Consumer Reports, the nation’s most respected source of product reviews and buying advice, does not mince words about extended warranties. It calls them a bad idea and money down the drain. The website Consumerist agrees, calling extended warranties useless and usually a bad deal.
So why on earth would you consider shelling out an extra $50 to $150 for a couple of extra years of warranty coverage on your new appliance, computer, or mobile gadget?
Well, dear reader, try to suspend your cynicism for a moment while I tell you about a 200-employee company in San Francisco called SquareTrade, which works with bricks-and-mortar chains like Costco and TigerDirect and e-retailers like Amazon, eBay, and Buy.com to offer protection plans for laptops, smartphones, tablets, and other electronics.
Steve Abernethy, the company’s energetic CEO, says he’s well aware of the extended-warranty industry’s dreadful reputation. But he thinks SquareTrade has a shot at salvaging it, mainly by offering broader coverage and better service at lower prices.
He also has some interesting thoughts about the physical and financial risks we’re taking as we become ever more inseparable from our smartphones and tablets. Sure, the chances that your new Frigidaire will conk out within the warranty period may be tiny. But what about that $700 chunk of glass and integrated circuits that you’re carrying in your pocket? How sure are you that you can go three years without accidentally sitting on it or dropping it in the toilet? (It happens more often than you might think.)
I’m not saying SquareTrade has won me over, and I haven’t bought extended warranties for any of my own devices. But I’ll say this: I went into a recent interview with Abernethy as a hardened warranty skeptic. I came out thinking that the industry might be changing, and that buying an extended warranty might be a good idea for some people.
To start, Abernethy knows why people are suspicious about extended-warranty offers. He acknowledges that it’s been “a business done poorly, with a fundamentally flawed business model.”
You can file most of the historic problems with extended warranties under lack-of-transparency. To start, it’s hard to make an informed decision about buying a warranty, since they’re usually pitched at the point of sale, when customers tend to be hurried, and it’s difficult to inspect the fine print or research alternatives. It’s also hard to predict whether your new $200 microwave oven will go kaput in the next two years, and therefore, whether a $50 two-year extended warranty pencils out.
On top of that, it’s often tricky to figure out who’s actually behind a warranty offer. Companies like Apple and Dell have their own protection plans. But the warranties that many big-box stores sell under their own brand names actually come from third-party providers; the stores essentially buy the plans wholesale and mark up the price.
This outside provider is the company you’ll have to talk to if you ever need to get an item repaired or replaced. In the gadget sector, the largest warranty provider is Nashville, TN-based Asurion, which might just be the biggest company nobody has ever heard of. It works with Walmart, Verizon, AT&T, T-Mobile, and Sprint, among others. In 2010, it reported $3.8 billion in revenue.
Then there’s the claims experience. If your laptop, TV, or tablet shorts out, it’s often difficult to get definitive word about whether or when it will get fixed or replaced. That’s assuming you were even able to dig up your receipt and your warranty papers before you called in your claim. (Abernethy says other warranty providers count on a certain level of “breakage,” i.e., customers who are entitled to file claims but forget they even bought a warranty, or don’t have the documents to prove it.)
These kinds of flaws and frustrations are exactly what attracted SquareTrade to the warranty business in the first place, says Abernethy. He co-founded the company in 1999 with fellow Harvard Business School alum Ahmed Khaishgi.
Up to 2006, the company was in a completely different field: mediation and dispute resolution for buyers and sellers on eBay. When it turned out that there wasn’t much demand for that service outside the auction site, Abernethy and his team started looking for other sectors where trust, safety, and problem-solving were at a premium. “We came upon the warranty industry, an enormous industry that is fundamentally not consumer-centric,” he says.
Over the last seven years, SquareTrade’s strategy for reinventing itself and disrupting the warranty industry has been two-pronged. First, it decided to offer warranties at lower prices. A typical SquareTrade protection plan amounts to roughly 15 percent of the unsubsidized cost of the covered item. A two-year iPhone plan, for example, goes for $99, which is about 12 percent of the $850 price tag on an unsubsidized iPhone 5 (the price you’d have to pay out of pocket if you had to replace the phone and you weren’t yet eligible for a new one under your mobile contract).
“We have been a major force in lowering the price of warranties,” Abernethy says. And in fact, data from 2006 shows it wasn’t unusual for retailers to peg two-year warranties at 16 to 19 percent of the sticker price for an item like a camera or a TV.
Abernethy says SquareTrade is able to charge less because of its automated claims processing, the efficiency of its logistical operations, and the economies of scale it can obtain on repairs and replacement items. The company has a warehouse full of new phones and tablets ready to be rushed to customers.
The second part of SquareTrade’s strategy addresses the transparency issue. The company brands itself prominently in stores and on e-retail sites, so potential customers know who they’re buying protection from. There’s no point-of-sale pressure; gadget buyers have 30 days after the original purchase to research warranty plans and make a decision.
For policyholders, the company tries to take the stress out of filing a claim. SquareTrade warranties are saved online, so the customer never has to dig up paperwork (which may be lost, or hard to find) to file a claim. And they don’t have to call an 800 number or haggle with an agent to get a claim moving—they can do everything online.
“We said, ‘Let’s use technology to remove the cost of servicing claims and make a better claims experience,’” Abernethy says. “The ATM has transformed getting cash out of a bank. Why should you need to talk to a person to fix your cracked tablet?”
Finally, to make sure no one is left holding the bag, SquareTrade introduced a five-day service guarantee. The company promises to either fix an item and ship it back within five days of receiving it, or reimburse the customer for the item’s purchase price. If one of those two things doesn’t happen in five days, SquareTrade refunds the warranty price.
It all sounds great. And it seems to be working. Consumers give SquareTrade largely positive reviews on retailer sites and Facebook, and the company says its sales tripled in 2011 and nearly doubled again in 2012, although it doesn’t provide absolute numbers. To position itself for even faster growth, it raised a whopping $238 million in new funding from Bain Capital in early 2012, and moved into swanky new offices in downtown San Francisco.
But even if you take everything Abernethy says at face value, there’s still the big question: is an extended warranty worth the price?
Unfortunately, there’s no objective way to answer that—just as there’s no verifiable way to say that the $300 you spent on travel insurance for your last vacation was wasted just because you didn’t get sick or your cruise line didn’t go bankrupt. An extended warranty is a form of insurance, and like all insurance, it’s partly about peace of mind.
But SquareTrade clearly picked a good time to get out of dispute resolution and move into electronics warranties in 2006. That was the cusp of the mobile-computing explosion. Now millions of people have a high-value gadget on their person at all times. “A smartphone or a tablet is fundamentally a portable piece of very expensive glass,” says Abernethy. “A lot of people might say, ‘I don’t think my TV will ever fail.’ But even the most cynical people drop their tablets.”
Abernethy says SquareTrade’s data shows that if you own a smartphone for three years, there’s a 1-in-3 chance that it will be damaged in a fall or a liquid spill—“unless you carry it inside a rubber ball, and you don’t drink coffee, and you live in a hermetically sealed environment.”
In the mobile age, Consumer Reports’ advice about extended warranties is “just inaccurate,” Abernethy argues. That organization’s distaste for extended warranties is based partly on the fact that many consumer appliances are more reliable these days, and less likely to suffer component failures during the warranty period. But a $7,500 Sub-Zero refrigerator is unlikely to fall out of your pocket. “Drops and spills just completely blow that logic out the door,” Abernethy says.
SquareTrade has found that the risk of a crippling drop or spill is even higher for certain groups—including, for obvious reasons, people who ride motorcycles, belong to big households, or live in homes with hardwood floors. (There are a few other risk factors that are a little harder to explain, including having a tattoo, trading stocks frequently, or having sex more than twice a week.)
So the question of whether to buy a warranty with your new gadget, Abernethy says, boils down to whether you think you can defy the odds—and whether you can afford to buy a new phone if you’re one of the unlucky ones. It’s basically a question of risk and severity: even a low-risk event may be worth insuring against, if the cost of the event is too high to bear. (Of course, one alternative to paying out-of-pocket for a new phone is to send your broken one to a repair company like iCracked, but that might not be much cheaper than just buying a warranty.)
“Fundamentally, our goal is that [extended warranties] should make sense economically,” Abernethy says. “If you crack or submerge an iPhone you are basically out a $700 item. So the math actually does make sense.”
To many people, anyway. Personally, I’m too much of a tightwad to pay for extended warranties, and I justify that decision by telling myself I’m more careful with my gadgets than the average person.
There’s no guarantee, of course, that I won’t end up like my brother, who had to buy a new logic board for his MacBook Pro after his young son puked all over the keyboard. (Now they call it the BarfBook.) But I’ve been lucky so far—knock aluminum.
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