerships are likely to be experiencing severe liquidity pressures as the lockdown has put a freeze on selling cars. As dealerships are the main channel for selling cars, their financial well-being is critical to the recovery that will follow once the current restrictions are relaxed.
Most dealerships will have sought to obtain support through various government funding initiatives. However, some of these may not yet be up and running meaning that lenders should actively engage with dealerships at this time to assess what further assistance they may need. Various measures can be taken to help:
- review existing financing arrangements and consider deferral of interest payments to assist dealers’ cash flow
- adapt payment terms to assist with short-term working capital management
- explore viability of new short term loans for stabilisation purposes pending government support schemes coming on stream
- evaluate the impact of the freeze in the second-hand car market on residual values and stock write-downs and consider mitigation strategies.
Looking forward to the time when markets return, OEM (Original Equipment Manufacturer) groups and captives jointly with dealerships should begin to examine ways of stimulating demand. Given the severe impact of the crisis on the automotive industry, a collaborative approach will be particularly important to overcome challenges in the short term. For example, marketing campaigns designed to clear existing stock of new cars could be organised with support from OEM groups. As sales of allocated existing stock vehicles increase, dealerships will seek to replenish showrooms to meet a potential uptick in market demand and floorplan stocking loans will assist them in managing their liquidity. Lenders should also explore negotiating new long-term agreements with dealers to inject confidence in the marketplace.
Accessing support channels
The UK government has committed to doing ‘whatever it takes’ to support businesses and individuals during the crisis. Access to emergency funding measures may be required to support implementation of some of the proposed measures covered above.
A summary of the latest funding initiatives can be accessed by clicking here.
* This article first appeared on the Deloitte website. Vivian Pereira (left) is a partner in the banking and capital markets group at Deloitte. He specialises in regulatory remediation exercises including mis-selling reviews involving retail and SME customers. Nick Smith (right) has almost 20 years of consulting and technology experience. He works with clients to help them shape and deliver technology-enabled change programmes, primarily focusing upon the automotive and manufacturing sectors.