ATLANTA — Findings contained within Manheim's annual Used Car Market Report insisted buy-here, pay-here dealer sales rebounded faster than the overall market last year.

Why?

Officials believe that although credit loosened in the subprime segment in 2010, BHPH dealerships often were the only places customers with FICO scores below 570 could buy vehicles.

Manheim couldn't cite precise statistics on the size of the BHPH market. But the report offered anecdotal evidence that suggested this segment grew last year and accounted for about 13 percent of all used-vehicle financing.

"The challenge for BHPH dealers, especially those new to the business, was not finding customers, but what it has always been — managing risk by correctly pricing loan terms and then monitoring collections and repossessions to minimize losses," Manheim officials explained.

"BHPH always generates high credit losses," they continued. "That is simply the nature of a business dedicated to customers who cannot qualify for conventional loans. The ability to evaluate customers against criteria other than credit scores, which are often not predictive of losses in the BHPH segment, is the most important component of success."

Manheim emphasized newcomers to the business often underestimate the importance of the mechanical condition of the vehicles they sell.

The report noted BHPH customers often default on a vehicle that suffers a major mechanical breakdown unless the dealer picks up the cost of the repair. Manheim made some suggestions that might help curtail contract defaults.

"Seasoned dealers carefully select inventory by relying on inspection reports and their experience with specific makes and models," officials pointed out. "Vehicles are reconditioned at the auction, or by the dealer, to improve the odds that they will operate without a breakdown during the life of the contract."

Manheim reiterated BHPH dealers often acquire much of their inventory from auctions where they buy small and midsize sedans and affordable light-duty trucks. The company added end-of-service commercial fleet vehicles also work for BHPH dealers carrying higher value inventory.

"These vehicles have the advantage of having been well-maintained, and are relatively young in age, despite their high mileage," officials stressed.

Another BHPH dealer element Manheim touched on in its report was that commercial fleet units as well as used vehicles from other sources were more expensive for these stores to acquire last year and had more wear.

"As a result, reconditioning expenses for BHPH dealers increased, reducing gross margins," Manheim surmised.

Auto ABS Market Functions Properly

In the second half of 2008 as numerous credit markets froze, Manheim reported that new issuance in the asset-backed securitization market for automobiles slipped to less than $3 billion in both the third and fourth quarters.

In 2009 and 2010, officials determined auto ABS issuance rose to nearly $15 billion per quarter.

"Although that was far below an average issuance of more than $20 billion per quarter in 2005 and 2006, the need for ABS funding was also reduced," report authors calculated.

"For one, new-vehicle sales averaged only 11 million units annually between 2009 and 2010, whereas in 2005 and 2006 sales averaged 16.8 million new units a year," they continued.

"In addition, as banks stepped up auto lending and increased their share of retail financing, that meant more auto loans were deposit based-funded as opposed to ABS-funded," report authors continued.

Manheim thinks the significant reduction in required credit enhancements is the most important change in auto ABS funding over the past two years from the finance companies' perspective.

"Given the better portfolio performance of recent vintage loans and high recovery rates, it is likely that total ‘all-in' funding costs for lenders will remain relatively low," Manheim stated.

Households Improve Balance Sheets

Manheim went on to point out that consumer households entered the recession in an over-leveraged position. Officials calculated that because of the collapse of the housing market, net worth quickly eroded.

Since then, Manheim insists consumers have reduced debt levels.

"To be sure, much of that reduction was achieved by simply walking away from mortgages through foreclosure and bankruptcy or by lenders writing off uncollectible credit card balances," officials conceded.

"But households have also increased their savings rates, and they have certainly avoided taking on new credit card debt," they continued. "After the passage of time, this will start to show up in an improved credit profile for the typical dealership customer."

Manheim emphasized this trend becomes significantly important because, "What many dealers considered tight lending in 2010 was, in fact, simply a reflection of the poorer credit profile of their customer base."

Good F&I Practices Take on Added Importance at Dealerships

Manheim highlighted that auto lending goes through cycles.

"It is the dealerships that recognize and respond to those changes that succeed, or in industry terms, those who know how to ‘work the deal,'" the company explained.

"If lenders are requiring more up-front money from the customers — and most lenders do today — F&I managers and salespeople must accept and meet that standard, rather than simply submitting applications that will be rejected," the report went on to note.

Manheim pointed out that especially in a tight credit environment, full and accurate documentation is critical.

"Dealerships with strong F&I departments are not disturbed by this since, for them, it is standard procedure," officials added.

Manheim also discovered a year ago many dealers complained that the customers hardest to finance were the near-prime ones. The company believes the problem might stem from salespeople not properly setting customer expectations.

"Many of these customers previously had prime credit and were thus unprepared when more up-front money was requested or they did not get the finance rate they expected," Manheim stated.

NIADA Perspective on Consumer Financial Protection Bureau

Manheim's report also included a question-and-answer session with Anthony Underwood, president of the National Independent Automobile Dealers Association. Part of this segment asked Underwood to share how the National Independent Automobile Dealers Association is monitoring more regulations that might come from the Consumer Financial Protection Bureau — a new federal department created by sweeping financial reform.

"We have encouraged members to stay connected with one another by attending local and national meetings and by contacting their legislators on issues that could impact our business — in particular buy-here, pay-here," Underwood explained.

"The NIADA website includes a blog where dealers can find information on local and national issues and answers to their specific questions," he added.