Ownership/Operations
New Vehicle Inventory –Month's Supply Analysis
By Fred Samuelson
Factories make it very easy to stock new units. You just have to sign the stock order form that is put in front of you. The units are built, shipped and delivered to your lot. And best of all, you do not have to write a check for them since they are just added to your floor plan balance. An invoice for the New Sales Department is provided so salespeople know exactly what units are available for sale.
This entire procedure, though simple, can become a big source of Frozen Capital-not in the sense that we measure other asset accounts with actual dollars tied up, but in the unnecessary interest that you pay. Because the units are on the floor plan, often times no one is monitoring the inventory for reasonable model stocking levels.
The sales department typically wants a wide variety of models on the lot to enhance the odds of sales success. So, don't count on your sales managers to bemoan excess inventory. Someone in accounting might raise an eyebrow when the floor plan interest is paid. But paying excess floor plan interest such as $2,500 to $6,000 extra each month is not normal and is a clear sign that you have Frozen Capital. The threat of Frozen Capital lies in the internal system of knowing how many units you should be stocking and not having to pay excess interest on the overstocked units.
How to MEASURE your New Vehicle Inventory
How many months' supply of vehicles do you stock? The standard is no unit in stock in excess of 2.5 months' supply. Take a look at specifically where your inventory is building.
Do you have, as one dealer discovered, a thirteen months' supply in one model line? Don't think this can't happen to you. Many dealers have found out otherwise.
Take 10 minutes to calculate your month's supply. Here's how: Add the prior 3 months' unit sales (cars and trucks calculated separately) and divide by 3 to obtain a rolling average of units sold. Divide the number of units on hand by the rolling number sold in the previous calculation. The answer will give you your current month's supply of stocked units based on this three month rolling average. Then divide the total current stocked inventory (again, cars and trucks calculated separately) by the month's supply in the previous calculation. This will give you the month's supply of vehicles currently stocked. Again, this answer should not exceed 2.5 months' supply.
Let's make absolutely certain you know what you are doing and what it could cost you. Dividing the dollar value of inventory stocked by the month's supply will give you a one month supply value. Multiply the one month supply value by 2.5. The answer will give you the value of what you should be stocking.
Then subtract the 2.5 value from the total dollar value of inventory actually stocked. This remainder will give you the over-stocked inventory expressed as an excess amount of money invested in units (remember-cars and trucks calculated separately). Now, multiply this number by the floor plan interest charge. This charge is usually 1% over prime. Divide the answer by twelve, and this sum represents the excess monthly Frozen Capital Interest charge. Your target is ZERO. Make this calculation each month to determine if your Frozen Capital is increasing or decreasing.
How to MODIFY your New Vehicle Inventory
Following is what to do to modify your excess inventory. First, determine which model units are in excess. If you are selling one unit per month and stocking thirteen, then you have ten excess units. Second, target advertising toward those excess units to get rid of them. Third, when another dealer calls for a DX, ask them to take one of these extra units to help you achieve your desired stocking level. Fourth, put spiffs, or an extra incentive on the units so the sales staff will concentrate on those vehicles. It does not make much sense to continue paying that interest when you could attract the salesperson's attention with a bonus on the sale.
Remember that some units cost as much as $150 a month to stock. They just sit there because you ordered too many of them. Rectify the mistake. Step up to the problem and fix it. And most important, make sure that everyone knows that your signature goes on every new stock order form, from here on out.
How to MONITOR your New Vehicle Inventory
The monitoring of this inventory is really quite simple in that you just follow the same calculations and corrective procedures as detailed above. Remember to calculate your cars and trucks separately. When your managers know that you care about what is happening in your dealership, then they will soon get the message loud and clear: You, the dealer, are really paying attention to what is going on.
Another thing to monitor is the Fed's attitude toward bank interest rates. A quarter point increase impacts your total floor plan charges more than you may imagine.
Conclusion
When you compare the extra interest charge you might be paying on your new vehicle inventory, it very well could be a significant amount. One dealer was paying $2,500 extra in interest charges for many, many months. This total interest could be compared to financing a college education at a prestigious university. Couldn't you find a better place to put $30,000 a year in extra expenses? Think about it. It is your money I'm are talking about. Manage it wisely.
Fred Samuelson is the chairman of the board for MRI Associates, which provides financial statement analysis for the automobile dealer community. MRI also works hands-on, in-house with dealers to set up policies and procedures to correct inefficient operations, and provides follow-up phone coaching for selected managers. fsamuelson@dealeronline.com
