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Global automakers' finance arms brace for impact from coronavirus crisis

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Global automakers' finance arms brace for impact from coronavirus crisis

SNL ImageIn an earnings season not short of dire warnings across every sector about the escalating impact of the coronavirus pandemic, global automakers had their fair share of doom and gloom to offer.

Japan's Nissan Motor Co. Ltd. was the last major automaker to report results, announcing on May 28 a dramatic fall in income compared to its February forecast and echoing concerns of peers in recent weeks about the impact of the pandemic on earnings in the coming quarters. Nissan is reportedly planning to lay off 20,000 employees in Europe and some emerging markets.

On top of falling sales due to coronavirus lockdowns across most developed markets between January and March, Nissan and many other global automakers have seen first-quarter profits hit by increased risk provisioning at their captive finance arms. The fincos, which are responsible for hundreds of billions of dollars' worth of vehicle leases and loans to consumers, companies and dealerships around the world, are preparing for significant credit losses and lower resale values for formerly leased cars as the pandemic shakes the global economy. Nissan's financial services businesses collectively booked ¥30 billion in losses in the three months to March 31, it said.

Other major global automakers warn the long-term pain may be worse than expected.

"Due to the current volatile development in connection with the coronavirus pandemic, further negative effects on the risk situation in [BMW's] financial services segment may arise in the subsequent quarters," BMW CFO Nicolas Peter said during a May 6 earnings call.

SNL Image

Like other sectors, the automotive industry faces potentially plummeting demand for its products due to a sharp rise in unemployment as businesses contract or close in response to the pandemic. Many customers and companies are expected to struggle to finance leases for vehicles, a sales model that has become popular in the industry in the last decade, particularly in Europe.

Further concerns exist about a potentially sharp drop in the resale value of leased vehicles handed back to automakers when contracts end. Automakers' captive finance arms calculate lease payments for new vehicles based on the projected value of the vehicle at the end of the lease. The economic shock caused by the pandemic could result in used car sale prices sinking in the coming months due to a combination of falling demand for used cars and a flood of product into the market as lease holders choose to hand back their vehicle at the end of contract rather than buy it.

The used car market could see a further flood of product from vehicle hire companies hit hard by the pandemic's shutdown of domestic and international travel. Global car rental giant Hertz Global Holdings Inc. filed for bankruptcy May 23.

U.S. used car prices in the first 15 days of May were down 4.8% from May 2019, according to Manheim Consulting, which compiles a monthly used vehicle value index. Prices had fallen 11.8% in the first half of April compared to the first half of March, but recovered in the first half of May by 5.74% from the full month of April.

Eyes on the road ahead

The scale of provisions made by some major automakers in preparation for the oncoming challenges is considerable.

Ford Credit International Inc., the captive finance arm of Ford Motor Co., set aside $700 million in the first quarter for "COVID-related accruals … the most significant of which is for future credit losses as well as lower auction values for off-lease units awaiting sale at auction," Timothy Stone, CFO of the parent company, said during a May 14 earnings call.

Toyota Financial Services Corp., the finance arm of the largest vehicle manufacturer in the world by market capitalization, took a ¥60 billion charge in the first quarter for credit and residual value loss risk, Toyota Motor Corp. CFO Kenta Kon said during a May 12 earnings call.

Meanwhile, BMW's Financial Services division said it has made a "low three-digit million amount" provision during the period for similar risks, and warned that the "risk situation in the financial services segment could deteriorate in subsequent quarters."

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Still, automakers appear confident their captive finance arms can navigate the crisis.

General Motors Co. CFO Dhivya Suryadevara said during a May 6 earnings call that the company has stress-tested GM Financial's balance sheet under "draconian credit and residual value loss scenarios, considerably more severe than what the industry experienced during the global financial crisis."

Under a scenario of doubling both the credit loss expectations and the residual value decline in 2020 GMF's credit losses are expected to increase by between 2% and 2.5%, and residual values to decline 7% to 10% in the year GM would still not be required to contribute capital to its financing arm, she said.

Philippe Houchois, managing director of automotive equity research at global investment bank Jefferies, said in an interview that credit and residual value risks were not the most pressing issues for global automakers currently.

"In the list of worries in the industry, liquidity or return to work is more important than the accounting of earnings in the fincos. But that will be an issue in the coming years."

Payment holidays

The fincos' provision of payment holidays and other assistance to customers, which have contributed to the hit to first-quarter earnings, has delayed the onset of distress for many customers, said Houchois. Several governments, such as the U.K.'s, have introduced regulations forcing vehicle finance companies and other lenders to provide payment holidays and other assistance to customers, while some automakers have voluntarily offered assistance.

The degree to which economies can quickly recover from the impact of the pandemic, minimize the loss of jobs and get people back to work will be key to determining the fortunes of the automakers, Houchois said.

"The question is going to be more about the structural unemployment we have in three months to six months," he said. "If after three months, when those [payment holiday] facilities end, we have 20% to 25% unemployment, then we have a problem across the industry."

As of May 29, US$1 was equivalent to ¥107.7.