Heavy discounting and added costs by U.S. automakers are bleeding its dealer bodies

Ed Wallace

Most auto industry observers think they know what is wrong with Detroit. As General Motors weighs a possible alliance with Renault and Nissan, and Ford hands out the pink slips and slashes its dividends, the Greek chorus of critics has its favorite targets of what to fix first: expensive labor contracts, poor understanding of the market, mediocre designs and quality, resistance to hybrid technology and an ossified bureaucracy that is out of touch with reality.


Yet, the sharp-eyed will have noticed that progress is being made in all these areas. Labor contracts are being renegotiated, Ford , General Motors and DaimlerChrysler's Chrysler division are coming out with some of their best cars ever, hybrids and alternate fuel vehicles are being fast-tracked, and management is being shook up.

But there is one fundamental problem that is largely ignored—and unaddressed: Detroit's manufacturers are slowly killing their dealer bodies.

It's ominously like the way they managed to bankrupt so many of their automotive parts suppliers. Why is this so important? Well, if your parts supplier goes out of business, there are always others who want your business, usually from cheaper overseas manufacturers. But when you bleed the financial life out of your dealers, who's going to sell your automobiles?

MANAGEMENT 101: "YOU'RE NOT SALES." Detroit's demise will stem from one faulty premise: That auto makers know anything about how to actually sell a car. Not one senior executive is a former successful salesman; yet they consistently ignore their dealers, preferring to base their business model on consumer surveys.

One of the car business' greatest contradictions is that on surveys people demand non-negotiable pricing, but in real life usually negotiate like their lives depend on it. As further proof, during last year's Employee Discounts for Everyone at GM dealerships—which frequently included additional cash rebates—hundreds of individuals e-mailed me asking how much they could get off those Employee Prices. That's right, the biggest "gift horsepower" Detroit has ever given retail consumers, and some buyers looked it right in the mouth and wanted to negotiate.

MINUS MARKUPS. The very fact that incentives, dealer rebates, and subvented interest rates are now the norm in the industry suggests that Detroit has built its house on sand. For, in the fervent belief that consumers truly hate negotiating, the industry has adopted the practice of cutting the markup on their products. So small are profit margins today that, even if a salesperson discounts a vehicle to the invoice amount, neither the customer nor the dealer is satisfied with the proposed offer.

For example, today a Mercury Grand Marquis with a list price of $25,680 carries only a $910 markup to the dealer—assuming the car sells for the sticker price. Chrysler's big summer clearance of Employee Discounting means that a 300C sedan with a window sticker price of $26,088 can be purchased for $23,746.

Even the importers are starting to strip away dealers' ability to negotiate the deals that their very real customers demand. For example, the new Volkswagen Rabbit base edition carries just $261 markup . That guarantees that even if every Rabbit sells at list price, it still won't cover the dealer's cost of doing business.

CONVERTING THE DEALER'S PROFITS INTO DETROIT'S. Reimbursements for things like preparing a new car for delivery to its owner have been slashed by up to 50% at Chrysler over the past few years. Further, I wonder how many new Chrysler owners realize that they paid $25 for the "thank you" letter they got from the corporation; it's listed on the invoice as "DaimlerChrysler Owner Loyalty Mail." Thus, the perfect question to ask Daimler Chairman Dieter Zetsche at his Web site would be, "Why do I have to pay Chrysler to thank me for my business?"

Chrysler also lists on the invoice a charge for the eight gallons of gasoline to be put in the customer's new car—and then strongly suggests that the balance of the fillup come out of the dealer's pocket, whether the dealer made money selling the car or not.

There are many other examples as well. Today many new car dealers are paying interest rates as high as 9% for floorplanning their new car inventory. That means Lincoln dealers are paying a great deal of money to carry something like a loaded Town Car. Yet consider today's retail incentives for the Town Car: $7,000 cash back, a $1,000 gas card, $2,000 in owner loyalty cash, and another $1,500 paid directly to dealers for each sale.

Additionally, Ford demanded that Lincoln Mercury dealers build new standalone facilities over the past few years, and then gave them almost nothing new and exciting to sell. Consequently, many larger Lincoln Mercury dealers who, as recently as the late '90s, sold 90 to 120 new vehicles a month, found themselves paying mortgages on $8 million properties while watching their volumes fall as low as 30 to 40 sales a month.

Ask any Chrysler or Dodge dealer how angry they were about the sales bank operations of the corporation, in which vehicles were built that no dealer had ordered, and then local zone personnel spent their entire week browbeating dealers into accepting the surplus. Rumor says that the last Texas Chrysler dealer meeting turned into a seriously heated event over this issue alone. Twenty-six years ago Lee Iacocca promised that Chrysler would never again build cars that dealers had not actually ordered; but, as the saying goes, "Never say 'never again.'"

PLANNING YOUR FUTURE ONE DAY AT A TIME. Today, there is so little markup in most vehicles that dealers can no longer handle retail sales by themselves. They can't plan advertising for even the shortest period in the future because their lack of markup means they have nothing to offer customers in the way of special sales. Instead, they must rely on the next series of incentives to move the market.

Nor, most of the time, do dealers know what the incentives will be in a month. How can a dealer order the correct vehicles if he doesn't know which ones will be affected by the next round of manufacturer discounts? And what about the vehicles a dealer orders that never do get the huge rebates—which dealers now need, to offset both their new inability to negotiate sales and to cover the climbing costs of doing business?

On the other hand, Detroit has often ruined what little trust existed between the dealers and the retail consumers by telling dealers about incentives in advance. Chrysler informed its dealers 10 days beforehand that they would be able to offer Employee Discounts during the month of July. And so for 10 days, when a customer asked the salesperson that most pointed of questions—"Is this your best deal?" —the choice was either to lie to the customer or to refuse to sell the vehicle until the first of the month.

General Motors put its dealers in the same no-win situation with its employee discounts a year ago—and then repeated the error this year. The word was out a week early that Zero Percent Financing for 72 months was about to happen. I wonder how buyers felt who drove their new Chevy HHR home three days before they could have gotten the loan interest-free from GMAC? Do you think they will ever buy from GM again? If I'd been taken for that much money, I wouldn't.

A WASTELAND, UPSIDE DOWN. One other situation needs attention drawn to it. Although most dealers have not complained about this practice, in recent years manufacturers have from time to time paid additional factory-to-dealer incentives based on retail volumes, or their accepting vehicles they do not need, or on some combination of the two. This gives the highest-volume dealers a lower cost per car—a big edge over some of their most prudent competitors, who are simply trying to run a tight ship. However, unless I'm misreading the 1956 Dealer Day in Court Act, it is against federal law to base the wholesale price of an automobile on the dealer's sales volume.

In some cases I've studied, certain dealers actually sold their vehicles and intentionally lost money to close the sale, believing that they would receive the additional dealer rebates from the factory; but they missed their sales target and therefore lost all the money. This is a practice that needs to end simply because it violates the intent of that federal law.

Let me remind you that American car dealers over the past 30 years have survived two major energy crises (not including the current one), five recessions, a 21% prime interest rate, and some fairly disappointing products. But they had an overpowering will to survive, and so they did, with nothing more than their personal belief that they could move the market and earn their customer's business. Today, Detroit's executives think they know retail better than their dealers do. So they have starved them of their profit centers and reduced them to mere delivery outlets. The manufacturers' rebates mean it's Detroit, not the dealer, that determines how much cars should be discounted and therefore how many will be sold each month.

This is why, contrary to widespread belief, GM has the best shot at survival. Of the Big Three, the General still treats its dealers best. But, if I were William Clay Ford Jr., Ford's chairman and chief executive, I'd quit discussing pipe dreams like ethanol and start figuring out how to get my dealers profitable again, or face the possibility that soon there won't be enough dealers left to sustain the corporation. There are exceptional domestic dealers who still outperform their local markets, true; but if the majority of dealers abandon the idea of high volume sales and start cutting their way to a profit, even the best will suffer as more and more dealers give up on Detroit.

 

Dealers also hurt themselves just fine without any outside help.

 

I suspect we may be at a day and age where dealers, in general, are starting to outlive their purpose. Automation and technology is allowing for it to be more feasible to bypass the middle man.

Granted hardly anyone wants to buy a car without seeing it in person, driving it, etc, so there would still need to be manufacturer-sponsored locations with demos available and a minimal staff waiting with the keys in hand.

But I suspect if the average manufacturer can work on their supply system and streamline the delays to where there's 4 weeks or less between order and delivery... that many people will accept that, especially if it allows for even lower prices and a more enjoyable buying process ie: no haggling, just check off the boxes you want on the options list and go.

Granted I'm seeing this as a transition over the next 15-20 years or so... I don't mean anytime soon. But I think, for example, if GM opened a 'direct order' location in a major city, you'd see the dealers there have dramtically reduced sales - reduced down to only those who're willing to pay more and potentially not get the exact car they want so that they can get it now and not 3-4 weeks later.

What about trade-ins? Leave it to the used car places... especially the more modern set in stone ones like carmax. Get a couple used car places to bid on your car - go with the high bidder. Or we might just see localized ebay auctions take over within 15-20 years anyway when it comes to used cars.

Dealerships cost a LOT to run - you know how the industry was revolutionized with JIT manufacturing where parts didn't just sit around in mass quantities waiting to be used (and thus costing the manufacturer money due to cash tied up in currently non-returning assets as well as costing them money for storage space). Well, if they can manage to cut the dealer out, so that inventories of thousands of new cars don't just sit out baking in the sun every day all over town... that'd be like JIT 'sales', in a way.

 

I agree Threxx. I am a huge fan of Chevrolet cars and Trucks and I typically will goto the GM website if I am looking at a vehicle and "Build my own". I select all the options that I want. Generally I have been in said vehicle before so I expect what to expect as far as the vehicle goes. I do agree that they should have places where you can test drive vehicles and MFG direct lots just in case I haven't been in a certain vehicle before.

That's one thing that always pissed me off is "Building my own", and all I want to do is have a button where I can "Purchase" but then I get directed to a dealer. Blah

But it will probably never happen.

 

The problem with that is that (at least around here) you pay sales tax on the difference between the new car price and trade-in. So if you're not trading in where you buy it, you've lost the cost of the tax on your trade-in.

Also dealerships are required for warranty service. I suppose the factory outlets could do that, but then you're basically creating a dealership all over again.

As for build-to-order, I don't think many people are willing to wait 4 weeks for their car. Especially with the unpredictable nature of incentives, people tend to make pretty quick decisions when it's time to buy a car.

Overall I have no sympathy for dealers. As Graham said, they can do a fine job hurting themselves. And I know my local GM dealership owner has a $2 million home in town so I'm guessing he's doing fine.

 

Well... that and right now the website only gives the obviously unrealistic MSRP prices and completely crappy lease rates (on the lease calculators, anyway)

If they gave actual competetive non-negotiable pricing on the web with a 'order now' button that directed you to a live rep who would take your information and down payment... that would REALLY streamline the process IMO. Reduce stagnant costs by a ton and allow people to get exactly the vehicle they want.

But again, this won't work unless they focus on improving their order to delivery time.

Actually, you know what - this system would give domestic built vehicles a sizable advantage too... since vehicles produced overseas often times can take twice as long to come in when ordered...

 

Good point and I thought about that as I was writing what I wrote but I've always thought it wouldn't be too hard for the government to modify the laws for the times a bit and allow used car dealerships such as carmax to give you an official certificate with a 60 day expiration or whatever that would give you a tax-free tradein credit. It's never made sense to me that the government only gives you credit if you trade in and buy at the same place. The numbers would work out the same in the end whether you use two dealers or one. Or heck, even private party for that matter.

Well yes you'd still need warranty service areas - but the part I'm trying to eliminate is the masses of unwanted inventory sitting out on dealer lots. And besides, if you just went with one 'factory outlet' location versus 5 or 6 chevy dealers in a metropolitan area... you'd still only need one giant service area instead of 5 or 6 smaller ones. Added bonus here, IMO, is that the manufacturer would be responsible for customer satisfaction and you can be damn sure they're going to want customers to leave happy every time. What's the line we seem to hear a lot when somebody gets completely dicked over by a dealership's service department? "Oh sorry, but unfortunately we can't tell our franchises what to do... you'll have to take it up with the owner of that franchise".

Well, just change the rules to where incentives apply at the time of order, not at the time of delivery.
As far as the 4 weeks to wait for their car... I agree that not everyone will want to wait that long, but I bet a LOT of them won't mind if they can get a better price and get EXACTLY the combination of options, color, and config they want. Plus, who knows, maybe the 4 week time can be slimmed down even more for domestically produced vehicles. Automation could easily make this happen. I know it's possible for a car to go from non-existant to 100% ready for the customer in 4 days with JIT and automated manufacturing. Add transport times to that and I don't see why 1 week might eventually be possible with proper streamlining of technology.

 

Due to franchise laws, automotive manufacturers cannot directly sell to the public. So unless these laws change it won't happen anytime soon. Whoever sells you the cars must be its own buisness entity.

 

Thats interesting, the dealers are really squeezed between a rock and a hard place.

They in turn put the customer in the same position though...

 

I'm sure there's some form of expiration on the contracts, or loopholes, or if nothing else, ways the manufacturers could economically encourage things to change.

 

Almost all dealerships work off something similar to a consignment principle. They've got a revolving line of credit that they use to 'buy' vehicles. GM books the revenue for the sale the minute the car leaves. The dealer's financer has already paid GM for the vehicle. The dealer hasn't paid a penny (yet). Each month that the vehicle sits on the lot, the dealer has to pay their financer interest.. which is why it's important to know the build date of a vehicle and or vehicle's average inventory age stats before you start your auto-purchasing quest. You've got more bargaining power when the cars aren't moving. The longer the car sits on the lot, the more interest the dealer has to pay. It's really not costing GM *anything* for a vehicle to sit on a sales lot; they've already gotten their cash.

GM benefits by having a large dealer presence. As a retailer, you don't want a customer to have to hunt-and-seek to find your products. Easy access to service is a plus as well.

What happens when a car isn't selling? GM pulls out a stick and beats the dealer with it; like this: Dealers with the a higher volume of sales have easier access to cars that are selling fast.

One last thing to think of: If you legitimately negotiate a dealer down to small profit; let's say $500, you should *never* think of it as 'only a $500 profit on a $25,000 vehicle' because the dealer never put forth $25,000. The dealer paid out $120 in interest every month. If the avg car sells in 55 days, then the dealer is out about $240. Who wouldn't outlay $240 to make $500? How about $1000? Or $2000? That's a fantastic return if you ask me. Lastly, most manufacturers have something called a 'dealer-holdback'. The idea is that long ago, fly-by-night-dealers were going bankrupt. It seems that taxes are payable at certain times of the year & certain dealers weren't setting the proper amount of money aside to pay uncle sam.. so that when the tax bill came due, they weren't good for it. GM, Ford, and others needed to do something to stabilize the issue. Their solution was to put build a small percent of profit into every vehicle that they'd release to the dealer at tax-bill-time. So when you see, or pay a dealer's invoice-price - you need to remember that the dealer still has profit burried in there.

 

You could get it down to one week, but you'd either pay for it in reduced option count or increased vehicle cost. (For examples, see Honda vs. BMW)

JIT (Lean Production) only really works when you have a consistent model mix and level production. You have to forecast demand accurately to have all the parts ready to build the car and achieve the smoothness in production volume required to maximize efficiency. If you can't do this, you either have high inventory and its inevitable scrap ($$$) or a streamlined model mix (a couple of choices). It's JIT, but not as efficient as true lean production.

For example, it may be very difficult to predict how many people will order power windows, traction control, navigation and leather seats separately, but it would be much, much easier if you lumped them all together into a single package and had to predict how many people would buy a loaded car vs. a stripped model.

But I'm skeptical. Automation doesn't necessarily speed things up in an auto factory. I also suspect that your 4 day rating is based on the way someone like honda builds cars. If you order up a new Mustang, ford will give you a VIN# and a few days/weeks later will build YOUR mustang. Order up a new honda, say a green Civic base model with a manual trans and the factory will say "well, we build one every 187 cars, there's 94 left to go before the next one, but that one will be yours. Definately faster, but they weren't building it based on your order, they were assigning your name to something they were going to build anyway (on anticipation of your order!). They constantly revise production levels based on the orders of this limited model mix. Fast, but not as fun as ordering up a new Mini or BMW with a million options. Also kind of pointless, IMHO. If I can't get exactly what I want, might as well just buy off the lot.

But regarding the Dealers... on thing that needs to be fixed is the allocation system. I actually CANCELLED the order of my Bullitt Mustang. Why? Because it was getting near the end of the production run and I hadn't even been issued a VIN (after more than 3 months). Why? Because the dealer couldn't get any Bullitt Mustangs untill they sold X number of Focuses or Tauruses or whatever. I was irate. I mean seriously....BUILD THE CAR FOR A PAYING CUSTOMER. Idiots. I ended up buying on off of a dealer lot, but I could have just as easily bought another brand of car.

 

Very interesting post, cmutt.