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Are Rental Purchase Options (RPOs) Right For You?

Did you know there is a secret weapon that is available to any rental house that chooses to use it?

A Rental Purchase Option allows the customer to apply rent to the purchase of the piece they are renting. There are a variety of structures that have different percentages of rent to apply. The structure is up to you and can be flexible depending on type of equipment, season or even length of term. We will detail potential structures later in the TIP.

As with most secret weapons, there are positives and negatives to the use of them. We will go through the reasons for and against from the eyes of different rental people.

RPO Example: A customer rents a 2 KW generator for $200 per 4 weeks. The rent extends to 5 cycle bills and the customer realizes he has spent $1000 in rental. His project is going to run another couple months so he asks if he can purchase the generator. For simplicity, let's set a price of $2000 and allow 100% to apply to purchase. The customer would pay an extra $1000 and own the unit.

Those in favour

RPOs can give you a competitive advantage over small and large competitors in your market. As a result, most of those in favour of RPOs are on the sales side of the business. Dealership based rental houses and rental houses with a "new fleet" philosophy tend to utilize rental purchase options as well.

Dealership based rental houses need to sell equipment and increase market share. RPOs are a natural fit for them to increase number of units in the market and also re stock their rental fleet. By offering RPOs, they can convert a rental customer into a parts and service customer. For dealerships, the real profit is in the parts sales.

Some rental houses have a strategy of offering the newest fleet in the market. These rental house want to turn or replace their fleet in 30 months. By selling through used sales and RPOs, they can bring in newer or more advanced product sooner.

Most sales reps LOVE rental purchase options. Why? Because good sales reps want to solve customers problems and RPOs give them a larger suite of offerings to satisfy needs. Another WHY? Because customers are asking for RPOs.

It also doesn't hurt if the sales rep is paid on commission. If they can double their commission by renting and then converting to sale, their wallet gets thicker. (See SALES REP COMPENSATION in future JIMBOs RENTAL TIPS).

There is another business case that encourages RPOs. When a rental house needs to liquidate fleet due to economic slowdown or completion of a large project, RPOs can help you sell off fleet more profitably than auction and quicker than retail used sales.

Those opposed

In my experience, those opposed to rental purchase options are found in three groups. Accountants, capital expenditure restricted managers, privately held startups and RENTAL ONLY stores.

The reasons for these groups to be opposed are more than valid.

Accountants (not all, but most) tend to want structure to asset allocation. In other words, they want a basket of rental equipment, basket of new assets (consumables and retail) and a basket of used equipment for sale. Bouncing the assets between groups on the balance sheet can add work to both accountants and your rental system. Depreciation must also be adjusted.

Accountants (typically in larger organizations) are also concerned with potential "accounting losses". This occurs when the depreciated value or net book value (NBV) is lower than the selling price, resulting in negative margin. From the accounting side, this is a loss. In reality, the overall transaction is still profitable from a cash perspective, if done correctly.

Another accounting concern is the recognition of revenue over year end. RPOs that take place in two different fiscal years can cause even more confusion on your balance sheet and income statement.

In many larger publicly traded organizations, capital expenditure is set at budget time and your ability to exceed this spend is limited. Managers working in this environment may be unable to replace fleet if sold on RPO. Especially if the sale happens late in the year. If you can't replace fleet, you may have to say 'no' to customers.

Owners of new start ups are more concerned with getting every order they can. They are justifiably focused on satisfying customers and not losing rentals. If they sell a piece, they may lose a future rental if they have to wait for replacement. They would much rather lose a sale than a future rental.

Finally, some owners have a strategy of being a RENTAL ONLY store. They may want to build their fleet for an eventual retirement and asset sale. Every piece adds to their retirement fund. This can be tricky and timing is critical, but is a very common business model.

Structures/models

Here are a couple RPO structures that have been used in the rental industry.

100% to apply 1% per month carrying charge

In this model, all the rent is applied to the purchase price, but a 1% per month charge is deducted from the purchase price. There is usually a maximum number of months to apply (6 months in most cases). It is important to remember that the 1% is calculated from the quoted purchase price, NOT a declining balance.

Sliding percentage based on term

This structure reduces the percentage applied by month rented. An example would be 100% 1st month, 80% 2nd month, 70% 3rd month, and so on. A carrying charge or fee is applied as well. Some will use a declining balance while others use the original purchase price. In most cases, their is a limit on months to apply.

There are a variety of models available, but most are based on a version of the above structures.

- You may have RPOs available on all units?
- You may just offer on the fleet you want to sell?
- You may want to offer only to some customers?
- You may limit months to apply to purchase?

The important thing is to tailor a model that fits with your organization.

One structure that accountants will suggest is a pre-determined signed contract stating the unit will be purchased at a defined date. They may argue that this is a RPO but in reality, this is a RENTAL PURCHASE (RP). I would argue this is merely a short term lease. It removes the flexibility (or OPTION) for the customer. Of course, leases should always be available, but I would suggest you "sell the paper" or in other words, use an external leasing company.

Most importantly, your customers want the ability to take advantage of the equity they have built up in through the rental. If you are listening to your customers, you should consider some form of a RPO.

Together, let's make our industry better.


JimBo