As predicted, 2009 was the year of the used car, but not for all the reasons the industry expected. Instead of putting the industry’s know-how on display, the volatility that struck the used-vehicle market revealed just how little control dealers have. Industry insiders say dealers will have to be quick studies if they hope to succeed in the new order that is the used-vehicle market.
The inventory management game is not what it used to be. With the margin-compressed environment taking its toll on everything from average income to F&I profits, dealers found that the one department they could rely on was riding its own rollercoaster. Dale Pollak, founder and chairman of vAuto, says it’s symptomatic of the new order for the used market.
“There’s a new order to the used-car market, and that’s volatility,” says Pollak. “And I don’t believe this is a temporary condition. This old dog’s got to learn some new tricks, because it’s not just about working harder, it’s about working differently.”
Despite supply and demand pushing wholesale values in dealers’ favor, the retail market has been unable to respond — either because of skittish consumers or unwilling lenders. Overreactions to gas prices, increasing unemployment, and a more transparent used-vehicle market have also played into the volatility. It’s an environment where a little luck can go a long way.
Gut Instinct and a Little Luck
Despite lenders pushing more consumers into the used market, Massachusetts-based Stoneham Ford didn’t flinch. Touting the highest-volume fleet department in the Northeast, the dealership maintained its four-to-one, new-to-used ratio. It was a decision that rewarded the dealership through the Cash for Clunkers months, as the dealership became Ford’s No. 2 dealership for July and August sales in New England.
“Over the last two years, there have been a lot of Ford dealers who were little more than used-car dealers, and Cash for Clunkers punished a lot of them,” says Mike Warwick, the dealership’s Internet director.
Tiger Shaw, director of inventory for DealerTrack, tells a story about another Northeast dealer who took on pickups in trades during the gas crisis two summers ago. Having dumped $5,000 to $7,000 into the vehicles, he refused to take a loss at auction even though he was losing money every day the vehicles sat on his lot. His patience, however, was rewarded.
“He really took a big risk, but by the fall the market swung and he was making $2,000 to $5,000 front-ends on these trucks,” Shaw recalls. “We’ve analyzed a lot of dealers’ data and we really don’t see the seasonality swings that everybody tries to capitalize on, but you hear stories.”
The consensus among dealers is the used-car guides don’t work like they once did, especially in this constantly changing environment. A good example of that is the National Automobile Dealers Association’s Used Car Guide Update. Aside from showing that wholesale-to-retail spreads crept back to their historical levels, the report says the 2009 Official Used Car Guide did not reflect the wholesale price premium many vehicles are experiencing because it believes the gains to be short-term, overcorrections in the auction lanes.
The market’s unpredictability was also evident in Kelly Blue Book’s November report, which showed used-vehicle values up 8 percent over last year, with some segments showing gains as high as 20 percent on a year-over-year basis. Fuel-efficient vehicles were the only exception, as they are down 5 to 10 percent since January.
The situation has flustered even industry veterans like Marv Eleazer. “The books have gone nuts,” says the F&I manager for Langdale Ford in Valdosta, Ga. “There’s just no rhyme or reason.”
And even when the dealership identifies the right vehicle, there’s just no way for Eleazer to predict what situation his customer will be in, which makes it difficult for him to stay within his lenders’ guidelines. It’s one of the reasons why the dealership began staging twice-a-week sales meetings during the first quarter, allowing Eleazer to communicate to other departments what banks are looking for and where they’re capping deals.
“A year ago, I’d say, ‘Hey, man, don’t worry how upside-down the customer is. If they have good credit, I can get it done,’” he says. “But around the first quarter, we really started hammering the new message: ‘Those days are gone, boys.’”
Stocking Financeable Units
Bob Boucher, senior executive for Sikorsky Financial Credit Union, understands the plight of the F&I manager well, as he’s fielded his fair share of calls from frustrated dealers.
“A lot of times the right car is something that will allow for cheaper insurance, something that doesn’t require as much maintenance, because we have to take into account whether the customer will be able to afford the insurance,” says Boucher.
With more consumers falling into the subprime category, SpecialFinanceCoach.com founder Rob Hagen counsels his dealer clients to consider vehicles appropriate for special-finance consumers. He says the right vehicle is one that can fit a family of four and offers a little curb appeal. Most importantly, the vehicle needs to have all the necessary equipment, such as a CD player and power windows.
“There’s an old saying that when it comes to used cars, you make money when you buy them, not when you sell them,” he says. “The problem is you never know what kind of customer will walk into the dealership and what they’ll pay for it. So the right vehicle is one that you buy as far back of ‘left book’ as possible.”
Hagen adds that the further a vehicle is below NADA used-vehicle values, the more options the dealer will have. “I refer to this as piecing car deals together,” he says. “For instance, let’s say the only way you can get the customer approved is through Drive Financial, and you got a $3,000 fee and the customer only has $2,000 down. If you bought vehicles left of book, you can piece the deal together. This also works for customers who might be upside-down on their trades.”
This advice is especially crucial when the 2010 program cars enter the market at the first of the year, he says, as buying left of book can offset the $2,000 to $3,000 loss most vehicles suffer when they hit the guides later in the year.
Becoming a Big Box Retailer
Tom Murray believes that today’s software tools can identify not only the best metal for the lot, but also vehicles that give the F&I department the best chance of selling products. The key to doing that, he says, is to understand the value of every parking spot on the lot, much like big-box retailers value shelf space, or what he refers to as return on equity (ROE).
Wal-Mart, for example, touts a 22 percent ROE, while Home Depot and Best Buy boast a ROE of 19 and 20 percent. According to Wards Auto, auto dealers come in at a woeful 8.8 percent. Murray says that percentage drops to 5.9 percent if you remove the publicly traded companies.
“From a shelf-space perspective, do you know what inventory turns the fastest and makes the most money?” Murray asks. “Wal-Mart and Home Depot do, and that’s because they react upon data and information, and not emotion. Auto retailing should be no different.”
Murray understands how the unpredictable market has impacted dealers, but says benchmarks like the 60-day turn still hold true today. The key is to turn as many vehicles in the first 30 days as possible, because doing so can deliver three times the front-end gross.
“If a car is new and fresh, not only do you have a tendency to make more front-end gross, but you have more advance room to work with, whether that’s front-end gross or F&I,” he says. “But it does have a tendency to gravitate toward F&I, just as a percentage of the advance.”
That’s why it’s critical that dealers get vehicles out of reconditioning within 48 hours. It’s also critical that dealers identify within the first 30 to 40 days which vehicles have the potential to create a significant wholesale loss at day 60. The key, he says, is to track gross profits in “buckets,” zero to 15, 15 to 30, 30 to 35, and so on.
Software companies say the downturn has forced dealers to embrace technology, and providers have responded by loading these software tools with every measurement possible — from Carfax reports to live market data. The problem, says vAuto’s Pollak, is dealers were unprepared to take advantage of all of those features. That’s why he advocates for a new dealership position: stocking analyst.
“This is a person who has the personality and the talent to sit in front of a computer and do the research to know which cars they should buy, how much to pay, where to locate them and how they can be purchased online,” says Pollak, whose company provides software that quantifies supply-and-demand for a vehicle. His figures are area-specific and derived from what dealers are advertising on their Websites.
Pollak says the perceived shortage in used vehicles is a perfect example of why dealers need to rethink their strategies. Currently, there are about eight million vehicles in the wholesale market, and Pollak says there hasn’t been one instance of an auction running out of cars while there were still willing buyers.
“When we were in a 16 million new-vehicle market, we showed up at our used-car lots and people threw their trades at us. And if we couldn’t get enough good trades, manufacturers and leasing companies threw cars at us at auction,” he says. “When those sources were basically shut off, dealers found themselves without any discipline or process for outsourcing cars.”
Pollak maintains that the backward-looking data traditional software tools provide are still key, but says dealers will also have to get better at factoring in live market data. The reason is twofold. First, the Internet has made used vehicle pricing more transparent and more susceptible to outside forces. He also believes the volatility experience this year has made the past less predictable of the future.
“The used-car market became very efficient as a result of the Internet,” he says. “And if you think about any efficient market — whether it’s the stock market, oil market, cattle or grain — they’re all inherently volatile because you have a high-degree of transparency and commodity-like items, which is essentially what used cars have become.”
DealerTrack’s Shaw agrees the Internet’s role has increased, but warns that it can also be problematic. “The Internet is an incredibly powerful and wonderful thing, but it can also be a wasteland of information,” he warns.
Shaw said it’s not uncommon for dealers to keep sold vehicles up on their Website in hopes of attracting leads. That’s why inventory management demands a delicate balance between a dealership’s past history, gut instinct and current market data.
“Simply turning vehicles and selling them quickly is not the answer, because it’s a balance between cost of goods, profitability and how quickly you can sell it,” he says. “So it’s a difficult balance to strike.”
The Road Ahead
Joe Spina, an analyst with Edmunds.com, says there is some light at the end of the tunnel. With wholesale prices stabilizing, he believes dealers will have a much easier time making buying decisions. Still, he’s well aware of the challenges dealers faced this year.
“For some segments, it’s been pretty volatile on the wholesale side, and much more stable on the retail side,” says Spina. “Therein lies the primary issue with dealers, as on any given day, when they’re in the auction block, they’re not sure what the cap is on the car.”
Going forward, Spina believes it will be tougher for dealers to make money on trucks and large SUVS, as prices remain strong because of tighter supplies. Minivans, he says, will continue to do well, but says supplies remain tight in that segment as well. The luxury segment should continue to struggle, which has had a significant impact on European makes, he adds.
Spina says South Korean and domestic brands are faring much better these days because the quality gap between other makes is closing. “People are discovering that these brands can compete with the ‘quality’ brands,” Spina said. “The other factor is the domestics have cut back on manufacturing a lot. What’s happening now is that sales are more demand-driven.”
That’s one of the reasons why running a successful used-vehicle department will be so critical. “I like to say that running the used-car department is an art, not a science,” says DealerTrack’s Shaw. “You need to blend your past history with your pulse on the market. Part of it is gut feeling, but it is gut guided by data and technology tools.”