Car rental industry urges caution over capital firm deregulation

As financial regulators consider easing restrictions on capital firms' car rental operations, the traditional rental car industry is calling for a careful approach — insisting that asset quality must be assessed before any deregulation moves forward. With capital firms already holding more than 550,000 rental vehicles, the industry warns that aggressive price competition could translate into losses if used-car prices fall short of expectations.

The Korea Rent-A-Car Business Association released a position statement calling on regulators to examine the residual value and risk level of existing rental assets before loosening the rental volume cap on capital firms, according to industry sources Thursday.

Under current rules, capital firms and other specialized credit finance companies may operate car rental businesses as ancillary activities. However, a so-called "primary business ratio" regulation prohibits their average rental asset balance from exceeding their average leasing asset balance — the core of their business.

The regulation was introduced in 2005 when capital firms were first permitted to enter the rental business. Financial authorities said at an industry meeting last November that they would review options for easing the rental volume cap.

Capital firms argue they need to expand their business scope in line with the growth of the long-term rental market, contending that greater competition from deregulation would widen consumer choice and help push rental fees lower.

The traditional rental car industry counters that capital firms have already grown into major market players, and that their asset quality should be scrutinized before any further expansion is permitted.

Data compiled by the association show that the number of rental cars registered by capital firms surged from about 27,000 in 2010 to roughly 557,000 last year — a more than 20-fold increase in 15 years.

Their market share has grown accordingly. An association analysis of the top 30 rental car companies by registered fleet size as of the end of July this year found that capital firms held a 45.32 percent share, surpassing large dedicated rental companies at 43.08 percent. The remaining roughly 11 percent is split among more than 1,000 small and mid-sized rental operators.

The gap is also visible in fleet growth rates. From the end of 2021 through July this year, capital firms' registered rental fleets grew 37.5 percent, while dedicated rental companies expanded by just 7.9 percent.

"If you remove the conditions from a door that was opened with conditions, what remains is effectively unlimited access," an association official said.

The association's central concern is residual value — the key variable that determines long-term rental pricing.

Residual value refers to the estimated price of a vehicle at the end of a rental contract after a set period of use. In general, setting a higher residual value gives rental companies more room to lower monthly fees.

The problem arises when the actual used-car price at the end of a contract falls below expectations. For example, if a rental fee is set on the assumption that a vehicle will sell for 26 million won ($19,600) after four years, but the actual sale price comes in at only 20 million won, a shortfall of 6 million won results — a loss the rental operator must absorb.

The association also cited a case from last August in which a major capital firm raised the residual values on rentals and leases of luxury sedans and large sport utility vehicles by 1.8 percentage points and 5 percentage points, respectively. At the time, actual used-car market prices for some of those models were falling, even as the contractual residual value assumptions were being revised upward.

The used-car export market adds another layer of risk. According to the Ministry of Trade, Industry and Energy, used-car exports in September totaled $450 million, down 56.8 percent from the same month a year earlier, weighed down by geopolitical instability in the Middle East and tightening import regulations in key markets.

The association warned that if used vehicles previously destined for export remain in the domestic market, they could push local car prices down further.

There are overseas precedents for rental and auto finance companies suffering losses from falling used-car prices. Ford Credit, the financial arm of Ford Motor Co., recorded $2.1 billion in lease asset impairment charges in the second quarter of 2008 alone, after a spike in oil prices hammered the residual values of large SUVs.

US rental car company Hertz decided in early 2024 to sell about 20,000 electric vehicles, citing falling used electric vehicle prices and rising operating costs, and recorded $245 million in additional depreciation charges related to the move.

The association said that even when customers pay their rental fees on time, losses can still occur if the actual disposal price of a vehicle falls below the assumed residual value — a risk that standard loan delinquency rates alone cannot adequately capture.

Capital firms face a particular vulnerability because, unlike banks, they cannot take deposits and must rely on external borrowing such as corporate bond issuance. The association argued that accumulated losses from rental operations could worsen their funding conditions and raise borrowing costs across other financial products.

Financial regulators have also emphasized the need to manage the soundness of specialized credit finance companies. At a financial market monitoring meeting on Oct. 1, the Financial Services Commission said it would review in advance the issuance volume and maturity structure of bank and financial company bonds in the fourth quarter, and assess the sector's asset quality and liquidity buffers.

Against that backdrop, the association called on regulators to first verify each capital firm's residual value ratio trends over the past five years, the actual disposal prices of returned vehicles, and gains or losses on vehicle sales. It also said stress tests assuming further price declines, assessments of potential losses from used-car price fluctuations by vehicle type, and reviews of the financial capacity of residual value guarantee providers are all necessary.

The association also argued that the Ministry of Land, Infrastructure and Transport should be included in the deregulation discussions. While the rental car business falls under the ministry's jurisdiction through the Passenger Transport Service Act, deliberations so far have centered on financial regulators and the financial industry.

"Rental fee cuts engineered by inflating residual value assumptions — rather than by improving the competitiveness of rental companies — must not come back years later as a financial burden on consumers," an association official said. "What we need to look at before expanding competition is whether that competition is sound."