The Changing Face of Automobile Sales
By E. L. Eversman, Esq.
Twenty-five years ago, vehicle dealers felt secure that they could survive any changes in the economy because they offered a valuable service - selling cars. After all, people would always need to purchase transportation, and dealers were the exclusive gateway to those cars and trucks. Sounds like a pretty safe place to be, right? Well, not any longer. The face of automobile sales has changed so dramatically that, although it may seem no different when you drive by a car lot, the internal workings of the business bear very little resemblance to the auto sales business of the past.
Information has changed the power structure.
Today, the home page of every major internet service provider has a section devoted to vehicles. Without ever leaving home, potential buyers have the ability to investigate how particular vehicles are built, which models have the highest crashworthiness and safety ratings, the weight, horsepower, braking and restraint systems, and any other thing imaginable about a motor vehicle, including, of course, the invoice price a new car dealership pays the manufacturer for the vehicle -- in contrast to the manufacturer's suggested retail price (MSRP). Internet sites providing detailed car buying guides abound and a consumer is well armed to negotiate for the purchase of a new vehicle.
Car Prices and Costs, for example, provides detailed information about the true costs dealers pay to obtain vehicles from manufacturers. Armed with a dealer's actual cost, consumers feel empowered to offer to buy a brand new vehicle for some small amount ($50 to $200) over the dealer's true cost. Think about it. If a dealer received $50 in profit for every new car it sold, and let's not forget we are talking about gross profit, the dealership would soon be out of business. Therefore, the only way for a new car dealership to survive today is to make its profit elsewhere.
Making money on financing.
One of the first places dealers turned to replace those lost profits on sales was the car's financing. Traditionally, banks and finance companies pay dealers a percentage of the amount financed for putting the deal together and sending the business to that particular bank. While this payment arrangement appears suspicious at first, it makes economic sense for the financial institutions and for consumers - provided it is handled properly.
When vehicle dealers become "indirect lenders" for financial institutions, they act almost as mini-branches for one or more of the banks. The dealer takes a significant amount of paperwork off the hands of the banks, and the transactions move more quickly than if the bank processed all of the documents. By having the dealers prepare the paperwork for financing approval, banks are able to cut their costs in terms of personnel and equipment and can focus solely on financing. Compensating the dealer for taking care of the initial stages of work the financial institution would otherwise have to perform makes economic sense, as long as consumers understand they are ultimately receiving the benefit of this arrangement in terms of lower fees or financing costs.
A problem arises, however, when finance companies pay dealers more if they finance customers at higher interest rates. It creates the opportunity for abuse and places the consumer in a vulnerable position because the financing paperwork can be a chore to comprehend. The flip side of that issue is that the dealers suffer from manufacturer-funded zero percent financing. While manufacturers are scrambling to keep sales figures stable with 0% or very low percent financing, dealers need to continue to cultivate profit alternatives.
Used cars.
Whether you call them pre-owned, remarketed, or used, new car dealers are turning their attention to servicing this market segment. As a general rule, used cars are less expensive to stock than new ones, and the dealer is in control of the purchases. With new car purchases, manufacturers often force franchise dealers to purchase several poorly selling models (which sit on the lot and gather dust) in exchange for the right to purchase one or two of the top-selling models. In the used car arena, new car dealers do not have to work within these constraints, and they can focus on buying only those models customers truly desire.
Additionally, there is no set price, so dealers can ask a price without facing the customer waiving the internet printout of the dealer invoice cost and offering a $50 profit. If a dealer can stock two $10,000 used cars and sell each for a $1,000 profit, that person is far better off than stocking a $20,000 new car and realizing a $50 profit.
With franchise dealers moving assertively into the used car market, independent dealers now must compete with them for cars as well as customers. Not all that long ago, the used car retail market was primarily the undisputed ground of independent dealers. That is simply not true today. Independent dealers are nervous about the future, with good cause. They do not have the ability to offer 0% financing or other perks which may be available through a franchise dealership, and they are being hurt by changes in their funding sources.
Additionally, with manufacturers conditioning consumers into the "certified" pre-owned programs which offer reissued manufacturer's warranties, the customer base for independent dealers is shrinking. Many are looking to the high risk area of buy-here, pay-here, which services people with poor credit or limited resources, at a significant rate of interest. To be able to offer this service, however, dealers must have enough capital to be able to buy the inventory and finance their customers.
Dealer financing - what's that?
Banking institutions are contributing to the squeeze independent dealers face by refusing to offer dealer financing for inventory. Almost overnight, banks have largely pulled out of independent dealer financing, and some have given up financing franchise dealers as well. So, if inventory on lots looks a little thin these days, a lack of financing is likely to be the problem. After all, cars and trucks are costly, and dealers do not get them for free.
Many people operate under the misconception that dealers, particularly franchise dealers, do not pay for their inventory but simply sell cars for the manufacturer. This idea simply is not accurate. Dealer cost is exactly that: The cost to the dealer to obtain the vehicle. All of the profit we worry is being made on us when we buy a vehicle is not being realized by the dealer. If it exists at all in today's economy, it is realized by the manufacturer.
Change or be changed.
Both new and used car dealers are in a struggle to survive the changes we have seen recently in the vehicle industry. Whether they can survive being sandwiched in between the manufacturer's invoice cost and the suspicious consumer remains to be seen. One thing is certain, though. If dealers cannot find a legitimate way to increase profits, we will soon be buying our cars directly from the factory.
E. L. Eversman
The information provided in this column is for information purposes only and should not be construed as legal advice. You should always consult an attorney licensed to practice in your Country, State, and/or Territory as laws vary from Country to Country, State to State, and Territory to Territory. The author is delighted to share information but cannot be responsible for damage or adversity encountered by reliance upon that information and urges you to consult with local counsel.
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