Why We Are Disrupting The $40b Extended Warranty Industry

Why We Are Disrupting the $40b Car Extended Warranty Industry

We started CarmaCare to deliver consumers the extended warranty and protection programs they deserve, and have assembled an all-star team of auto and fintech veterans to tackle this important problem. But first, a bit more background on the market and opportunity.? After several years researching the extended warranty industry, we decided that the lack of technology and data, poor customer experience, and one size fits all pricing provided a massive opportunity to redefine the industry while delivering a best in class experience to consumers.?

Under The Hood

When I first launched AutoFi, I knew very little about the ins and outs of auto finance, all I knew was that it was big and lacked any true technology or innovation.? I thought I would apply the skills I learned at Lending Club and LendingHome to try and find the arbitrage in the marketplace.? During my tenure as President of AutoFi, I got a very good look under the hood of the auto industry as a whole, particularly understanding the economics of the business and how each part of the value chain works.? This is when I became consumed with the F&I part of the business (Finance and Insurance) as it makes up the lionshare of the dealers top and bottom line.

Why Dealers Sell Cars

Dealers sell cars for two reasons and two reasons only, to be able to sell an extended warranty and to get the service and parts business.? These two revenue lines make up over 80% of a dealership's net profit.? Dealers will often sell a car at a loss to be able to sell a warranty on the "back end".? (Profit made after the sale of the vehicle)

Excessive Markups and Lack of Transparency

Warranties are typically marked up 300%-400% and the price of the warranty is rolled into the auto loan.? This means if you need a $25,000 auto loan to pay the balance of the vehicle with a $4,000 warranty, you will be taking out an auto loan for $29,000.? The consumer is financing the dealers commission which is far from transparent or equitable.? Most consumers don't even know they are paying for the warranty because it is included in their car payment.? Let’s apply a simple use case scenario.

Example 1:

Car Price:? $28,000

Down Payment:? $3,000

Balance to be financed:? $25,000

Interest Rate:? 5.11%

Loan Period:? 60 Months

Monthly Payment:? $473

Total Interest Cost of Loan:? $3,383

Now let’s add the Extended Warranty the dealer sold you

Example 2:

Car Price:? $28,000

Cost of Warranty: $4,000

Down Payment:? $3,000

Balance to be financed:? $29,000

Interest Rate:? 5.11%

Loan Period:? 60 Months

Monthly Payment:? $549

Total Interest Cost of Car Loan:? $3,383

Total Interest Cost of Warranty:? $451

Total Combined Interest Cost of Car Loan and Warranty:? $3,834

Doing the basic math of $4,000 for the warranty at a 5.11% over 60 months means you are paying a total of $4,451 for the warranty with a total interest cost of $451.? Consumers who are unaware of this tactic are taking on additional debt to finance the sales person’s commission - the lack of transparency in this transaction and process is ripe for disruption.?

The Golden Goose

F&I is big business for dealers and makes up the majority of their estate planning and wealth creation.? Dealers have created exotic financial instruments such as offshore reinsurance companies so the revenue they earn from excess reserve (funds not paid out to claims) is able to be recognized as long term capital gains and hence a lower tax rate.??

When I started AutoFi, I wanted to provide transparency to the consumer and stop the predatory practices that were rampant at dealerships when it comes to consumers getting an auto loan.? Those practices are even more prevalent when you dive into the profit center of Extended Warranties and Vehicle Service Contracts.

While dealers sell the majority of Extended Warranties, there is an entire online ecosystem that allows consumers to buy an Extended Warranty when they leave the dealership or when their Manufacturer's Warranty expires.

Digital Adoption and Consumer Experience

After doing a deep dive into the online Extended Warranty Market, I discovered many of the same core issues that we worked to solve at AutoFi for financing a car online.? Buying a warranty online today is a bit like shopping for a car online 10 years ago. ?Getting a quote online is still considered a novelty, you are spammed with both robocalls and emails and end up on the phone with a slick salesman located in St. Louis which is the call capital center of the world.

Take Car Shield for example, yes, the one with Ice T as the ambassador (I would have loved to be into the brand promotion meeting, I love Ice T as much as any 80’s kid but ya know, it’s Ice T).? You enter all of your personal and vehicle information and instead of getting a price, you get a one sentence message that someone will reach out to you shortly.? Shortly after, your phone battery will die from the repeated robocalls you will get for weeks to come in the future.??

Same Thing, Different Name

The majority of online providers are one in the same and act in similar fashion.? Furthermore, warranty companies throw out a ton of car jargon on what's covered but never highlight what isn’t covered, which I find to be more valuable.? The providers that do provide a quote online have pretty exorbitant pricing, ($120/mo for a 2020 VW Tiguan over 3 years) knowing that the cost of this policy is 10-15% of what they are charging.

Adverse Selection Drives Higher Premiums

Now, these high rates are there for a reason, they have to compensate for the lack of digital innovation in the industry as well as adverse selection.? Most of the providers market the same product at the same price to every consumer leaving them with a portfolio of consumers that are highly inclined to cancel early or game the system.? Gaming the system involves a consumer buying a warranty after they had a breakdown and park their car for the month waiting period before taking it in for a repair and claim.

The market today prices every policy the same based solely on underwriting the vehicle, we feel this is a substantial opportunity to innovate with technology and data.? The current market status allows us to disrupt the status quo and differentiate by using one of the most important tools I learned during my 5 years at Lending Club - Risk Based Pricing.

Risk Based Pricing

All customers are not the same regardless if they drive similar cars.? We have the ability to use multiple permutations of data on the consumer that are publicly available to allow us to buck the trend of adverse selection and obtain positive selection.? We know we can give customers with a low propensity to churn a lower priced policy while charging the customer with a high probability of churn or attempt to game the system a higher premium.??

Risk based pricing will be a huge driver to us unlocking the beauty in this business which is capital efficiency. ?We think that we have much stronger longer term unit economics vs. incumbent car warranty companies, which will allow us to offer better value to our customers.

Saying Goodbye to Robocalls

Communication will be handled via chat and text driven customer service with absolutely no robocalls.? We are committed to buck the call center trend and give consumers exactly what they want, protection on out of pocket repair expenses at a fair price with fantastic customer service.

We are a team that has deep experience in FinTech, AutoTech, InsureTech and disrupting the incumbents in outdated business models.? The Extended Warranty market is a juggernaut that has been hanging out behind the scenes and we can't wait to disrupt the status quo and bring a whole new experience to car owners.

Happy Driving,

Team CarmaCare