The Three Fundamental Challenges to Traditional Dealerships Auto dealers have faced down many challenges over the past 50 years. They have triumphed over oil embargoes, 20% plus interest rates, and economic recessions. Each took its toll on the dealership body, but the basic system of privately owned, entrepreneurial franchised dealerships was never in question. Ironically, just as the dealership community is enjoying prosperity beyond its wildest dreams, three fundamental threats are quietly coalescing to imperil the traditional model of automobile retailing.
The attacks are not only direct frontal challenges from public consolidation, but also flanking attacks from assumed allies, like manufacturers and rear guard actions from new age alien armies collectively called the Internet. The result is that the traditional dealership role in selling cars to retail customers is becoming marginalized reducing long term profit potential and threatening the very existence of many dealers.
The first challenge has been consolidation, which has been accelerated by public funding of several dealership groups. Consolidation has not been localized to the dealership community, but is an inexorable tide in the entire automobile industry. Its goals are to achieve greater competitiveness through the development of critical mass.
The truly significant advantage of public dealerships, however, can be found with their financial strength. Public consolidators can access capital in larger amounts and on better terms than most privately owned dealers. For example, Group One recently announced a new billion-dollar credit facility provided in part by the captive finance arms of five manufacturers.
Just as important, there are no personal guarantees associated with that borrowing. Consequently, public consolidators can afford to be much more aggressive in acquisitions and capital expenditures. A case in point is the merger of FirstAmerica Automotive with Sonic Automotive, which included the assumption of $175 million in long-term debt. No private dealer would have made that deal no matter how big the opportunity. The personal risk would have been too great.
If anyone has thrown down the gauntlet on the traditional system it's AutoNation. AutoNation intends to be the first nationally branded dealership chain. Their goal is to offer customers a pressure and negotiation free alternative buying experience. One of the most powerful weapons in their arsenal is their AutoNationDirect Internet concept, which will integrate bricks and mortar stores with their proprietary web site. This will be the first major web merchant that will actually be able to sell, finance, and deliver cars out of their own inventory. AutoNation will empower the consumer to buy virtually any make car through any chosen process on highly competitive terms. To borrow a phrase, they are telling the customer "have it your way."
Another challenge comes from manufacturers. Given the latest attempts of Ford and GM to get directly into the retail dealership business, it's no wonder paranoia has struck the dealership body. Manufacturers have spent the better part of the decade wringing out inefficiencies from their production process by leaning on their parts suppliers to lower costs and adopting "just in time" production techniques. In order to amortize capital costs over a broader base they are sharing platforms across products like Lincoln and Jaguar. Now, their attention is being turned to the distribution channel in their quest for cost savings.
Most manufacturers are ambivalent about their network of franchised dealers. No doubt there are those in the manufacturer community who believe that some dealers are making outsized profits that should belong to them. But it goes deeper than that. This is a fundamental question as to who owns the customer. Public consolidation, as well as shifting consumer attitudes has conspired to reduce loyalty to individual brands with the resultant fear that "shelf space" will eventually be awarded only to "hot" products. This is antithetical to the historical control manufacturers have been able to exert over their franchised dealers and inconsistent with their desire for dedicated and committed product and image branding.
One response to the manufacturers' dilemma is "supply chain management". According to this theory, by determining the customer's needs first, cars could be built to demand, thus ending the wanton production of excess inventory. Costly incentives to move undesirable cars will be a thing of the past. The idea is to eliminate waste while supplying the customer the vehicle he wants at a price he will pay.
"Supply chain management" is not just ivory tower future think. In early November Ford announced a new venture with Oracle to begin putting a system in place. Ford plans to use the Internet to share their market information so that everyone in the production chain, Ford and its suppliers, can produce exactly what's needed, when its needed. And you might ask how is Ford going to get this market information? Are they going to turn to their dealers?
Well, in a word-No. They plan to leap frog the dealer and go directly to the customer. Ford has teamed with Microsoft's CarPoint for front-end information. In theory, the consumer will enter the order on CarPoint and Ford will build the car to customer specification. The dealer then becomes the delivery point and service facility. Whereas traditionally the retail customer was considered the primary relationship of the dealer, now the manufacturer wants to control that relationship.
This is the natural segue to a discussion about the rear guard action often referred to as the Internet. According to Jac Nasser, the Internet is the tool that will "break down the artificial barriers to free trade". He did not say this, but I wonder if he was referring to the franchise laws that have been the bulwark of defense behind which the dealership body has prospered.
To say that the current status of the car dealers' relationship to the Internet is in flux would be an understatement. The Internet is already beginning to subvert traditional areas of geographic dominance and with it, pricing on new and used cars. Nevertheless, the current cadre of Internet lead generators is only a way station to more sophisticated customer empowering prototypes.
Auction sites like Priceline.com or direct vendors like CarsDirect promise to force dealers to compete against other dealers irrespective of location or capital investment in
facilities. Once the customer decides on a particular vehicle, the sale will be controlled by an Internet service diminishing, if not eliminating, the traditional relationship between customer and dealer. The end game could conceivably make all vehicles no more than commodities, and in that case, the low cost provider wins. The Internet could be the biggest catalyst of fundamental change.
No crystal ball exists to predict if any of the three challenges will prevail. In some ways they are toxic to one another. Nevertheless, what is abundantly clear is that with all these fundamental challenges, the traditional dealership model is becoming marginalized and profits will be tougher to find. The conclusion is that values may have already peaked and in many cases dealerships are now eroding assets.