Credit Meltdown Eliminating Dealers As Automakers Couldn't
October 07, 2008
By Dale Buss
The Big Three U.S. automakers have been trying to get rid of their weakest dealers for years, but the weeding-out process has gone far, far more slowly than car company executives have wanted.
Now, this year's double-whammy of economic shocks - explosive gasoline prices that scared consumers away from large vehicles, followed by the current financial crisis that is constricting credit at every level - has already begun culling out U.S. car dealerships at a rate far faster than General Motors, Ford and Chrysler brain trusts could even dream was possible by their methods.
The Chapter 11 bankruptcy filing last week by Bill Heard Enterprises, the nation's largest chain of Chevrolet outlets, was only an inkling of the trouble that has begun overwhelming America's car-distribution network.
Edmunds.com research shows that as many as 30 percent of U.S. dealers faced dramatically worse profitability from new-vehicle sales last summer compared with 2007, and 70 percent of U.S. dealers faced at least some deterioration.
And so now, new projections are emerging almost daily of a market-rationalizing Armageddon for auto dealers during the fourth quarter.
Grant Thornton, the accounting firm, recently estimated that 3,800 of the nation's more than 20,000 new-car dealerships would have to close soon to maintain last year's average sales per dealer in today's greatly depressed market. That followed a projection by the National Automobile Dealers Association that as many as 600 dealerships may shut down or consolidate with other dealers this year compared with 430 dealership closures last year.
"It's like the 800-pound gorilla meeting the perfect storm and dancing," said Todd Smith, a former dealership executive and now a consultant as president of Lear LLC, in Orlando. "There's going to be a massive shift."
Mike Yatsko, Chrysler's director of dealer operations, agreed that the economic pressures are driving dealers "to action -- whether that's saying, 'This is a good time for me to sell,' or, 'Maybe this is a good time for me to make [an acquisition] that's going to make my operation more competitive in the marketplace."
Consider Aaron Zeigler firmly in the latter group. The president of Zeigler Automotive Group, based in Kalamazoo, Mich., is eyeing potential acquisitions of about four or five other dealers right now -- at prices he estimated are about half what they would have been a year ago.
"This is a tremendous opportunity we're trying to take advantage of," said the head of a group of 10 dealerships and 27 domestic and import franchises in Illinois, Indiana and Michigan.
Category 5 Storm
Columbus, Ga.-based Heard was the 13th-largest dealership group in the country by volume, and its cessation of operations closed 14 showrooms and laid off nearly 3,200 employees in six southern and western states. Heard's situation was a bit of a one-off because, reportedly, the dealerships logged extremely high levels of complaints about treatment of customers. And then in August, GMAC refused to continue financing for some of Heard's stores.
But the rapid deterioration of the new-car market last month clearly tipped Heard into bankruptcy court. And those economic gales now are beating hard against the doors of every dealership in the country.
Their problem only begins with the fact that the pace of American auto buying has declined so precipitously that overall sales will come in at only about 13.9 million for all of 2008, according to a projection newly released by Edmunds.com, compared with 16.1 million unit sales in 2007. Amplifying the financial pressures inherent in that number is the massive shift of consumer preferences over the last several months to smaller, more fuel-efficient vehicles that are far less profitable for dealers - and automakers - than the large SUVs and pickup trucks that have become Big Three staples over the last 10 to 15 years.
The more immediate reason for the breakdown, however, is that auto dealerships absolutely run on credit. And now, dealers are losing floor-plan financing. Automakers have restricted their leasing programs. Many former customers no longer are individually credit-worthy. And more and more Americans with the desire and wherewithal to purchase vehicles are simply holding out until the crisis on Wall Street and in Washington is resolved - or until they can get an even better deal.
"An increasing number of dealers are simply closing their doors because sales have plummeted, credit has dried up, the overall retail environment is increasingly challenging and potential investors are sitting on the sidelines, said Paul Melville, a Grant Thornton partner in Southfield, Mich.
Beaten Down
Based on comparisons of total gross profits from new vehicle sales of about 25 percent of the nation's auto dealers, this year and in 2007, Edmunds.com concluded that 25 percent of gross dealer profits were lost. Meanwhile, 30 percent of dealers dropped from more than 55 monthly new sales in 2007 to fewer than 55 this year.
"And of the 70-percent of dealers who saw a drop in total gross margin this year, 28 percent lost more than half of their gross margin, and 42 percent lost at least some," said David Tompkins, executive director of industry solutions for Santa Monica, Calif.-based Edmunds.com. "The troubles of very recent days only add to the tremendous stresses on dealerships that we measured."
Key Findings of Edmunds.com's Dealer Profitability Analysis
25-30% of dealers faced dramatically worse profitability from new vehicle sales in summer 2008 vs. summer 2007, with 70% of dealers facing at least some deterioration
25% of total gross dealer profits were lost, 2008 vs. 2007.
30% of dealers dropped from more than 55 monthly news sales in 2007 to under 55 in 2008.
70% of dealers saw a drop in total gross margin, 2007 vs. 2008
28% lost more than 50% of their total gross margin
42% lost some, but less than 50%, of their total gross margin
Some dealers performed better in summer 2008; 27% increased their total gross margin over 2007
Source: Edmunds.com
Not only are new-car sales down, Grant Thornton noted, but also other sources of revenue for dealers have fallen, including used-car sales and financing profits. For example, CarMax Inc. reported that its average used-vehicle selling price declined by 6 percent in the fiscal quarter ended August 31. CarMax has said it will lay off 600 workers as a result of lower sales.
Meanwhile, property values also are easing. Prices are down more than 11 percent from their peak in October, 2007, according to the Moody's / REAL Commercial Property Index.
"Significant consolidation is necessary," Melville concluded, "especially among Ford, General Motors and Chrysler retailers," because the domestic Big Three accounted for more than 85 percent of the total decline in sales this year -- and their sales per dealer already were well below the industry average.
Stubborn Group
It's not as if the Big Three haven't been trying to address this lingering problem. Over the last decade or more, they've tried carrots, sticks, and carrot-and-stick combinations to try to remove the expensive and inefficient legacy of their networks of small, individual-brand dealerships whose basic structure and operation stretched back a half-century or more. Meanwhile, Japanese and European brands new to the market have had the luxury of establishing networks from the ground up of fewer, larger and the most capable dealers.
GM, Ford and Chrysler have tempted targeted dealers with buyouts, bribed owners with corporate positions, and combined those tactics in frustrated efforts to manipulate a vast streamlining of dealer networks, sometimes on a metro-by-metro basis. They've eliminated brands such as Oldsmobile and Plymouth and combined others for dealership purposes, including Buick, Pontiac and GMC, and Ford, Lincoln and Mercury.
But as independent business people with lots of economic and political clout, dealers have proven a tenacious lot. "Dealerships are often the largest small businesses in their communities," noted Paul Taylor, NADA's chief economist.
And observe dealers' ability to hang onto their linchpin status in another arena: the internet, where state franchise laws have protected dealers from getting squeezed out of the action and so far have prevented the actual consummation of vehicle purchases online.
The Detroit Three have continued to encourage their dealers to consolidate, especially in major metropolitan markets including Los Angeles, Chicago and Boston. But, as Grant Thornton's Melville noted, "Credit availability for potential buyers, the increasing cost of floor plan funding, lack of financial support from automakers, the general reluctance of dealers to sell at depressed values, and the unrealistically high price demands by sellers has slowed the orderly progress of voluntary consolidation."
Faster Progress
Each of the Detroit Three protests that it has made accelerating progress on this front.
GM had about 6,550 dealers at the end of August, down more than 200 from its 6,776 dealers at the end of 2007. "That tells us that we're consolidating and reducing," said spokeswoman Susan Garontakos.
And the company isn't particularly bothered by the temporary - at least - loss of Chevrolet volume through the Heard dealerships. Mark LaNeve, GM's North American sales vice president, has noted that Heard's outlets represented only about 1 percent of GM's retail sales and controlled only about a half-percent of its inventory.
Ford said that its number of dealers is down more than 8 percent since 2005 and that its number of standalone Lincoln-Mercury dealers has been reduced by nearly 30 percent in that period; meantime, there are 16 percent more combined Ford-Lincoln-Mercury outlets.
And Chrysler recently hatched a new umbrella for its dealer-consolidation initiative called Project Genesis as it attempts to get fewer, better dealers selling all three of its brands. By the end of the year, Chrysler expects its dealer count to be down by more than 200, to about 3,378, compared with the end of 2007, Yatsko said.
"At this time last year, we had 50 percent of our dealers selling all three brands," said Steven Landry, Chrysler's executive vice president of sales and marketing. "We're now at 60 percent selling all three brands. We're making progress and tracking ahead of our target."
Lightning Changes
Clearly, the current economic shocks are rapidly changing the deal-making environment and helping the Detroit Three gain on their consolidation goals - through the pain being experienced by individual dealers.
"As our market share has continued to decline, conversations [about dealer consolidation] - while still extremely difficult, because these are people's businesses - are getting easier," said Ford spokesman Mark Schirmer. "People are recognizing that they're not profitable and not successful, and they need to make decisions."
Chrysler's Landry said that, "in the past, some dealers would hang on to their property because it was increasing in value, not relying as much on the number of vehicles sold. But with the flattening or coming down of property values, they are more willing to be a player in the consolidation effort."
Smith, the consultant, said "there are a lot of guys who maybe shouldn't have been operating and who have just hung on for a long time. Manufacturers will be happy to see those guys go away."
Actually, NADA's Taylor said, the loss of 600 or even 700 dealerships this year "would be consistent with yearly net losses in a recession like that of 1900-92," when dealership net declines were 625 in 1990, 700 in 1991 and 550 in 1992. Even in 1993, with strong economic growth, about 100 dealers went out of business.
In any event, Grant Thornton's Melville predicted that buyout offers will look better and better to dealers from now into early 2009. "Prices will come down as the weak market continues to erode franchise values, and as liquidity returns, we see more consolidation deals proceeding," he said.
Some dealers, Melville said, will consider entering into sale-leaseback arrangements for their real estate so that they can get cash to fund operations or make facility improvements. Others, in prime retailing corridors, may try to survive by subdividing their land, streamlining their dealership and its footprint, and selling the balance to investors for redevelopment.
Bottom Feeders
Of course, there's a flip side to this phenomenon: Some dealers will get bigger and healthier by acquiring failed operations and inventory from the dealers who are folding.
"There are dealers who see the opportunity and view this as a good time to buy," said Chrysler's Yatsko.
Zeigler said that the loss of floor-plan financing has been decisive for most of the troubled dealers who are calling him to inquire about his interest in buying them out. "Guys who had good businesses at one point aren't bankable now," he said. "They're the ones who went out and did big capitalization loans to buy dealerships. If things are going well, those things work out fine, but if they don't work out well, these guys really struggle." By contrast, Zeigler said, he has built his organization with a conservative financial strategy that has favored cash investments.
Given that even well-run and healthy dealerships are encountering unprecedented stresses this year, the Big Three also have been trying to help them prosper. Chrysler, for example, has "taken a hard look over the last year at all of our facility requirements," Yatsko said, and has reduced some requirements for total land, showroom area and service bays.
"That reduces capital needs," Yatsko said. "We want our dealers to have great presence, and to satisfy customer convenience - we won't sacrifice that. But there are ways to do that smarter and to help dealer profitability."
All automakers also are trying to help dealers work through their initial klutziness on the Internet via measures such as teaching them how to better pursue online sales leads. "Dealers don't see the walk-in traffic anymore that they used to see because everybody's just visiting web sites now," said Smith, who among other things helps provide online-chat services for dealers' web sites.
Honda's Inscrutability
But Smith noted that the shakeout and accelerating dealer consolidation may not bring only progress. "It gives [OEMs] a free pass to get rid of a bunch of stores that are what they consider non-performing assets," he said. "But does it destroy their brands?"
And meanwhile, of course, not every automaker has had to drag around legacy dealer networks like an anchor. Japanese and European makes have been able largely to stay out of the consolidation game because of this.
"We have a pretty modest-size dealer body, and they've been consistently the most profitable in the industry," said Greg Thome, a spokesman for Lexus, the Toyota luxury brand whose dealers number only 225 nationwide.
Honda Performance: Mixed Performance
Honda dealers did well overall, but performance still was mixed:
79% increased their total gross margin over summer 2007
6% saw total gross margin fall by more than 50%
23% saw total gross margin fall by less than 50%
Source: Edmunds.com
Meantime, pressures on domestic Big Three dealers have been exacerbated this year because their brands, for the most part, have led the sales decline.
While 40 percent of Ford dealers saw their gross margin fall by more than 50 percent so far this year compared with 2007, for example, according to the research by Edmunds.com's Dr. Tompkins, only 6 percent of Honda dealers saw their total gross margin fall by more than 50 percent. And, meantime, 69 percent of Honda dealers increased their gross margins this year over 2007, while only 14 percent of Ford dealers did so.
Honda "definitely [has] a positive story to tell about the health of [its] dealer network," said Honda spokesman Chris Martin, "but we'd rather not throw it in the face of others that might be having difficulties."
Mixed Dealer Performance Based on Make
Makes losing more than 40% of total gross new margin, 2008 vs. 2007:
Hummer
Volvo
Saab
Acura
Jeep
Land Rover
Ford
Makes losing 25-40% of total gross new margin, 2008 vs. 2007:
GMC
Porsche
Cadillac
Chevrolet
Mitsubishi
Lexus
Chrysler
Buick
Suzuki
Dodge
Hyundai
Mazda
Makes showing improved profitability from new vehicle sales:
Honda
Mini
Jaguar
Subaru
Source: Edmunds.com
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