An audience of auto lenders was caught a little off guard this week when a prominent car industry analyst summed up the challenges they face.
"Margins will continue to shrink to an extent that banks will not find this profitable enough," said Maryann N. Keller, managing director at ING Baring Furman Selz in New York.
As the financing arms of large auto manufacturers look for new ways to serve car dealers, banks that compete with them are feeling the squeeze. Ms. Keller's message, delivered at the Consumer Bankers Association's automobile finance conference here, touched a nerve with bankers in the audience.
Asked what keeps him up at night, one attendee, Bank One Credit Co. president Edward Tinsley, said, "Maryann Keller."
He was only partly joking.
Because the financing companies owned by manufacturers, known in the industry as captives, reap big profit margins from car sales-especially on popular sports utility models - they can offer incentive interest rates so low as to erase the margin on these loans.
"Auto companies have the advantage, because they take profit both from the car and the loan," Ms. Keller said.
Banks simply cannot compete with that, said John F. Chimento, president of First Virginia Credit Services in Falls Church, Va.
"When they incent a certain model, we are forced to shift our lending to other models," he said.
The decline in profitability has convinced at least one major bank to pull out of indirect auto lending. First Union Corp. told employees Wednesday that as of April 21 it will no longer make auto loans through dealers.
The bank is trying to cut costs and decided that the business did not meet its profit hurdles, spokesman Tony Hoppa said.
"We decided that the resources would be better allocated to other businesses," Mr. Hoppa said.
The Charlotte, N.C.-based bank said it will continue to make car loans directly to consumers.
"We want to develop relationships that span entire life needs, and move away from one-time transactional businesses," Mr. Hoppa said.
First Union, which has $237 billion of assets, will continue to accept loan and lease applications through dealers through April 7. Mr. Hoppa said employees will lose their jobs because of the decision, but was unable to say how many.
Banks do have two advantages over auto manufacturers: a lower cost of funds and the ability to offer a full banking relationship.
Because banks take deposits, they are able to fund loans with cheap money. That allows them to offer lower rates than the captive finance companies, which generally turn to the capital markets for funds.
"When they aren't incenting, we can beat them on rates any day," said P.K. Chaterjee, executive vice president at Amsouth Bancorp in Birmingham, Ala.
Secondly, banks have expanded their services to dealers, providing a wide variety of products and services that, for the meantime at least, the captives do not. Included are inventory financing, cash management and treasury services, merchant processing, and 401(k) plans.
"We are trying to wrap our arms around the dealer as much as we can," Mr. Chaterjee said.
Commercial real estate loans are an especially strong suit for banks, in part because they generally require relationship-style banking.
"It is one thing the captives don't offer, so it is an excellent relationship play," said Timothy R. Maczka, senior vice president at Old Kent Bank in Grand Rapids, Mich. Additionally, real estate loans offer strong margins and loan-to-value levels, he said.
The need for these credits is growing as auto dealers consolidate, according to Byron A. Hanson, vice president of Honolulu-based Pacific Century Financial Corp.'s automobile finance division.
"Most dealers are intent on becoming megadealers," Mr. Hanson said. "They're not content owning just one or two stores."
But consolidation is a double-edged sword, Ms. Keller said.
"As dealerships are getting bigger, they are getting bigger floor plans and demanding savings of as much as 100 basis points less than what they once paid," Ms. Keller said.
At the same time, some of the captives seem to moving toward emulating the banks.
Ms. Keller warned banks to keep their eyes on Ford Motor Co.'s financing arm, Ford Motor Credit. Ford is experimenting with subprime auto lending in an attempt to offer a wider range of services to dealers.
"It used to be that auto companies were there just to have a portion of the business, but they are undergoing a real effort to expand the role of their captives," Ms. Keller said. "They have their marching orders to go out there and expand their business."
General Motors Acceptance Corp. could shape up to be another heavyweight competitor. The company has begun offering insurance and mortgages to customers and employees, said Richard T. Schliesmann, an executive vice president at Wells Fargo & Co..
"They are starting to reach into our market, into areas that were always our domain," he said.