Is This the Biggest Scam in Retail?

The results are in and Consumer Reports has named America's top appliance retailer. (Hint: It's Abt Electronics). But the winner's identity isn't the only thing coming out this month. In the course of describing what makes a retailer good or bad, CR also managed to "out" one of the biggest scams in retail: the extended warranty.

According to CR, you see, the level of a retailer's customer "service heavily influenced how satisfied subscribers were with major-appliance stores overall." Companies like Abt, which earned top marks for service, tended to perform well in the rankings. In contrast, companies that seemed more interested in milking their customers for every penny they were worth fared less well.

CR singled out one retailer in particular, P.C. Richard & Son, for opprobrium for being "among the pushiest" when pressuring customers to buy extended warranties. Not coincidentally, the company ranked dead last in the field of nine retailers ranked. Indianapolis-based hhgregg (NYSE: HGG  ) and Abt neighbor Sears (NASDAQ: SHLD  ) , which ranked Nos. 6 & 7, respectively, were also said to be "more likely than other retailers to push added coverage."

Follow the money
Why do these retailers continue to push extended warranties even at the risk of alienating their consumers? It's not hard to figure out. On average, extended warranties tend to generate 50% or better gross margins for the stores that sell them. That compares awfully well to, say, the 26% that Sears grosses on its sales overall last year, or the even worse 23% gross margin at Best Buy (NYSE: BBY  ) .

Simply put, selling extended warranties can be more profitable for these companies than selling the actual products the warranties cover! And yet, while retailers love them, these warranties aren't always a good deal for you.

Citing its own "extensive research" over years of study, and tens of thousands of Consumer Reports members surveyed, CR points out that, on average, the cost of repairing a purchased appliance that breaks down rarely exceeds the cost of buying an extended warranty for the item.

Timing is everything
What's more, if you do buy an extended warranty on an appliance, you may very well end up paying to repair it anyway. The companies don't just pick warranty periods out of a hat, you know. They know, on average, how often an appliance will break and how long it will take to break -- and they tailor their warranties to make sure the warranty's run out before the break happens.

Result: According to CR, "most repairs do not occur during the limited time period covered by the extended warranty."

Good news
The good news, though, is that in many cases at least you can get the same peace of mind from an extended warranty (even if you never get to use it) by simply buying with a credit card. Most products you buy, after all, come with a manufacturer's warranty built right in. And depending on the card you use to buy an item, MasterCard (NYSE: MA  ) or Visa (NYSE: V  ) for example will often automatically double the length of any manufacturer's warranty, adding as much as a year to your warranty period free of charge.

Even if most extended warranties aren't worth the cost, a warranty awarded free by the manufacturer, or by your credit card company, most certainly is.

 

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Read/Post Comments (5) | Recommend This Article (5)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 28, 2013, at 10:37 PM, SuntanIronMan wrote:

    I'm at a loss trying to think of a bigger (legal) retail scam. This might indeed be the biggest.

    Maybe one could make the case for car dealership undercoating, but that's about it.

  • Report this Comment On May 29, 2013, at 6:26 PM, Strayjax wrote:

    I purchased my iPad with a warranty from best buy and after about 6 months my daughter dropped it and the screen cracked and I took it in and they gave me a brand new one on the spot. How is that a scam?

    It is no different than thinking car or homeowners insurance is a scam. I have paid tens of thousands of dollars to car insurance companies and I have never had an accident. MUST BE A SCAM!

  • Report this Comment On May 29, 2013, at 7:08 PM, The1MAGE wrote:

    Your iPad was a rare event. Yes that does happen, but most people actually do not use their extended warranty. If it breaks down, then either they forget they bought it, or they lost the records.

    Often if an item breaks down because of manufacture defects, it will occur during the actual warranty. And as stated in the article, if it makes it into the purchased warranty, then it most likely to break after it's expiration.

    Everyone should try this little experiment. Every time an extended warranty is offered, take that money, and put it aside. Then if you have a repair that would have been covered by that extended warranty, then use those funds to fix, or replace it.

    Now if you're accident prone, and the warranty covers accidents, then there is a possibility it might be worth it. But even then I doubt it.

  • Report this Comment On June 05, 2013, at 9:05 AM, JamesCage wrote:

    Great article. Read an interesting whitepaper on retail risk management that covers a few points mentioned in this article topic that readers will also find very useful “Thinking about tomorrow: Post recession strategies for retailers” @ http://bit.ly/10XoIQa

  • Report this Comment On June 25, 2013, at 1:02 PM, tone12205 wrote:

    The cost to repair items these days usually end up costing more then the product is worth. Products made now do not last as they used to. For example new flat screen TVs will not last 10 to 20 years as the older picture tube TVs did. Extended warranties are a good way to protect your purchase at a fraction of the cost that repairs usually are. Its easy for consumer reports to say not to buy them as its not their product to cover. Ask consumer reports if they will pay for repairs on your products because you didn't buy the warranty due to their opinion. As with all types of insurance, not all the people who buy them collect on them. Thats how warranties and insurance works. Would you not insure your new car or your house? The bottom line is, can you afford to replace the product you bought should you have a issue with it and its not covered under warranty.

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