Month-to-Month VSCs: Risks and Rewards

One of the mainstays of the F&I office — the product that is, more often than not, a major part of every F&I sale — is the vehicle service contract (VSC). VSCs provide consumers with an overall peace of mind that no other product can match. Other F&I products might offer more comprehensive protections for specific parts of the vehicle, but only the service contract can cover everything from top to bottom.

The sticking point, however, can be the cost.

The cost of a service contract generally runs in the thousands of dollars. For many, if not most, consumers who are interested in purchasing the protection can easily roll it into the finance agreement. Dealer-arranged financing makes it simple and relatively painless to tack on a few extra dollars per month to the loan to cover the cost of the contract.

But while that is, by far, the most common approach, not every consumer or situation can be accounted for in the single-premium model. Some car buyers can’t qualify for enough financing to cover the vehicle and F&I products. Some don’t want to bundle the payments for their car and products into a single loan. Others decide later that they want protection after all and will shop on the direct-to-consumer market. In all of these examples, car buyers can often end up having to pay the full cost of the contract upfront. But that isn’t the only option.

Lee Bowron, a principal of Kerper Bowron LLC, Vestavia Hills, Ala., notes that in 98% of service contract sales, the traditional model works. While the consumer is, technically, paying the cost of the contract month-to-month as part of their loan, the entire business model is built around the idea that everyone gets paid upfront, and the bank or finance company takes the payments. Month-to-month VSCs offer customers the opportunity to pay as they go.

But that model has its downsides. One, says Dan Lievrouw, vice president of operations and IT at American Guardian Warranty Services Inc. (AGWS) in Warrenville, Ill., is cancelations: A car buyer could, theoretically, make an expensive claim in the first month of coverage and cancel the next.

“Someone’s going to pay you $49 for the first month and their transmission is slipping, and it goes, and you pay the claim, then they cancel, and they’re gone,” Lievrouw says.

Lievrouw notes that the same risk technically applies to both models. To mitigate the risk for month-to-month VSCs, his company includes a 60-day “month” at the outset. Coverage starts on Day 31, so a customer cannot make a claim until they have made at least one payment, and they will remain covered for as long as they continue to pay. If they decide not to renew, there are no refunds required.

The risk of cancelation is further mitigated, Lievrouw adds, when the payments are automated. By partnering with a provider such as an insurance company, for example, providers of month-to-month service contracts ensure the cost is already part of each customer’s monthly budget.

“We have not partnered with an insurance provider to date, but our partner offers benefits that come directly out of employee paychecks,” Lievrouw says. “This automates the payment process, which is critical with month-to-month, in my opinion.”

With all that in mind, let’s find out who is selling month-to-month service contracts and what their target market is.

Who’s Selling Them?

Despite the potential benefits, not many providers are currently offering month-to-month service contracts. Lievrouw notes that his company has offered its month-to-month product for several years now, with good results, but he’s not counting on that product to “keep the doors open.” He suggests that growth in that segment could be spurred by more service providers, including biweekly providers, getting interested in payment processing.

At one such provider, SMART Payment Plan in Austin, Texas, CEO David Engelman notes that he has fielded calls from several VSC providers looking for a payment administrator. So far, they haven’t been able to make the numbers work.

“The volume of transactions and fee structures just hasn’t made sense for us,” Engelman says. “We just haven’t found a good business fit.”

Joe Kirsits, senior vice president of Phoenix-based GPW and Associates Inc. (GPWA), is a consultant to administrators who are sticking a proverbial toe in the water. He notes that his company is currently looking at options for its clients, trying to decide the best strategy going forward, and the month-to-month model is just one of them.

“The real difficulty we’re finding is trying to develop a coverage plan that meets the customer’s needs and keeps the price competitive to where they don’t feel the need to cancel three months in or six months in,” Kirsits says. “It’s a delicate balance.”

Kirsits says that he is always looking for new ways to service the market, and at the moment, administrators and marketers, in particular, are looking to expand the options. They see consumers balking at the upfront price of $2,000 to $3,000, but believe if they can instead offer comparable coverage for $50 a month, it will be more palatable. He points out that at the end of the contract, the price is likely in the same price range, but by not advertising or focusing on that, the product becomes that much more attractive.

John Kerper agrees, noting that the month-to-month model was designed for the aftermarket.

“The original monthly service contracts were designed for people who didn’t buy a service contract at the dealership and who didn’t like the idea of committing a bunch of money,” says Kerper, also a principal at Kerper Bowron. “Even though buying the service contract on a finance arrangement is almost the same as a monthly agreement, they’re not committing past the current month. A lot don’t like the idea of spending $3,000, but they don’t mind $50 a month.”

Who’s Buying Them?

Another potential benefit to the month-to-month model goes beyond the car buyer’s access to cash or financing. It also makes the contracts available to a wider range of consumers. For example, if a service drive customer is a good candidate for a new service contract on a car they already own, the month-to-month model can get them covered, quickly and easily, without a visit to the F&I office.

The target market for month-to-month service contracts can vary by dealership. The service drive is one potential customer source, but there are others that could, potentially, be just as lucrative if the idea is pitched correctly:

• Cash customers, who often don’t purchase any F&I products, might find the month-to-month model more attractive than adding several thousand dollars to the vehicle’s price tag or writing a second check for a single-premium service contract.
• Independent lots that focus on higher-end vehicles — including highline models and off-fleet vehicles — cater to used-car buyers who are prime candidates for F&I products, but for whom the upfront cost might be too expensive.
• Even on franchised lots, there is an increasing likelihood that the consumers will walk in with credit that is less than perfect, making it difficult to finance anything beyond the purchase price of the vehicle. For these consumers who have maxed out their financing with the car alone, a monthly service contract could be a good compromise to ensuring their purchase is protected, while not breaking the bank.
• Sometimes, consumers decline to purchase the service contract when they are financing the vehicle, but after they have had a night — or longer — to think about it, they change their mind. For these consumers, paying the full price of the contract upfront is often the only option, which basically makes it unobtainable, since their free and available cash is often used up by the vehicle itself. However, a monthly contract would give them an opportunity to get the same coverage for a cost they can easily afford to roll into their monthly budget. In the same vein, it also offers dealerships an opportunity to place a follow-up call to sold customers and, at the appropriate moment, offer the month-to-month service contract.

Bowron also points out that the market for month-to-month service contracts could expand very quickly if the Consumer Financial Protection Bureau (CFPB) is able to pass legislation that would make it difficult for dealer-arranged financing to include the cost of F&I products, including single-premium service contracts.

If that happens, Bowron says, “dealers will replace them with month-to-month service contracts in a heartbeat.”

Service contracts will continue to be the mainstay of the F&I department well into the future. And the odds are very good that the model currently in use will continue to be the most popular way to sell them. But month-to-month VSCs provide dealers and car buyers with a useful option. Dealers can capture business that otherwise would have been lost, and consumers who are interested in purchasing a contract but for a wide range of reasons cannot or will not pay upfront or roll it into their vehicle financing have a third way to secure coverage.

While reiterating that month-to-month service contracts are not a core profit driver for his company, Lievrouw says the product they built has performed well and was “a perfect fit” for AGWS and their partner.

“You never want to throw something out,” Lievrouw says. “With a little help on the marketing aspect, it could perform very well. You would have to have the right partner, and that’s the person who is processing the payment.”