May 2009, Fleet Financials - Feature
5 Common Mistakes in Negotiating a Fleet Lease Agreement
Fleet managers are wise to read the entire lease agreement and familiarize themselves with the terms and conditions under which they will be doing business. For it is the business side that impacts the fleet manager most.
By Staff
You’ve gone through the RFP process, selected a lessor, and now it’s time to negotiate the agreement. Sometimes, it might seem all lease agreements are the same and little is left to actually negotiate beyond the typical legal wrangling about which state’s laws will govern the contract, etc.
However, fleet managers are wise to read the entire document and familiarize themselves with the terms and conditions under which they will be doing business. For the business side of the contract, not the legal side, most impacts the fleet manager, and key provisions can be overlooked.
Discussing the Basics
For the purpose of this article, a fleet lease agreement refers to the open-end TRAC (Terminal Rental Adjustment Clause) lease, the most common lease used by mid-size and large fleets. The open-end lease is unique to the fleet industry, and most contain some basic terms under which the lessor and lessee do business. This article examines the business side of the contract, and does not address legal issues.
The terms and conditions appearing in most such master lease agreements are:
■ Minimum term: Each vehicle leased under the agreement must remain in service for a minimum term before being replaced.
■ Vehicle capitalization: Describes how vehicles leased under the agreement will be capitalized.
■ TRAC: This clause governs vehicle termination and sale when taken out of service.
■ Termination: Defined standard terms of advance notification when either party wishes to terminate the contract.
■ Payment: Details payment terms, frequency of billing, and prompt payment discounts.
Open-end fleet agreements are master agreements. They contain overall terms and conditions applied individually to each lease vehicle. For example, the capitalization schedule is set by the manufacturer, with cost pegged as a function of factory invoice. Each vehicle delivered is capitalized, and lease payment calculations are based on the master agreement criteria.
The lessor then produces the “Schedule A,” which provides an accounting for the cap cost and outlines the lease payment schedule. When vehicles are taken out of service and sold, a “Schedule B” is produced, detailing calculations resulting from the TRAC application, unamortized balance, sale proceeds, and excess or shortfall of such proceeds when applied to the net book value.
1. Capitalization Schedule
Most domestically manufactured fleet vehicles usually are capitalized at a discount off factory invoice cost, and in some instances, import-badged vehicles as well. Exceptions occur, including some luxury models or makes and vehicles purchased from dealer stock for emergency orders.
The discount is part of the “holdback,” which represents 3 percent of the vehicle’s MSRP. For example, $600 is the holdback for a vehicle with a $20,000 MSRP. The vehicle’s net price to a dealer is factory invoice less the holdback.
Thus, if a contract capitalizes the vehicle at $450 under invoice and the factory invoice is $17,000, the cap cost is $16,550. Assuming the following model-year the factory invoice is $17,500, the contract cap cost is $17,050.
Fleet managers often miss the opportunity to negotiate a capitalization schedule of “net-plus” rather than “invoice-minus.” The benefit is that as vehicle prices increase, a net-plus schedule offers the fleet part of the increase.
In the example cited, a cap schedule of $100 over net-invoice would cap the vehicle at a lower cost — as the factory invoice increases, so does the holdback. The savings can add up quickly.