Surge of used cars stings

A rising supply of used vehicles, particularly late-model cars and trucks coming off lease, already is hitting some companies in their pocket books.

That supply -- and the number of companies affected -- will continue to grow. Analysts predict the number of off-lease vehicles entering the used-vehicle market will rise steadily through at least 2020.

Although most analysts say the market can absorb the increased volume, softer used-car prices reduce the value of shoppers' trade-ins, which may make it more difficult for consumers to afford new vehicles' rising sticker prices. Some analysts, therefore, warn that higher used volumes, if accompanied by overproduction of new vehicles, could be a catalyst for increased sales incentives, which would hurt automakers' profits.

Lithia Motors Inc. already has felt the sting. The nation's eighth- largest dealership group told investors that its third-quarter profit margins narrowed on a dip in used-vehicle values.

Similarly, Avis Budget Group Inc. said falling used-vehicle prices pushed per-unit fleet costs in the third quarter higher than the company expected.

At Group 1 Automotive Inc., the nation's third-largest dealership group, used-vehicle retail unit sales in the U.S. rose 12 percent in the third quarter, but gross profits on those sales rose only half that: 6 percent.

"There was some pressure in the used-car business in the quarter," CEO Earl Hesterberg said. He cited ordinary seasonal declines in prices and the added pressure of more off-lease vehicles, plus some "pretty aggressive" marketing drives on new vehicles in August, which pulled used-car shoppers into new vehicles.

"When the market shifts like that and there's pressure on demand, we all try to keep our inventory turning," Hesterberg said. So Group 1 retailed some vehicles at lower prices rather than send them to auction.

Expect more pressure on prices and profits.

The number of off-lease vehicles returning to the market will grow by almost 400,000 this year to 2.1 million, predicts Manheim, the nation's largest auction company.

It also predicts that consumers will lease about 3.5 million new cars and trucks this year, up from 3.2 million in 2013. That rise will continue, filling a pipeline with vehicles ready to come off lease.

The number of off-lease vehicles will climb to 3.5 million in 2017 -- topping the record of 3.4 million set in 2002 -- and to 3.9 million in 2020, Manheim forecasts.

Tom Webb, Manheim's chief economist, said that, on its own, the additional vehicle volume will cause used-vehicle prices to decline but not collapse. "A collapse in pricing would require a simultaneous deterioration in either labor market or credit conditions," he said.

Tom Kontos, chief economist at auction company ADESA, also sees slipping prices due to higher supply as normal. "The market is moderating after several strong years," he said.

Indeed, data from both ADESA and Manheim showed that used-vehicle prices eased for the fifth consecutive month in September, in line with seasonal trends.

Manheim's monthly index stood at 121.4 in September, down from 121.8 in August and 122.8 in September 2013. The index is adjusted for vehicle make, mileage and time of year.

ADESA reported that the average used-vehicle price of $9,557 was 0.4 percent lower than the average price in August, but 0.8 percent above the average in September 2013.

The rapid increase in the supply of 3- to 4-year-old off-lease vehicles will make it easier for dealers to find late-model used vehicles at prices lower than they have seen in recent years.

Those vehicles are the bread-and-butter of automakers' certified used-vehicle programs, sales of which grew by a collective 10 percent to 1,744,607 units in the first nine months, on top of a record 2013.

Still, lower used-vehicle prices can impede new-vehicle sales by hurting residual values and lowering the equity in consumers' trade-ins. When combined with manufacturers' overproduction, lower used-vehicle prices also can trigger a rise in new-vehicle incentives.

Some forecasters caution that automakers already are on a path to overproduction.

Steven Szakaly, chief economist of the National Automobile Dealers Association, said many automakers are increasing their capacity in anticipation of new-car sales topping 17 million within a few years -- and staying there. That level is attainable, he said, but not sustainable.

It won't be "boom and bust" if the industry hits and then retreats from 17 million to, say, 16.3 million, but it might seem that way for automakers that increased their capacity in anticipation of new-car sales topping 17 million routinely, he said.

"They're trying to make that reality happen, and that's where you get into trouble," he said.

If the annualized selling rate "is going to 17 million, give or take, for new-car sales, as used-car supply continues to increase, is it going to drive OEMs to have higher incentive spend to maintain the same SAAR rate? We predict yes," Larry Dominique, president of ALG, told Automotive News. "We expect next year that incentives could go up 6 or 7 percent."

Jamie LaReau contributed to this report.