finance companies chapter 6 © 2006 the mcgraw-hill companies, inc., all rights reserved. k. r....
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Finance CompaniesFinance Companies
Chapter 6
© 2006 The McGraw-Hill Companies, Inc., All Rights Reserved.
K. R. Stanton
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Overview
In this segment we discuss Finance Companies: Activities of finance companies Competitive environment Size, structure and composition Regulation Global issues
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Historical Perspective
Finance companies originated during the depression. Installment credit General Electric Capital Corporation. Competition from banks increased during
1950s. Expansion of product lines
GMACCM is largest commercial mortgage lender in U.S.
Industry is highly concentrated Largest 20 firms account for more than 75% of
assets.
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Finance Companies
Activities similar to banks, but no depository function.
May specialize in installment loans (e.g. automobile loans) or may be diversified, providing consumer loans and financing to corporations, especially through factoring.
Commercial paper is key source of funds. Captive Finance Companies: e.g. GMAC
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Major Types of Finance Companies Sales finance institutions
Ford Motor Credit and Sears Roebuck Acceptance Corp.
Personal credit institutions Household International Corp. and AIG
American General. Business credit institutions
CIT Group and Fleet Boston Financial. Equipment leasing and factoring.
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Web Resources
For information on finance companies, visit:
www.ge.com
www.gmacfs.com
www.fordcredit.com
www.household.com
www.americangeneral.com
www.citgroup.com
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Largest Finance Companies
Company Name Total Assets (Millions)
General Electric Capital
Services
$233,086
Ford Motor Credit Company 202,528
Citigroup 130,400
Household International, Inc. 107,496
MBNA Corp. 107,258
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Balance Sheet and Trends
Business and consumer loans are the major assets 51.9% of total assets, 2003. Reduced from 95.1% in 1977.
Increases in real estate loans and other assets.
Growth in leasing (largely due to tax incentives of 1981 Economic Recovery Act).
Finance companies face credit risk, interest rate risk and liquidity risk.
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Balance Sheet and Trends
Consumer loans Primarily motor vehicle loans and leases. Recent low auto finance company rates are
anomalous—partly due to 9/11 effects. Attempts to boost new vehicle sales via 0.0% loans
lasted into 2004. By 2003, rates 3.5% lower than banks on new
vehicle rates
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Consumer loans (continued)
Generally riskier customers than banks serve. Subprime mortgage lenders Jayhawk Acceptance Corp.
From auto loans to tummy tucks and nose jobs
Increase in “loan shark” firms with rates as high as 30% or more.
Other consumer loans about 24.7% of consumer loan portfolio, 2003.
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Balance Sheet and Trends
Mortgages Recent addition to finance company assets Smaller regulatory burden than banks May be direct mortgages, or as securitized
mortgage assets. Growth in home equity loans since passage of
Tax Reform Act of 1986. Tax deductibility issue. Conversion of credit card debt 2003 average home equity loan $69,513
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Web Resources
For information on home equity loans, visit the Consumer Bankers Association at:
www.cbanet.org
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Business Loans
Business loans comprise largest portion of finance company loans.
Advantages over commercial banks: Fewer regulatory impediments to types of
products and services. Not depository institutions hence less regulatory
scrutiny and lower overheads. Often have substantial expertise and greater
willingness to accept riskier clients.
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Business Loans
Major subcategories: Retail and wholesale motor vehicle loans and
leases Equipment loans
tax issues associated when finance company leases the equipment directly to the customer
Other business loans and securitized business assets
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Liabilities
Major liabilities: commercial paper and other debt (longer-term notes and bonds).
Finance firms are largest issuers of commercial paper (frequently through direct sale programs). Commercial paper maturities up to 270 days.
Consequently, management of liquidity risk differs from commercial banks relying on deposits
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Industry Performance
Strong loan demand Strong profits for the largest firms
e.g. Household International, Associates First Capital, Beneficial
Effects of low interest rates Most successful have become takeover
targets Citigroup/Associates First Capital, Household International/HSBC Holdings
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Industry Performance
High risk has a downside: Subprime lending: Jayhawk Acceptance
Corporation Cityscape Financial Corp., Aames Financial
Corp., Advanta, FirstPlus Financial Group, The Money Store, Associates First Capital
FTC scrutiny of subprime lending practices violating Truth in Lending Act, Fair Credit Reporting Act, Equal Opportunity Act
2002, Citigroup $200 million settlement for predatory lending via Associates First Capital
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Electronic Lending
Mainly mortgages completed over the Internet E-Loan Suffered with the dot-com downturn
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Web Resources
For additional information, visit:
www.household.com
www.firstunion.com
www.citigroup.com
www.ftc.gov
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Regulation of Finance Companies
Federal Reserve definition of Finance Company Firm, other than depository institution, whose
primary assets are loans to individuals and businesses.
Subject to state-imposed usury ceilings. Much lower regulatory burden than
depository institutions. Not subject to Community Reinvestment Act. Lack the banks’ regulatory safety-net
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Regulation
With less regulatory scrutiny, finance companies must signal safety and soundness to capital markets in order to obtain funds.
Lower leverage than banks (15.1% capital-assets versus 9.1% for commercial banks).
Captive finance companies may employ default protection guarantees from parent company or other protection such as letters of credit.
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Global Issues
In foreign countries, Finance companies are generally subsidiaries of commercial banks or industrials
In Japan, ownership of finance companies by banks created opportunities when banks hit by increase in nonperforming loans GE Capital/Japan Leasing Corporation
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Pertinent Websites
Aames Financial Corp. www.aames.net
Advanta www.advanta.com
American General www.aigag.com
Federal Reserve www.federalreserve.gov
CIT Group www.citgroup.com
Citigroup www.citigroup.com
Consumer Bankers Association www.cbanet.org
Federal Trade Commission www.ftc.gov
First Union Bank www.firstunion.com
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Pertinent Websites
Ford Motor Credit www.fordcredit.com
GE Capital Corp. www.ge.com
GMAC www.gmacfs.com
Household International www.household.com
The Wall Street Journal www.wsj.com