Auto Dealers Take CFPB Issues to Washington DC

Excerpts from NADA Front Page; comments by Ruggles follow

More than 400 fran­chised auto deal­ers weighed in with Wash­ing­ton law­mak­ers ear­lier this week on the Con­sumer Finan­cial Pro­tec­tion Bureau’s (CFPB) effort to end the dis­counts that cus­tomers can nego­ti­ate when financ­ing a car or truck through a deal­er­ship. The vis­its to Capi­tol Hill were orga­nized as a part of the National Auto­mo­bile Deal­ers Association’s Wash­ing­ton Conference.

Deal­ers asked their sen­a­tors to sign the let­ter authored by Sens. Rob Port­man, R-Ohio, and Jeanne Sha­heen, D-N.H., request­ing that the bureau explain how elim­i­nat­ing a dealer’s abil­ity to “meet or beat” a competitor’s rate is good for consumers.

A key ally in the deal­ers’ fight, Rep. Gary Peters, D-Mich., told the deal­ers in a speech on Thurs­day that he’s “very con­cerned” about the CFPB’s recent effort to alter the $800 bil­lion auto finance mar­ket­place with­out a hear­ing or offer­ing analy­sis for pub­lic scrutiny.

“I believe it’s absolutely essen­tial that we have a very com­pet­i­tive mar­ket­place so that folks can get the low­est rate they can for their loans, and cer­tainly dealer-assisted financ­ing is about that,” said Peters, who along with 12 Democ­rats on the House Finan­cial Ser­vices Com­mit­tee sent a let­ter to the CFPB demand­ing greater transparency.

“The CFPB has not pro­vided any infor­ma­tion about its study or how they com­pare the numer­ous fac­tors that can affect auto inter­est rates,” said NADA Chair­man Dave West­cott, a new-car dealer in Burling­ton, N.C. “Even more shock­ingly, the bureau failed to exam­ine how this change could impact the cost of credit for con­sumers. In-dealership financ­ing has been enor­mously suc­cess­ful in both increas­ing access to credit, and reduc­ing the cost for mil­lions of Americans.”

Ivette Rivera, NADA vice pres­i­dent of leg­isla­tive affairs, said that sen­a­tors were recep­tive to the dealer’s request to sign on to the Portman-Shaheen Auto Finance letter.

“Early reports from our Hill meet­ings indi­cate that mem­bers of Con­gress on both sides of the aisle think that greater trans­parency from the CFPB is needed,” Rivera added.

Ruggles writes:  The issue is over dealer "rate participation."  Dealers "buy" money from lenders at "wholesale, and distribute it at "retail."  The CFPB alleges that all consumers aren't treated equally.  They have set out to regulate dealer rate participation via a proxy strategy.  Using laws against discrimination and an obtuse theory called "disparate impact," the CFPB seems to want to abolish rate participation and replace it with some kind of a flat fee arrangement.

WIKI on the subject:

"In United States employment law, the doctrine of disparate impact holds that employment practices may be considered discriminatory and illegal if they have a disproportionate "adverse impact" on members of a minority group. Under the doctrine, a violation of Title VII of the 1964 Civil Rights Act may be proven by showing that an employment practice or policy has a disproportionately adverse effect on members of the protected class as compared with non-members of the protected class.

The doctrine prohibits employers "from using a facially neutral employment practice that has an unjustified adverse impact on members of a protected class. A facially neutral employment practice is one that does not appear to be discriminatory on its face; rather it is one that is discriminatory in its application or effect." Where a disparate impact is shown, the plaintiff can prevail without the necessity of showing intentional discrimination unless the defendant employer demonstrates that the practice or policy in question has a demonstrable relationship to the requirements of the job in question. This is the so-called "business necessity" defense.

Disparate impact contrasts with disparate treatment. A disparate impact is unintentional, whereas a disparate treatment is an intentional decision to treat people differently based on their race or other protected characteristics."

Ruggles again: Even though disparate impact pertains to employment law, the CFPB, along with the FTC and the DOJ, have chosen the theory to try to bully the auto financing industry. What is especially interesting is how the CFPB proposes to determine how one is a member of a "protected class."   They propose to use zip codes and surnames, along with other data they are less than transparent about. 

A recent decision in California was settled where a Mitsubishi dealership was alleged to have provided better interest rates to Asians, than to the general population.

Transparency and the Car Business

The new buzz word in the Auto Industry these days is “Transparency.” Let’s face it, the word is nothing more than the current euphemism for “One Price,” which has been proven to be an abject failure. The demise of the Ford Collection is the prime example. There are still Dealers using “One Price” as a strategy of Negotiation, but “One Price” ONLY works when there is more demand than supply. A Dealer’s fantasy is to wake up one day and find out that has nearest competitors have all gone “One Price.”

We could revisit the Saturn debacle, but why? How many times does the lesson have to be learned. Does anyone actually think Saturn was a success story?

Ever notice how it is the Silicon Valley types who want to change our business? Ever notice that they have never sold cars on commission or owned a Dealership before they set out to give Consumers what they think they want. These people are experts at running focus groups, although they don’t know the right questions to ask or how to interpret Consumer answers.

So lets set out to thoroughly discuss the issue of “Transparency” as it regards the Car Business.
“In economics, a market is transparent if much is known by many about:

• What products, services or capital assets are available.
• What price.
• Where.

There are two types of price transparency: 1) I know what price will be charged to me, and 2) I know what price will be charged to you. The two types of price transparency have different implications for differential pricing.

A high degree of market transparency can result in disintermediation due to the buyer's increased knowledge of supply pricing.

In economics, disintermediation is the removal of intermediaries in a supply chain, or "cutting out the middleman". Instead of going through traditional distribution channels, which had some type of intermediate (such as a distributor, wholesaler, broker, or agent), companies may now deal with every customer directly, for example via the Internet. One important factor is a drop in the cost of servicing customers directly.

This can also happen in other industries where distributors or resellers operate and the manufacturer wants to increase profit margins, therefore eliminating intermediaries to increase their margins. (In the case of the Auto Industry, the “intermediaries would the franchised new vehicle Dealers.)
“Disintermediation” initiated by consumers is often the result of high market transparency, in that buyers are aware of supply prices direct from the manufacturer. Buyers bypass the middlemen (wholesalers and retailers) to buy directly from the manufacturer, and pay less. (Buyers can also pay MORE because the manufacturer controls the market. Competition between Dealers is what maintains the price equilibrium Consumers aren’t smart or knowledgeable enough to appreciate.)
Price transparency can, however, lead to higher prices, if it makes sellers reluctant to give steep discounts to certain buyers, or if it facilitates collusion.” Excerpts from WIKI

In legal terms, and in the context of the Auto Business, “Transparency” means fully disclosing all information mandated by all applicable laws in exactly the way the law demands these disclosures take place. There is NO legal mandate that the Consumer has to be happy with the transaction. We have always known that a “Good Deal” is largely a state of mind.

Definition of “NEGOTIATE,” Merriam Webster:

• to confer with another so as to arrive at the settlement of some matter.
• to deal with (some matter or affair that requires ability for its successful handling): manage
• to arrange for or bring about through conference, discussion, and compromise “ More WIKI Excerpts

A brief historical reference of Transparency Regulation in the context of the Auto Business:
New vehicles did NOT have a stated and posted price until 1958, when a law sponsored by Senator Mike Monroney of Oklahoma was passed. Trucks did not have a priced Monroney label until much later. “The window sticker was named after Almer Stillwell "Mike" Monroney, United States Senator from Oklahoma. Monroney sponsored the Automobile Information Disclosure Act of 1958, which mandated disclosure of information on new automobiles.” WIKI and commonly known

Even if the Consumer is prepared to pay the Auto Dealer’s asking price, the value of any trade in has always been a matter for Negotiation. There is no single wholesale value for any Pre-Owned vehicle. A vehicle is worth whatever a wholesale Buyer will pay at auction in a competitive bid situation on a given day. Typically, Retail Buyer’s want Retail for their trade, thinking the Dealer should sell their trade at Retail just to get their money back, for the privilege of selling a new vehicle.

Even in the most simple purchase situations, where a Dealer states his/her price and the Buyer accepts and makes the purchase, this is still technically a “Negotiation.” The stating of a price is a first pass of Negotiation. Regulation, beginning with the government mandated Monroney label, has forced Dealers to state their price instead of merely entertaining offers on sales. The Monroney law came into being after WW II, when Auto Dealers, who hadn’t had new vehicles to sell for years, were in a short supply, low demand situation. And they took advantage. After all, they had just been through a period of no supply and high demand and had previously experienced high supply and low demand during the Great Depression. Consumers were offended, preferring only to experience a market driven by higher supply than demand.

As a practical matter, it makes no sense for a Dealer to debate “transparency” with Consumers OR with those who have never had the experience of making a livelihood by selling vehicles or with those with a major investment in an Auto Dealership. They have no standing on the issue. In the Auto Business it becomes clear quickly that without substantial gross profit, one doesn’t eat very well. The Sales Person’s welfare or the Dealer making a profit are NOT concerns of most Consumers. Consumers typically have no understanding of what a Dealer’s Cost of Sales might be. They don’t typically care. But for some reason many Consumers think they have the right to know a Dealer’s cost structure. These same Consumers seldom ask cost and margin questions of other retailers. At the least they don’t want to pay more than other Buyers of the same product. That’s no surprise. Neither do I. But if I buy from a “One Price” Dealer there is NO ASSURANCE that others aren’t buying for less than I do. After all, there are always competitive Dealers who are happy to work from their “One Price” competitor’s Best Price.

All car buyers negotiate in some fashion and to some degree. Car buyers typically think they are entitled to be quoted a price to take to competitive Auto Dealers. The first Dealer either accommodates, or doesn’t. If the Buyer doesn’t like a Dealer’s Negotiation Strategy, they are free to find one that gives them what they want. In other words, the market works in the Buyer’s favor. The Car Buyer can find another Dealer more quickly than the Dealer can find another Buyer. Consumers are NOT held to the same laws and ethics that Dealers are obligated to. So the Consumer holds all of the advantages, EXCEPT, in most cases, the Dealer has more experience Negotiating car deals and possesses more accurate information. Providing equal information to a Car Buyer would, in theory, create an efficient market that could commoditize new vehicles. This could theoretically eliminate Dealers. But then who would take the trades? Who would arrange the financing? And who would teach Consumers how to interpret all of the information?

In Business, it is also clear that if a Negotiation takes place, and neither party gets their “feathers ruffled,” someone left money on the table.

So what do Car Buyers really want? They want a guarantee that they will WIN the Negotiation. They want a guarantee that the Dealer will quote them a price that they can validate in their own mind by using what the first Dealer provided to shop other competitive Dealers. This has not changed in my 43 years in the Auto Business. Only the method of delivery of the information has changed, as well as they ease with which a Consumer can shop. If a Dealer doesn’t play along, they are vilified, not only by Consumers, but OFTEN by 3^rd Party Vendors who appeal to Consumers and who also depend on Auto Dealers for revenue. But the Market works. If Consumers are unhappy with one Dealer, they can go to the next. They can also make use of information provided by the Vendors, although these Vendors are at risk if they also depend on Dealers for revenue.

As it involves the varying definitions of “Negotiation,” many Car Buyers would prefer to have the Dealer disclose the triple net cost of their product, and then “Negotiate” the “Margin.”
So how does one sell New Vehicles in this environment? Most Dealers attempt to provide Consumers with a “Perception of Transparency” as a Negotiating strategy, since TRUE Transparency would prevent making a Gross Profit high enough to pay overhead expenses. We currently do not have true Transparency and we are still seeing considerable margin compression.

The Consumer has the ability to shop until they find an Auto Dealer Negotiation strategy they like. Some give up and buy because they were worn down, lost patience, and gave in. Others depend on the Dealer to arrange financing which may be more important to them than the price of the vehicle.
Despite the massive amount of regulation that has been imposed on the Retail Auto Business, the current Market Driven system has sold up to 17 million vehicles in a year. Some might say the system has served us well over the years despite the fact that many Consumers are aggravated by the process. To those Consumers, I say, “Keep shopping until you find the Dealership shopping experience that gives you what you want.” Let the Market work.

Dealers are not typically completely “Transparent” with their own Sales People and Managers. Why should they be? It is human nature for Sellers to give away potential profit in an effort to make a sale. The cost structure of a new vehicle is so complicated that even Dealership management staff has a hard time understanding it. In many cases, the true cost structure is not determined until a Dealer receives a check based on the achievement of objective over a period of months. With all of the possible incentives, including “Conquest Incentives, “Realator Incentives, Plumber Incentives, Glass Company Incentives, First Time Buyer Incentives, Fleet Incentives, Special Bid Incentives, College Grad Incentives, Employee Purchases, various “Private Offers,” Returned Military Incentives, and many more, plus variations of the above. Trying to provide all of this information, including teaching Consumers the elements of the wholesale market would be overwhelming to most. It would be akin to drinking from a fire hose. There is a considerable learning curve when training new Sales People. Consumers aren’t typically going to understand it all when they are only buying a vehicle every few years.

New hires entering the Auto Business as Sales People bring their perceptions as a Consumer to their new job. Like me 43 years ago, most were convinced in the beginning that selling cars would be easy. All one would have to do is to quote the lowest price and make up the loss of margin in additional volume. What a revelation us veterans of the business had when we found out that Consumers had no loyalty. There has never been such a thing as the “best price,” despite the fact that Consumers typically think there is. As an early “price quoter” I was the one who spent the time, gave a detailed product presentation and demo drive, only to find many of my prospects, who had promised to “Be Back,” had bought from a competitor who had beaten my “Best Price” by a small margin. Occasionally, deals are lost because one appraiser might see more value in a trade in than another.
To be clear, some Auto Dealer attempts at negotiation are more “artful” than others, and crude attempts at Negotiation generally fail. The Consumer isn’t harmed, except for some wasted time. They are certainly given “grist for the mill” in their complaints about “Negotiation.” They are free to keep shopping for that Dealer who gives them what they seek. But then some Consumers are never satisfied.

I recall a time when my boss, the Dealer himself, quoted me a price that involved a $1K mistake in my Customer’s favor. I presented this price to my Customer who then railed about us being crooks, cheats, and liars. After shopping our quoted price the Customer later slunk back into our Dealership to take try to take advantage of the mistaken quote. And because we didn’t honor the price from two days earlier, we were crooks, cheats, and robbers all over again. A good deal is as much perception as reality.

Let’s discuss “Transparency” as a practical matter in the modern Internet driven Auto Market. The most demanding Consumers are the ones who have 720 and higher credit scores. They know they have good credit and can buy what they want. They are the ones who are most analytical and the most demanding of information to shop with. They are the ones who feel most entitled to be able to determine the “Best Price” from the convenience of their office chair using the Internet, entertain competitive quotes from Dealers all vying for their business, and to make a purchase decision without spending a lot of time or going through a more traditional process of negotiation. They will typically visit a dealership for a demo drive and to gather additional information, then retreat to their computer to use the Internet to “Negotiate” the price as they try, often successfully, to get Dealers into a bidding war with each other. The fact is, this niche of Buyers make a LOT MORE NOISE than their numbers would indicate. This group makes up LESS THAN 30% of Consumers. And of that 30%, at least 5% of those have a debt payment to income ratio that does NOT guarantee them financing. All other Car Buyers have a legitimate concern that they might not gain credit approval for a Car Loan at optimum terms and interest rates. AND without the help of Dealers and their market power, many of these could NOT gain a car loan on their own. Does anyone with common sense believe that the Retail Auto Industry should turn itself upside down over 25% percent of Consumers who represent less than 15% of total Vehicle Sales Gross Profit?
 
In this current environment Manufacturers are coercing Dealers into ever higher overheads through ridiculous “Image Programs.” What happens if margin compression makes the selling of vehicles unprofitable to Auto Dealers? A quick look at history will give an indication. When I entered the auto business in 1970, the Markup on large vehicles was 22.5 percent, plus a 2 – 2.5% “Hold Back” that was paid to the Dealer every quarter or at year end. Imports typically had no “Hold Back” in those days. Deals were transacted OVER “Invoice,” the amount the Manufacturer drafts the Dealer’s floor plan account when the vehicle leaves the assembly plant, sometimes before. There was little “Trunk Money,” money rebated to the dealer based on “Stair Step” programs and other incentives based on achievement of an assigned objective. In other words, “Invoice” had meaning. Today “Invoice” has little meaning. Consumers routinely take delivery of a new vehicle for LESS than the Dealer has to pay off at his/her lender. The “Markup over invoice today is less than 10%. Manufacturers have raised the MSRP to accommodate both the cost of rebates and subventions, but also the “Trunk Money.” In 1970 F&I revenue represented a relatively small portion of Gross Profit on a per deal basis. Today the per deal F&I gross profit runs from $1K to $1.5K. Labor rates in Dealer Service Departments were reasonable in 1970. Today, $100. plus per flat rate hour isn’t unusual. Are you starting to get it now?

Many Consumers think Manufacturers should cut their Franchise Dealers out of the equation. First, there are laws in place to protect those Dealers, all of whom have made substantial investments in their businesses. Secondly, the OEMs would need Ben Bernanke's printing presses running full time to ever come up with the amount of capital required to replace their Dealers. It ain't gonna happen.

The Bottom Line:

1. Consumers already have the market slanted in their favor
2. Consumers can readily shop
3. If Consumers don’t want to “Haggle,” let them find a Dealer who will give them what they want.
4. Vendors who started their businesses depending on dealers for their initial revenue, and who now turn on those dealers and demonize them in an effort to convince consumers to turn to them for “protection” from the villains, and who provide even more downward pressure on gross profits, can expect push back and a lack of cooperation from auto dealers.

TrueCar, CarFax, Cars.com, and some others have paid a price for pushing Dealers too far by providing Consumers additional tools to help them in the effort to compress margins, often depending on Dealers to support their efforts. These Companies have every right to do what they are doing and/or have done, but they are unrealistic if they expect there to be no push back from Dealers. I suspect there are some others, including Kelly Blue Book and their version of the “Bell Curve, recently abandoned by TrueCar while under fire from Dealers, who will be a target for Dealer push back.

As long as the Franchise Dealer system is in place, trades are taken, and financing not a given, there will be no completely “Transparent” and “Efficient Market” that commoditizes pricing in the Retail New Vehicle Business. Is this a surprise, or just common sense? The current system has served us well and will continue to do so. 
 
At the recent JD Power/NADA conference held in March in New York City, noted Auto Industry analyst Maryann Keller spoke optimistically about the conventional system of selling cars in the U.S. “Over four decades, I’ve heard many arguments made against the Franchise Dealer system.” They are claims Dealers never fail to disprove time and time again.”

One myth promulgated in the 1990s, and now resurfacing with Tesla’s effort to run its own sales outlets, is that factory stores save money by reducing distribution expenses, wrongly estimated at 30% of the total cost of a car.

Put aside for a moment that the percentage itself is way off, Keller says. Ford’s ill-fated Auto Collection experiment in certain markets during the late 1990s proved that Auto Companies are good at a lot of things. Running Dealerships isn’t among them. Dealers with entrepreneurial spirit are good at doing that.

Ford ended its bad-science experiment after a couple of years of market share losses and mounting evidence that Factory Stores do not deliver a better customer experience nor reduce costs.
Franchise dealers’ cumulative investment in land, equipment and facilities easily exceeds $100 million, Keller says. “Dealers fund 60 days of inventory and another month of inventory in transit that would otherwise fall to the Auto Maker.”

The inventory buffer allows auto makers to adjust future production levels. For a company like Ford, U.S. inventory funding equals about $15 billion at any point.

“While we are talking about myths, how about the still-repeated one that people hate Dealers so, if given the chance, they will buy a car online,” Keller says. “I almost don’t know where to start in taking this one apart.”

Not all that long ago, Silicon Valley funded and lost hundreds of millions, maybe even a billion dollars, on ill-fated ventures that promised to sell cars online.

“CarOrder.com, Greenlight.com, and CarsDirect.com (in its original configuration), among others, all promised to avoid the dealership experience,” Keller says. “A few actually did that by buying cars from Dealers, and then reselling them at lower prices to customers until they blew through their capital.”

She recalls the defunct Build to Order.com. It proposed that customers would place orders for fully customized cars while lounging in a company-owned showroom/entertainment center. “Build-to-order.com never built anything for anyone,” Keller says. Priceline.com’s experiment of trying to sell cars online was in some respects replicated later by TrueCar.com, which ran afoul of franchise laws for the same reasons Priceline did.

“What I learned then, and this is still true today, is that we could connect Buyers with Dealers and that the price of a vehicle was the easiest part of a deal,” Keller says. “The other elements are harder to control and often the cause of frustration for the Customer and the Dealer. People don’t like to hear that their trade isn’t worth the value they saw online or that their poor credit doesn’t qualify them for the no-down-payment, 0% loan.”
Buying a car is as complex as buying a house, Keller says. “Why should we think it should be as easy as buying a pair of shoes from Zappos with a return receipt in the box in case they don’t fit?” While much Auto Advertising has shifted from newspapers to the Internet, that transition “has not reduced Advertising expense per vehicle or made buying a car as easy as buying a book,” she says.

Another salient Keller point:

“Add up all the monthly traffic to all automotive sites, including auto makers, dealers and independent sites, and you’d get more than 100 million, possibly close to 200 million, unique visitors using the Web to get information about buying or selling a new or used car.

Except there’s one problem, if this traffic is somehow supposed to represent potential sales.” Dealers retail about two million new and used cars a month. That’s a fraction of all those automotive website visitors.”

“So just like newspaper, radio or TV advertising, Dealer spend on the Internet is likely no better targeted, once again dispelling the notion that the Internet would solve the age-old problem of knowing which 50% of a dealer’s advertising works.”

Technology is wonderful. Dealers have adapted to it. Sophisticated software helps them manage every aspect of their business. But it will not fundamentally change Auto Retailing, Keller says.

“The system of Franchised Dealers – using their own risk capital to fund their businesses and guarantee millions of dollars of inventory, promote their own brand and that of their OEM, provide the expensive tools needed in their service departments, and manage the endless headache of a workforce – will not be superseded by technology or Factory Owned Mall Stores.”

Keller predicts start ups such as Tesla, which currently runs factory-owned mall stores, ultimately will conclude “the dealer network is the best way.”

I would only add this. As long as Auto Makers understand that Dealers are their Customers and the End User is the Dealer’s Customer, things will be fine.

Bush 43 at NADA 2012

LAS VEGAS ― Having hit a low in 2009 due to the trauma of two domestic automakers nearing bankruptcy and the overall industry in turmoil, the annual National Auto Dealer Association convention this year was indicative of the vigorous rebound of the industry as a whole. Attendance was brisk and the expo hall was packed with vendors. Spirits were upbeat and optimism abounded.

As the final speaker on the closing day, former President George W. Bush had the last word. The hall was packed during his 25-minute prepared remarks and subsequent Q&A, with outgoing NADA Chairman Stephen Wade asking the questions. The ex-president showed his human side with a liberal mix of applause lines and humor. He cracked up the room on numerous occasions with spontaneous off-the-cuff remarks. He devoted some time to trying to sell his book, But every time Bush mentioned Decisions Points, he added with a wry expression and a twinkle in his eye, “We still have plenty of inventory.” The line became funnier every time he said it. “Did I mention, we still have plenty of inventory?”

Despite the fact that the room was primarily Republican, based on an informal polling, (and my interactions over the years with hundreds of dealers) there was no booing or hissing for the fact that then-President Bush authorized the advance of a bridge loan of $17.4 billion from TARP funds to GM and Chrysler in December 2008 after having been turned down for a bailout package by Congress. In current RW rhetoric, this is known as “government picking winners and losers.”

So given the audience, and after first spending some time on his personal battles with alcohol, Bush addressed the economic situation he faced at the end of his presidency. In fact, the auto industry rescue/restructuring might as well be termed the rescue of the North American industrial base, since that is what was at stake. Bush spoke glowingly of the advice and support of Treasury Secretary Hank Paulson and Federal Reserve Chairman Ben Bernanke. He cited them as perfect examples of people a leader should surround himself with to offer insights on subjects about which the leader is unfamiliar.

Speaking of the massive government support for the financial services industry by his administration during the economic collapse of late 2008, Bush says: “In a normal environment, the free market would render its judgment and they could fail. I would have been happy to let them do so. As unfair as it was to use the American people’s money to prevent a collapse for which they weren’t responsible, it would have been even more unfair to do nothing and leave them to suffer the consequences. The consequences of inaction would have been catastrophic.”

Regarding the economic crisis, “If we’re really looking at another Great Depression, you can be damn sure I’m going to be Roosevelt, not Hoover.” “Wall Street got drunk, and we got the hangover.”

In his book, Bush says he “opposed the Carter/Reagan bailout of Chrysler.” “Yet the economy was extremely fragile, and my economic advisors had warned me that the immediate bankruptcy of the Big Three would cost more than a million jobs, decrease tax revenues by $150 billion, and set back the country’s GDP by hundreds of billions of dollars.”

Stipulations attached to the billions in Bush Administration “bridge loans” ultimately cost GM Chief Executive Rick Wagoner his job, despite the fact many have “blamed” the next President.

Bush refrained from getting involved in the current politics other than to say “he understands the immense pressures of the job, and that it would be counter-productive for him to weigh in.” Despite the occasional malapropism, he conducted himself with class and grace with a large dose of Texas one-liner humor. While history may judge him harshly on some issues, it seems clear that the decisive action he authorized saved the economy, and in particular the auto industry, from a catastrophic meltdown.

David Ruggles

Comment by Mike Smitka: Certainly Wall Street got drunk, but it was policy that supplied the hooch. Greed on Wall Street isn't new; the ability to indulge however was. Both historic checks were removed. The first was that of regulation, which limited the ability of bankers to gamble with other peoples money (bankers have long demonstrated an ability to keep winnings for themselves while sticking others with losses). The second was monetary policy, which historically kept the supply of funds roughly commensurate with normal loan demand. Here Bush also leaned on outside advisors, Greenspan in particular but also Paulson and to some extent Bernanke -- though Bernanke was in subordinate positions as a Fed governor and then chair of the Council of Economic Advisors, as he was not named Fed chairman until 2006, by which point real estate prices had largely peaked.

The War with TrueCar

Open Letter to the Automotive Industry from Scott Painter, Founder & CEO of TrueCar, Inc.

Responses by Ruggles

Monday, December 12, 2011 12:01 am

Painter: Our world is changing. Unprecedented access to information and a massive shift in consumer behavior has resulted in a challenging new automotive retail landscape. It has also enabled a consumer appetite for data transparency. To hide from evolving consumer behavior is to deny change. At TrueCar, we embrace this opportunity. We also believe that transparency is the centerpiece of trusting relationships. Some in the industry disagree. We would like to make our position clear.

Ruggles:Transparency is NOT the objective of auto dealers. Survival is, followed by net profit. It takes gross profit to have some net profit left over at month end. Is there another industry where consumers feel they have the right to know a seller's actual true costs? What gives consumers the right to that information in the first place? Providing transparency is NOT your only aim – making money in the doing is! The behaviour by consumers wanting to know a car dealer's bare costs is NOT something new. In 1970 credit unions would arm their members with "dealer cost." There were books available on every news stand. The delivery of the information is what is different.

If you want total transparency, give consumers actual bare cost down to net net net. Then allow the negotiation to be based on the gross profit, say a thousand or two. Do you really think consumers understand gross profit? Do they understand the expenses that are paid out of gross profit? More importantly, do they care?

Over the course of time car dealers have had their margins trimmed dramatically by their OEMs. When I started in the business the margin on large cars was 22.5% with a 2.5% hold back. "Trunk money" was available only for special promotions, but it was nowhere near as prevalent as today. The profit a dealer makes these days has moved to "trunk money," as the dramatically narrowed margin and increased availability of information to consumers has dictated it. And you are looking to disclose this information as if consumers have some kind of inherent right to it.

The auto business is a business of negotiation. AND consumers can shop. Consumers aren't bound by the same rules that auto dealers are. You seem to be saying that you would like to remove the negotiation aspect of the business while making money for your own company in the doing. It's not like you are performing some needed public service. You think an "efficient" market for new vehicles is good for everyone? How does that jive with the dealer, who has made substantial investment, making a reasonable return? If they don't, who will be around to provide other essential services to the consumer? The factory?

You're a business man and have closed some deals where negotiation has been required to reach agreement. You also know that in negotiation if neither party gets their feathers ruffled at some point, money has been left on the table. I suspect that in your very best negotiations, you negotiated without appearing to negotiate at all. I suspect that is how you have gotten so many dealers to sign on initially. That might even be how you gathered in $200 million in venture capital. I take my cap off to you for being such an artful negotiator. But don't in the same breath talk about transparency. Your objective is to make your deal while adopting the APPEARANCE of transparency as a negotiating tactic. How do you expect to make money in a negotiating business like the auto business with true transparency? You call it transparency to share transaction data, where ever you happen to get it and however the consumer interprets it. Real transparency is when only the margin is negotiated because the consumer knows our costs as well as we do, but of course they lack the knowledge of what has to be paid out of that margin. To repeat - you are selling the illusion and perception of transparency, but in the doing you are feathering your own nest by portraying yourself as the "good guy" to the consumer who readily accepts the dealer as the "bad guy." The amazing thing is that any dealer has cooperated with you.

And what of the sales people you intend to replace? Or do you deny that that is one of your aims? It seems you are on record about that.

Painter: Our goal at TrueCar is to foster healthier relationships between manufacturers, dealers and consumers through data transparency.

Ruggles: Forget about healthier relationships. Profitable business relationships that are also "healthy" are the kinds of relationships to have. The euphemism "data transparency" means disseminating propriety information to consumers, information that is none of their business. They can shop at the touch and click of a mouse. What more are they entitled to?

Painter: To deliver on this promise, we require a high standard from our 5,800 dealer partners – an upfront competitive price and a commitment to a great customer experience.

Ruggles: Where does the great customer experience come from in a race to the bottom on price? Where does the money come from to accomplish that?

Painter: A discoverable upfront price is the cost of getting noticed. Contrary to popular concerns this does not create a “race to the bottom.” The lowest price only secures the sale 19.2% of the time within the TrueCar network. The sale is still won by location, selection and good old-fashioned customer service.

Ruggles: No race to the bottom? Easy for you to say! If only 19.2% buy based on the lowest price, why would you even try to provide consumers with the lowest price? The cynic in me tells me that your motive is not public service, but your own profit. Let's tell it like it is. That being the case, how on earth would you expect dealers to be your allies in the endeavor? Well, that's easy. A host of dealers with their heads up their asses have already signed on providing initial validity to your premise. In case you haven't noticed, there is a burgeoning group looking to enlighten our fellow dealers.

Painter: At TrueCar, we believe that upfront price is at the core of a good buying experience for dealer and consumer. Informed consumers buy more confidently and are more satisfied. At TrueCar, we publish the most accurate reflection of the retail market that has ever been available. The goal is to establish an objective, credible and transparent baseline for fairness – both for the customer and the dealer. That being said, TrueCar does not set this market. Our dealer partners set their own prices 100% of the time.

Ruggles: Its great that you believe that "upfront price" is at the core of a good buying experience. In our mind, a good buying experience is where the dealer makes a substantial but reasonable profit, the consumer is happy, and a long term profitable relationship is formed. The price is negotiated. Trades are taken. Consumers can shop if they feel they aren't getting what they want.

Whose definition of fairness are we using? Yours? The consumers? As previously mentioned, ask a consumer what they think a fair margin is on a new car and the answers will be all over the map. Most aren't business people. It doesn't even occur to most of them that there are substantial costs that have to be paid from gross profit.

Bottom Line: You are trying to create a system based on wildly variable consumer perceptions, while destroying the system that has worked for years, and to make a few million in the doing.

AND after you have taken down sales people and the dealer network, do you then turn you program on manufacturers? Where does it end? Dealers don't need any more downward pressure on gross profit. And those who help you provide additional pressure on their own gross profits just haven't woke up to that fact yet.

Painter: Dealers earn their business every day and we believe that their marketing programs should too. TrueCar is the only fully accountable source of new business where our dealer partners only pay when they sell a car. Gone are the days when dealers have to assume all of the marketing risk and pay for advertising and for leads as a primary way to secure new customers.

Ruggles: I suspect that more and more dealers will be opting to take their "risk" back in return for not being complicit in their own demise.

Painter: TrueCar requires DMS integration for tracking of this accountable model, the core of what makes us unique. We use DMS feeds from our dealer partners for tracking and optimization of introductions made to the dealership. We don’t use our dealer partners’ information to populate the TrueCar pricing curve. That information comes from entirely separate sources of anonymized data that represent nearly 90% of all vehicle transactions in the U.S.

At TrueCar, data integrity, security and privacy are job #1. Our policies, systems and technology have passed the scrutiny of partners like USAA, Consumer Reports, American Express, AAA and many others. TrueCar has never, and will never, sell or repurpose DMS data for any reason.

Ruggles: IF security and privacy are job #1, you have failed miserably. The credibility gap between TrueCar and dealers is growing. Even if it is true that your access to a dealer's DMS doesn't provide actual transaction data, the fact remains that your company is making money by putting additional pricing pressure on dealers under the guise of providing a "public service."

Painter: In spite of all this, we recognize that change is threatening for some. Ours will always be a high-touch industry. The service of our dealer partners and highly-trained sales professionals becomes increasingly important the more consumers know. At TrueCar, our commitment is to relieve those professionals from needing to resort to high-pressure sales tactics or misdirection. These tactics have been an albatross for our industry and they are at the heart of why consumers have become generally mistrustful of the car shopping experience in the first place.

Ruggles: Change? This isn't change. TrueCar simply puts the dissemination of proprietary dealer information on steroids. Do us a favor and let dealers return to their high-pressure and misdirection tactics of days gone by when we delivered 17,000,000 new vehicles a year. The only way most consumers will be satisfied is to be guaranteed to win the negotiation. And they can't even define what it would mean for them to win. You say consumers have become "generally distrustful of the car shopping experience?" Please tell me, is this some kind of new phenomenon that recently arose so TrueCar could come to the rescue?

Painter: Is TrueCar good for all dealers? There will always be those that resist change. To our dealer partners, we applaud your understanding that truth, transparency, and customer service is at the center of success in our changing market. And, to those that still have questions, we invite an open dialogue. One of the great virtues of transparency is that we have nothing to hide.

Ruggles: The change dealers want to resist is further downward pressure on their gross profits, at a time when their manufacturers are pushing them to spend more and more money on their facilities, thereby further increasing their costs. As a 40 year industry veteran retired from the day-to-day of retail, I can speak my mind. I hope others will do the same.

David Ruggles

Rewriting the Rules

There have been numerous recent quotes from industry experts that some might find contradictory. The issue: How many dealers are needed to maximize OEM profits?
Let’s put this in historical perspective. Back in the day, OEMs felt that boosting the number of dealers and loading them up with inventory would provide maximum market penetration, volume, and OEM profits based on economies of scale. “Inventory pressure sells cars” was the OEM mantra, especially in the case of the Detroit manufacturers.
As they pushed to establish more and more sales points, the OEMs also instituted a strategy to transfer as many of their own distribution and marketing costs on to those dealers, making each a profit center before they sold a single new vehicle. Any dealer who has ever perused the dealership’s monthly parts statement will have a strong opinion on this issue. Savvy dealers learned to survive over-dealering by fighting to keep expenses as low as possible. They maximized the use of facilities, minimized slow-moving inventory, adopted other franchises, and focused on pre-owned vehicles, parts, and service.
OEMs charged and over-charged their dealers for every little thing, including the cost of the Dealer Communication System. They charged for special parts inventory and tools for each new model, marketing costs, brochure racks, bathroom labels, and collateral materials. It is hard to imagine a dealer representing a net cost to the OEM. Add in parts sold to maintain and repair units in operation, and each sales and service point was certainly a profit center.
Then came the Senate hearings, with testimony from then-President Jim Press of Chrysler and then-Chief Executive Fritz Henderson of General Motors. The pair complained about the overwhelming burden they were carrying in having to maintain “excess” dealers. Most knowledgeable people assumed they were simply saying what they thought the Congressional panel and the Auto Task Force wanted to hear.
Shortly thereafter, the pendulum began to swing in the other direction. Quotes from Mark LaNeve, a recently resigned GM sales executive, indicated a concern for “orphan owners.” He espoused the pain of consumers who no longer had a local dealer to go to for sales and service. Even subsequent comments from Press indicated he probably really didn’t mean what he had said during the hearings.
Then President Barack Obama added to the chaos when he signed a bill he had initially opposed, establishing an arbitration process to allow dealers to apply for reinstatement.
Many terminated dealers are so filled with angst they want nothing to do with reinstatement by the OEM that rejected them.
A dealer friend said to me recently, “Reinstatement? Hell, I’m sending them a thank-you note.” This, in reference to having had Dodge yanked from one of his stores and Chrysler -Jeep pulled from another. These operations had received Five-Star awards and were solidly profitable, with ample cash positions and independent floor planning. He had purchased these franchises in recent years, and his investments were rendered worthless almost overnight. There are many similar stories.
Even recent comments by Ed Whitacre, the new GM CEO, indicate he might welcome the opportunity for arbitration boards to reinstate as many as 1,000 dealers. There seems to be particular interest in keeping some Cadillac dealers, whose ranks had been dramatically thinned. Some states were left with as few as two Cadillac dealers.
It must make logical sense to Whitacre that if dealers are essentially "free," the additional sales points will provide extra opportunities for consumers to buy GM products. After all, how many Ford stores will a Chevy owner drive by to do business with a Chevrolet dealership?
At the same time, Chrysler has been complaining about the arbitration mandate and has even offered up veiled threats of legal action to prevent it. Ford is working on strategies to thin out dealers in metro areas, but making no move to reduce the number of rural dealers.
Now I read that Roger Penske, CEO of United Auto Group, is calling for more Detroit Three dealerships to go. I recently toured Penske’s luxury high line facility in Scottsdale, Ariz. It appeared to me that the objective of this operation was not necessarily to make money, but to create the ultimate auto facility, expenses and profits be damned. It makes sense that someone who has made such an investment would want to have fewer competitors.
Most dealers do not have the resources to build such an edifice, despite the push from the OEMs to do so. Even if they did, most dealers exercise some restraint to keep themselves out of a position where record sales years are required just to break even, a situation Detroit has found itself in recently.
Interestingly, today’s consumers seem to care much less about expensive showy facilities than they once did. Their PC and cell phone are becoming their showroom of choice. This practice is being driven by generations who have never known life without cable TV, cell phones, computers, and video games. There are still traditional buyers out there, but it is increasingly difficult to tell who they are when — and if — they come to the showroom.
Treat the internet buyer like a traditional buyer, and there is no way to earn their business. Worse, an accounting of a perceived bad consumer experience will quickly spread through the myriad of online social networking sites, and the dealer’s reputation with true internet buyers will quickly suffer.
The rules of the business are being re-written. I have more questions than answers. But given the rapidly developing trends and conflicting views of the business by the highest level executives in the business, it’s no wonder a lot of us are confused.

David Ruggles is a former dealer-owner and consultant with nearly 40 years’ experience in the auto industry. He has conducted an annual seminar on auto dealership issues and processes in Japan since 1993, and helped develop specialty software focused on pre-owned leasing. A contributing columnist for Wards Dealer Business and Auto Finance News. A member of the International Motor Press Association. He can be reached at ruggles@msn.com.

It’s Unanimous!

Pre-Owned values will continue to rise as supply shrinks.

Early 2010 pronouncements by industry experts bear out what economists close to the industry have been predicting since the fall of 2008. With consumers keeping their present vehicles longer, and fleets and rentals putting off or reducing purchases, there are fewer vehicles coming back into the pre-owned market. In addition, the lack of leasing in the last 18 – 24 months means there are thousands fewer lease returns available. Add it all up, and the industry is looking at an extreme pre-owned shortage.
Edmunds.com analysts project that “the used-vehicle price strength of 2009 — caused largely by low inventory levels and healthy demand — will likely continue into 2010 thanks to "tight" supply and sustained demand.”
According to NADA, “about 8 million fewer used cars and trucks entered the U.S. market over the past two years, resulting in higher used-vehicle prices every month in 2009.” NADA is alone in expecting the pre-owned shortage to ease somewhat in 2010, predicting an additional 1 million vehicles traded in to dealerships in 2010 because of higher new vehicle volume. In my mind, this increase is not enough to make up for the loss of Cash for Clunker vehicles and the absence of tens of thousands of “off lease” and rental vehicles. If financing becomes available and fleet and daily rental companies replace large numbers of vehicles, there could be additional pre-owned inventory available. However, these will be much higher mileage units than ever before for each category due to the fact they have been kept in service so much longer than in previous years.
OpenLane predicts strong demand will drive wholesale market throughout 2010. “Reduction in trade-ins and overall sluggish new-vehicle market will be the primary wholesale demand drivers.”
ADESA's Tom Kontos has indicated that wholesale prices should continue to show "stable-to-firming" trends in the near future, saying that "although auction inventories are rising a bit — mostly from returns of off-rental units that normally occur earlier in the fall — supplies remain tight." Kontos’ conclusion? "Coupled with improving vehicle demand, this should keep wholesale prices in a stable-to-firming pattern through year-end and into 2010."
Ricky Beggs, Vice President and Managing Editor of Black Book, says, “Used vehicle values in 2009 showed mostly strength, and when looking at year-over-year levels showed some huge gains, even when the vehicles had significantly more miles on them.
Some of the same circumstances that helped used vehicles maintain their strength in values are still present and are part of the equation for 2010 and beyond. Due to much lower levels of new vehicle sales for the past two years, the number of used cars in the market place is greatly reduced. Daily rental units being turned in are also at lower levels, and are expected to be similar to the 2009 numbers.”
Eric Ibara, Director of Residual Value Consulting for Kelly Blue Book says, “While tightening supply will undoubtedly impact used car prices over the next few years, its effect will not be uniform or consistent throughout all segments and at all times. Some segments will benefit more from the reduction in daily rental volume. Obviously, manufacturers scaled back on fleet and lease volume to varying degrees, and the impact on their models will be in proportion to their actions. Late-model used car prices are also subject to new-vehicle transaction prices, but with the downturn in auto sales, many manufacturers took out production capacity, sometimes on a permanent basis. To this end, there should be less downward pressure coming from high new-car incentives, but again, the effect will vary from segment to segment and by brand.”
RVI Group predicts a “4 year pre-owned price climb.” For those who don’t know, RVI stands for Residual Value Insurance. These folks put their money where their mouth is as they guarantee virtually all insured residual values in the country. According to Rene Abdalah, Vice President of RVI Group, "We expect the year-over-year upswing in used prices to reach a peak of 13-percent in 2012 before starting to stabilize.”
What does all this mean? The sky is not the limit on pre-owned values. The MSRP and transaction price of a like model new vehicle places somewhat of a cap on pre-owned values. Lower OEM rebates and incentives could provide room for pre-owned prices to move even higher. The higher values caused by the shortage might somewhat improve consumers’ equity or negative equity positions in their current vehicles. But the biggest issue is supply.
I’m with RVI on this one. The shortage won’t be over in a matter of months. It will be years before we reach stability. Even if there is a supply of available pre-owned vehicles, the quantity with reasonable miles will be few. What can a dealer do?
If the dealer is a Ford Lincoln Mercury dealer, the OEM is helping out. The recent 27 month leases offered means dealers will have a supply of lease returns coming soon. If ever the market needed “Half-a-Car” and short- term principles it is now if only to supply pre-owned vehicles through lease returns. Eustace Wolfington, where are you? Wolfington and “Half-a-Car” proved the short-term theory back in the late 1980s and into the 90’s in an era where there was no pre-owned inventory shortage. If anything, this era was marked by over production of new vehicles and over saturation of rental and other program units by the OEMs, something they have vowed to eschew this time around.
Dealers who don’t have access to short-term residual based financing through their OEM should look to local credit unions. There are hundreds of credit unions across the country offering residual based financing and/or leasing.
Savvy dealers understand that the monthly payment drops $35. - $50. per month for every thousand dollars of trade equity or money down on a short-term lease or balloon. This means using the rebate or dealer incentive on a short-term lease or balloon, in lieu of a subvented long-term interest rate offers, can offer a surprisingly low monthly payment. If the consumer has additional down payment and/or trade equity, the payment/profit balance gets even better. Everybody wins and the dealer has a shot at the off lease vehicle at the end of term, as well as the opportunity to do business with the buyer again.
The pre-owned inventory shortage will be with us for a while. Why not take some measures to mitigate its impact on your business?


by David Ruggles
Written for Auto Finance News, January 2010