Funding: To rent or to lease?

Date: 05 August 2022   |   Author: Craig Cheetham

For most business users, long-term contract hire is generally the go-to option for providing employees with company vehicles. It might not be the only way, but long-term leasing offers a number of benefits including fixed price servicing, guaranteed residuals and repair and maintenance contracts, all of which help ease the pressure for both business car drivers and fleet managers alike. But there may come a time or a purpose where a shorter-term hire is required, and that's where decisions have to be made about shorter-term contract hire or rental. 

"The benefits of long-term vehicle funding, namely through contract-hire, are vast," said Christopher Caddick, head of business development at JCT600 Vehicle Leasing Solutions.

"A vehicle ordered to meet your needs, provided over a fixed term with fixed monthly costs can really support your businesses objectives around your vehicle provision. Vehicles are typically much more cost effective too, not just in the monthly costs, but by controlling the vehicle ordered for your use you can ensure your whole life cost is being considered, which delivers potential savings to both the business and your employees."

Yet in the current climate, long-term leases aren't always practical, or even viable given restrictions in vehicle availability. Indeed, many companies have arranged extended leasing agreements of existing vehicles in order to counter supply issues, which has had an impact on used vehicle supply across the entire market. 

Leases can be extended either formally or informally, the latter taking the model of a short-term lease.

An informal extension is where a vehicle goes beyond its original contract term and tends to be agreed between the user and the leasing company when there has been a delay in ordering or supplying a replacement vehicle, or a company deploys the vehicle for a couple of extra months instead of ordering a more costly rental vehicle. 

When a vehicle goes into an informal extension, most leasing contractors will bill you for the vehicle based on the number of days use, and for every day's use it will accrue additional 'contract' mileage. The benefit for the fleet manager is that it means the business leasing the car is not forced into fixed monthly billing cycles or extensions, giving full flexibility. That said, as informal extensions are billed at the same monthly rate (which accounts for the depreciation from new over the term) these should only be used for flexibility and 'plugging gaps' as they can prove costly if used for long periods of time.

A formal extension is usually used when a company is delaying decisions on replacing vehicles or to maximise the 'usable life of a vehicle' if it is below the mileage agreed on an original fleet contract. Here, the lessee will negotiate a complete recontract of the vehicle to a new contract end date, and often a different contract mileage. The leasing company will reset the final residual value and the monthly contract hire rate is adjusted accordingly. The customer, more often than not, sees a reduction in their monthly payments as they are benefitting from the lower amount of depreciation in the extension period. It's a model that's being used increasingly against a backdrop of the current availability crisis, which experts believe will continue until well into next year. 

IT and systems research company Gartner has projected a best-case scenario that sees semiconductor availability returning to normal at the end of 2022 or potentially mid-2023, depending on global production capability, but availability of used cars will take even longer to recalibrate. 

"The shortage will severely disrupt the supply chain and will constrain the production of many electronic equipment types in 2022 and beyond," said Kanishka Chauhan, principal research analyst at Gartner. "Foundries are increasing wafer prices, and in turn, chip companies are increasing device prices.

"There are capacity constraints and shortages for substrates, wire bonding, passives, materials, and testing, all of which are parts of the supply chain beyond chips. These are highly commoditised industries with minimal flexibility or capacity to invest aggressively at short notice."

In layman's terms, that means the semiconductors available will be sold to the highest bidder, and if carmakers' contracts are due for renewal, it will invariably mean higher prices for consumers in the future - another reason why longer-term hire contract agreements are generally more cost-effective to businesses if they can procure the cars.

But short-term rental should not be ignored. In some instances, it's the perfect stop-gap, but only if it is treated as just that.

"Short-term rental has always been an important tool for fleets, both in its primary function of providing vehicles for ad-hoc requirements and when vehicles are off the road, but also supplementing their long-term fleet requirements with pre-contract vehicles and retaining an element of flex on the fleet," added Christopher Caddick. "The growth in more specialist, medium-term rental providers carrying more suitable fleet stock with an eye on employee BIK, is evidence of this. However, these companies are facing the same challenges, especially around availability and increased vehicle costs."

Caddick believes that availability challenges and the knock-on effects to businesses will last well in to 2023 and beyond, leading to more demand for greater flexibility in the contract hire market and an ageing vehicle parc that's going to make it much harder for fleets to meet their emissions targets. He's urging fleet managers to look closely today at the cars they'll be leasing tomorrow in order to ensure they get the right vehicles to meet market demand.

"When considering the whole life cost, the best bet for most businesses is some form of electric vehicle," he said. "While lead times are typically quite long, if you are looking at a three or four-year lease cycle, even with a longer lead time the savings are significant. 

"Extending your existing vehicles or using a short-term rental, which although potentially costly in the interim, should - over the long-term - deliver savings."

Lease extensions don't suit everyone, though. Richard Grant is a business car user from Burgess Hill, West Sussex. As a nationwide insurance claims adjuster, he covers around 50,000 miles a year and traditionally his company replaces his lease car every two years.

"My BMW 330e came to the end of its lease and was extended by a further nine months," he told Business Car. "But when the nine months was up my employer had to be creative as the BMW had well over 100,000 miles on the clock. My new car has been on order for almost a year but still hasn't been delivered, so I had a rental Mercedes for a while, and am now using a car that belonged to a former colleague who left the business so I don't incur punitive
BIK costs."

But short-term rental doesn't come cheap, and the car rental sector itself is struggling with the challenges of higher costs and
reduced availability. 

"The car rental industry was previously able to keep prices down in the part because automakers produced too many vehicles," said Toby Poston, director of corporate affairs at the British Vehicle Rental and Leasing Association. "Rental companies would either buy excess vehicles in bulk at a discount, selling them off after their rental career ended, or set up 'buy-back' schemes with manufacturers, cutting a deal to use a car for a short time before returning it.

"Both set-ups favoured rental companies, but recent shortages mean manufacturers now have the upper hand and no longer have to sell vehicles at a loss. Paired with fuel price inflation, that means car prices will stay high and renting will remain expensive."

Christopher Caddick added: "Where flexibility is a key requirement, paying for the increased cost of a short-term rental is affordable because of its value to your business. It is important, however, to consider the whole life cost of the vehicle when looking at the costs. 

"If you are providing a car to an employee both the employee and the employer's costs could vary significantly based on the vehicle provided. When looking to use short-term rental on a longer-term basis, try where you can, to secure a vehicle which doesn't carry too high of a BIK tax burden, and it may even be worth paying a little bit more for an EV (BEV or PHEV)."

While demand of EVs currently outweighs supply, manufacturers are keen to build and supply EVs as it supports the increased momentum for the UK's 2030 'Road to Zero' deadline, which mandates that all new cars sold after the cut-off date must be capable of zero tailpipe emissions. 

With vehicle availability so sparse, it has also led some businesses to consider employee ownership car schemes, which fell out of fashion in the late 2000s thanks to grey fleet and insurance concerns but are now making a comeback thanks to government-backed incentives, many of which are targeted at helping to expand the nation's electric charging infrastructure, such as the government-supported Electric Car Scheme, which helps companies to offer their staff access to savings of up to 60% off the cost of leasing a new electric car via a salary sacrifice scheme.

Co-founder and CEO of The Electric Car Scheme, Thom Groot says: "Once companies understand that they can help their employees transition to an electric car, without taking on cost or risk, the scheme starts to make sense." But again, the challenge is availability - and it's a challenge that is not going away any time soon.

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