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Do Automakers Care About Depreciation?

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author photo by Doug DeMuro September 2016

Hello, human readers of Oversteer, and welcome to Ask Doug, your favorite weekly post, wherein you ask Doug a question, and Doug provides some semblance of an answer -- along with oblique references to "Gilmore Girls."

If you'd like to participate in Ask Doug, you can! Just send me an email at OversteerDoug@gmail.com, or send me a note on my Facebook page. I promise I will happily read your letter and possibly ignore it, just like Luke does to Taylor, amirite?

Anyway, today's letter comes to us from a reader I've named Willy, who lives in Atlanta. Willy writes:

Hi Doug,

Since you are a prominent automotive journalist and a former industry insider, I wanted to get your thoughts on vehicle depreciation rates from a manufacturer's perspective. Do they give a crap, and if so, how? On the one hand, high depreciation rates mean higher cost of ownership for new-car buyers. On the other, it seems that highly depreciating vehicles get replaced more often than most Toyotas, Hondas and Land Rovers. Haha, kidding about the last one. Also, vehicles with high depreciation rates typically are less reliable, which means more business for dealers, especially after the warranty period.

Anyway, hope to hear your thoughts on the subject!

Regards,

Willy from Atlanta

Willy has sent an excellent, well-researched, thoughtfully written email, and I believe his brilliance especially peaks in the first sentence, where he calls me a prominent automotive journalist. Yes, Willy, I am a prominent automotive journalist, in the sense that I have a YouTube channel where people routinely tell me my tongue is too large.

Anyway, the answer to your question is that automakers really, really, really, really care about depreciation, but not for the reasons you've suggested. It's all about leasing.

In order to help you understand why, first let me explain how leasing works. When you go to lease a car, you are essentially paying the vehicle's depreciation over a period of 2 years, 3 years or however long your lease is. In other words, your lease payment directly ties in to the vehicle's depreciation. A vehicle with low depreciation will have a low lease payment. A vehicle with high depreciation will have a high lease payment.

The result is that the automakers whose cars have low depreciation rates have lower lease payments, and more people lease their vehicles. The automakers with high depreciation have to subsidize their lease payments in order to make them competitive, which is tremendously expensive. This means that if you were a car company, Willy, you would want your depreciation to be as low as possible.

This is the reason why BMW -- and other manufacturers -- offer free maintenance on their vehicles: If you offer maintenance for free, you can be almost certain people will take you up on it, and then your stock of used cars has always been well-maintained, which improves resale value.

Of course, it isn't always so simple. If you have a contract with union workers at your factory that says you must employ X number of workers over X period of time to do X amount of work, you would rather have them building a car that you can sell for no profit than be paying them to stand around, trying to find a Snorlax in the machine shop. So you sell thousands of cars to rental-car firms, and you hurt your resale value, but this is probably cheaper than not building these cars at all.

Naturally, I've oversimplified this. The truth is that automakers figure all of this out with the help of economists, mathematicians and data experts, nearly all of whom believe that Snorlax is a competitor to Nyquil.

But as you point out, automakers care about depreciation for other reasons. They don't want to be seen as a brand with a high cost of ownership, because then people will start shopping the competition. And poor resale value is often a sign of low desirability, which means that automakers with resale-value problems should probably be checking their product lineups to see if they're actually selling anything people want to buy.

But that's your answer, Willy: It's all about leasing. Leasing and Snorlax.

MORE FROM OVERSTEER:
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Do Automakers Care About Depreciation? - Autotrader