Car dealer forecourts are bustling but big challenges are round the corner
Driving around Brisbane recently, Anthony Hayley felt his trusty old car stutter. There were a few more worrying clanks and bangs in the days to come, then it died completely. But then came the real shocker: he was told there was no chance of getting a replacement for nine months – if he was lucky.
Hayley, a director at Moore Australia, then turned his attention to a pre-owned car until the salesman told him a two-year-old version of the family SUV he was interested in would cost him A$60,000 more than a (non-existent) new one.
“Australia used to produce 400,000 cars a year but now relies entirely on imports,” says Hayley. “People can’t get hold of new cars so the knock-on effect is that the secondhand market is extremely buoyant. It seems incredible but the value of cars is showing the same trend as the value of property.”
Hayley, an expert in global manufacturing supply chains, points to Covid as the main problem. When the pandemic struck car production was drastically reduced, and orders for the silicon chips that control many elements of a vehicle’s performance went the same way.
Car production recovered but the silicon chip makers had switched focus to making components for phones, tablets, laptops and games consoles that people bought to offset the boredom of lockdown, or to be able to work from home.
The Semiconductor Industry Association (SIA) says that chip sales are running around 20% higher than in 2020. The problem for car makers is they are now competing for priority in factory order books and estimates of the negative impact on production vary wildly from reducing car production by two to five million units by the end of the year.
The United States is the world’s second largest car market and dealers are currently enjoying a prolonged boost in in business after an initial Covid slump. Prices have never been higher and margins are growing as new practices are introduced which streamline the buying process.
Many franchise owners switched showroom sales staff to telephone selling, which clinched deals faster and also helped them upsell high-margin warranty and insurance products.
“They realised that they had do things differently – they made changes and that increased gross profits,” says Will Fernandez, co-lead of the automotive practice at Citrin Cooperman, part of Moore North America. “They found customers were happier if they had salespeople actually closing the deal on the phone and they were getting higher margins because they were making a personal connection with less negotiation.”
Ironically, the pandemic has helped many in the auto trade out of a financial hole. Previously, there was oversupply and too many dealerships selling the same brands within a small radius. Sticker prices were constantly being slashed and manufacturer “stair-step” programmes meant if franchises missed their sales targets by just one unit, they received none of the incentive money they banked on to make up for loss of margin on actual sales.
“When that started seven or eight years ago the gross profit on new vehicles was often nil or negative,” says Fernandez. “Dealers were selling cars below cost to make sure they did not miss out on incentive money. That hit dealerships but it affected brands too and we hope we don’t see these progammes returning.”
Car sales are not, however, the main contributor to the bottom line for many dealerships. Margins on new car sales are 4-5% but they can make much more on servicing: perhaps 70% on labour and 35% on parts.
In the main conurbations of the US north-east, dealers can absorb 60-70% of their entire fixed costs through parts and servicing. In the south-east, the figure is 100-120%.
The threats to this improved financial position are twofold: the lack of supply caused by the microchip shortage will start to bite, while the growing presence of electric vehicles threatens the lucrative servicing business.
The problem from a dealer perspective is that there are only three main moving parts in an electric vehicle (EV) engine as opposed to more than 100 in a petrol- or diesel-powered car. Also, after a typical three-year lease deal the battery may only have two more serviceable years left, whereas the rest of the car might be good for another 100,000 miles. As yet, the residual value of an EV car once the battery can no longer be recharged is unclear.
While Will Fernandez believes the take-up of EVs will be slower in the US than in Europe he believes dealers have to start thinking about new strategies now. “It is the biggest quandary dealers are faced with long term: how to overcome a significant drop in margins if they lose the biggest part of their gross profit.”
Leasing and hire purchase credit used to be the other big earners for car dealers but an array of disruptive new fintech and alternative finance companies have put an end to the monopoly.
Private and growth equity firms, international wealth funds and family offices are among investors who scent profits to be made from new car finance models, fuelling a major influx of new investment into the niche sector.
Zuto, the UK’s leading online car finance marketplace, has raised two rounds of funding from Scottish Equity Partners. Zuto, based in the north of England, is focused on the £20 billion-a-year UK used car finance market and is expanding rapidly.
Its proprietary technology uses algorithms to make the purchase and funding of cars easier. It has partnerships with all the main comparison websites and online marketplaces where most customers now do their initial research.
“Automotive is a late adopter of technology but now, finally, digital is seen as the way forward and dealers know they have to change to operate in that space,” says Zuto CEO James Wilkinson. “You used to go to a showroom and if you haggled on the price of the car the cost of the finance went up, but if you haggled on the finance the price of the car went up.”
Currently traditional car dealer finance still accounts for around two-thirds of the market but Wilkinson says the trend is towards online. “Through our algorithms we automated that pricing over three years ago, basing prices on individual buyers’ circumstances and ability to pay. So, the first price they see never changes.”
And that represents a rare slice of certainty in a car market that continues to undergo profound change and confront existential threats.