SECURING STRATEGIC ADVANTAGE VIA NEW MODELS OF CAPTIVE FINANCE
Since Henry Ford was building his Model T, vehicle manufacturers have recognised the need to offer credit facilities to their dealers and loans to potential customers to facilitate the sale of their vehicles.
Finance provision via external partners or via internal ‘captive’ business units is now an essential part of every OEM’s activities and a critical component in the delivery of their long-term strategy and near-term operational targets. The last two decades have underlined the multiple strategic benefits that captives bring to their OEM owners, especially during a financial downturn or crisis. These include a positive impact on vehicle sales and revenues, improvements to customer retention and dealer sustainability, and more recently, as a catalyst for the development and provision of new mobility solutions.
An effective and proactive in-house financial services activity is now a mandatory requirement for all OEMs in the automotive, equipment and agricultural sectors, with the most successful developing sophisticated global operations that are responsible for an increasing proportion of the OEM’s value chain – over one third of all OEM profits are ‘captive’ generated – and a material element of their underlying share value.
Most of the larger OEMs now have some level of ‘full captive’ activity, with a small number, notably the three major German auto manufacturers, benefitting from a strongly coordinated global in-house capability. However, many OEMs are still reliant on a patchwork of diverse business entities, using a variety of in-house solutions, joint venture arrangements, ‘white label’ and outsourced models. These arrangements rarely give the OEM the flexibility or control they need in order to exploit synergies, realise opportunities, or respond to urgent operational challenges in the same way a ‘full captive’ would.
Controlling one’s own captive activities removes a dependence on a third-party provider whose strategic goals and operational priorities are highly unlikely to fully align with those of their partner OEM, especially in today’s challenging and transformational environment. Replacing marketing arrangements or joint ventures with in-house captive capabilities brings with it a host of strategic and operational advantages, including control over business priorities, reduced time to market, residual value protection, more consistent branding and customer messaging, all of which help support vehicle sales, improve customer loyalty and ultimately generate higher revenues.
So why doesn’t every OEM build and operate their own captive business?
Until now there have been three critical constraining factors that would have to be considered and then overcome: internal capability, scale, and the ‘equity inhibitor’.
The first challenge, the need for internal capability, revolves around the OEM having the necessary in-house expertise and knowledge to build and manage a complex financial services operation. Where this capability is missing, it can be ‘bought in’ via consultants and hiring experienced individuals to build and run the enterprise. Of course, there is much more to building an effective captive capability than a few smart hires or benefitting from the previous knowledge and experience of consultants, but it is a necessary first step.
The second issue relates to the scale of the business. Scale, in terms of the volume of vehicle sales and hence the potential financing opportunity, has a direct bearing on whether an OEM can build a positive business case to justify the infrastructure investment needed to implement an in-house financial services capability. The complexity of building the systems and processes to provide consumer loans and leases, dealer stocking, fleet, and mobility services, is significant. Overlay that with the challenges of financing the new captive’s balance sheet while meeting an increasing array of regulatory, compliance and risk management requirements, then it quickly looks like a task that should be placed in the ‘too difficult’ pile. Historically, at least.
And even if these two primary challenges can be addressed, building a captive and supporting its growth requires a substantial amount of capital to support the new entity’s balance sheet growth.
The ‘equity- inhibitor’ is a challenge even for large mature captives, as well as any OEM wanting to transition from a reliance on third parties to building and operating their own captive activities. This is a particularly pertinent issue at a time when many OEMs need their refinancing capacity to address COVID-19 connected cash flow issues or would rather prioritise capital investments in electric and hybrid technology over building and supporting a captive balance sheet. In more developed markets, captives are reducing their asset-based activities and are growing their mobility services offering products such as long-term rental, car sharing, and flexible, all-inclusive subscription models, as vehicle usage rather than ownership becomes more prevalent. This shift will provide some relief in terms of the ‘equity-inhibitor’ but creates other challenges, such as the need for urgent operational transformation.
But solutions now exist to address all three of these potential inhibitors, allowing even relatively small OEMs to reduce the strategic advantage of their competitors’ captive capability. With the advent of modern flexible IT platform and component solutions (from both existing software providers and new fintechs) workflow automation, and the potential created by blockchain developments, AI, machine learning, and robotic solutions, we are now entering an era where it is possible to develop a full captive capability at a much lower cost and in a much shorter timeframe. Easy to integrate asset management software solutions, customer centric services and agile contract management applications, allow a successful business case to be developed, even by smaller OEMs.
We are undoubtedly entering a period of significant transformation in the automotive landscape. So where does this leave the smaller players in the market who, up to now, have relied on their outsourced partnerships to provide their customer finance offers, dealer funding and other critical services?
Will a small OEM be able to persuade their financial services partner to promptly respond to the changing demands of their customers and the actions of their competitors and introduce significant, potentially costly modifications to their systems, products, and services?
Do they risk being left behind as those OEM competitors with their own captive capability respond more effectively to the changing expectations of their stakeholders?
Or is now the time to consider a new approach, a different model, leveraging new technologies to develop an owned solution that delivers a critical strategic capability?
Fancy an informal chat over coffee about how Elevenci can help you shape and deliver a full captive capability built around flexible IT solutions and streamlined omnichannel processes?
No fee, no obligation, no fuss – value is guaranteed.