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Uber's subprime car loan business - what could go wrong?

File under recommended reading: this in-depth Bloomberg piece from last week about Uber’s car-leasing business.

Since July last year, Uber subsidiary Xchange has been helping the transportation firm recruit people who want to drive for Uber but don’t have a car. Goldman Sachs is impressed enough that it reportedly gave Xchange received a $1 billion credit facility to fund new car leases.

Here’s how the Xchange model works, Bloomberg reports:

Drivers pay a $250 upfront deposit and then make weekly payments to Uber over the course of the three-year life of the lease. As the video promoting the arrangement puts it: "The best part: Payments are automatically deducted from your Uber earnings." At the end of three years, Uber keeps the $250 deposit to release the drivers from the lease. If they want to buy it, they'll need to fork over the residual value of the car, which could run many thousands of dollars. Uber declined to provide an average figure.

Uber has said that its financing and discount programs (including Xchange) will put more than 100,000 drivers on the road this year.

It sounds like a genius plan. There’s just one problem: Xchange targets drivers with zero or negative credit ratings who can't get car financing from other lenders. Uber is basically leveraging the subprime auto leasing market – which is similar in concept to the subprime mortgage market that eventually played a key role in the 2008 economic crisis.

I am not a financial markets expert, so I don’t know if the subprime auto leasing market could potentially lead to another market crash in the longer term. However, Bloomberg notes that there are risks in leasing cars to people with bad credit – and when banks invest capital in them, they take on much of that financial risk. According to unnamed sources, the Goldman Sachs credit facility with Xchange includes Citigroup, Deutsche Bank AG's New York branch, JP Morgan, Morgan Stanley and Sun Trust.

Whatever the risks may be on Wall Street, subprime car loans are also potentially risky for the drivers. Bloomberg spoke to six drivers who have leased cars via Xchange. The overall theme: it’s expensive enough that some drivers find it hard to make a living and keep the payments up, and end up paying far more for the car than if they’d bought it direct from a dealer. Given Uber’s notoriously high churn rate for drivers, Xchange doesn’t sound like something that will reverse that trend.

Bloomberg also spoke to five auto-finance experts, who mostly agreed that while Xchange’s car leases are more flexible than most subprime leases and offer a relatively easy way out of the lease, they’re also expensive – and arguably predatory – compared with leases for drivers with good credit.

I recommend reading the whole thing. Telecoms players hear a lot these days about successful digital business models like Uber, and the benefits of the “shared economy” – they even heard about it last week at CommunicAsia2016.

But there are tradeoffs with these new business models that go beyond shaking up incumbent industries. For telcos looking to strike partnerships with OTT platform players, it’s worth being informed about the risks as well as the payoffs. 

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