Cars are a huge part of the lives of most Americans. Other than our homes, a car is the biggest, most expensive purchase most of us will ever make. So we've all spent our share of time at car dealers, shopping for the new car that best meets our needs (or satisfies our wants) -- for the best price possible. And of course the high-energy car dealer TV commercial long ago became one of the staples of popular culture.
But very few car buyers give much thought to the car dealership as a business. Nor do they know how car dealers are managed, or exactly how they make money. In the past few years, times have been tough for many car dealers who sell domestic cars and trucks. Detroit's Big Three -- Ford, General Motors and Chrysler -- have been steadily losing market share and posting big losses. The irony is that, over the last several years, the industry as has posted some record annual sales in terms of total units sold. But with all the incentives being offered by Detroit's carmakers, the profit-per-vehicle is way down.
So we talked to some experts and find out more about how modern-day car dealers are managed. How do they make money, how bad is employee turnover, how are decisions made when it comes to ordering inventory and how important is the parts and service department to the overall revenue?
First of all, that revenue mix significantly changed over the last several years, especially for Ford, GM and Chrysler franchise dealers. Consumers spend a lot of time haggling over the price of a new car, but new car sales aren't what they used to be in terms of the role they play in the car dealers' revenue. In the past -- during more flush times -- the profits from new car sales were much greater than they are now, said Paul Taylor, chief economist for the National Auto Dealers Association (NADA), based in McLean, Va. In fact, due in part to heavy incentives, the latest stats show that car dealers are actually losing money on new car sales.
"On net, the average new car dealer is losing about $30 per new car sold through June of this year, and that is inclusive of new car finance and insurance revenue," Taylor said. "So, during difficult years for new car sales, like this year, the profits from used car sales and from parts and service are what keep the dealership in business."
Many consumers may wonder exactly where most of the vehicles on a car lot actually come from. Obviously, they don't just appear at random. If a car is on a lot, it's because the car dealer wants it there -- because he thinks he can sell it. Car dealers order their inventory based on their reading of the marketplace, how well certain models have sold in the past and on feedback from consumers. That can get tricky with models that are in high demand -- especially if the model is a surprise, out-of-the-box success and the manufacturer doesn't have enough models to meet the demand.
Then there's the topic of used cars, which is directly related to how many new cars that car dealer is selling. "A high volume of new car sales brings a high volume of traded-in used cars for the dealer to choose from for their used car operation," Taylor said. "Trade-ins that come into the dealership as part of the new-car purchase are the source of about one-third of the used cars and light trucks in the franchise dealers' inventory. And trade-ins on a used-car upgrade account for about 18 percent of used cars in the franchise dealership's lot," he said.
"Additionally, if used car sales are strong, the franchised dealer will obtain cars from used car auctions, accounting for 31 percent of used light vehicles. And dealers buy some cars directly from the public in what are called 'street purchases' from consumers, accounting for eight percent of used cars," Taylor added. "These are consumers looking to sell their current cars even if they are not buying a new car from that dealer. Other sources, such as purchases from other new car dealerships, account for 12 percent of used cars and light trucks."
And how do car dealers pay for the new cars on their lots? Well, car dealers often use financing to make their car purchases, much like individuals do. They purchase the cars from the manufacturers via a plan called "floor-plan financing."
"Generally, all new vehicles are financed through the manufacturer, and dealers pay interest monthly on that loan," explained Wayne Phillips, a former dealer who now works for the NADA, conducting networking meetings for car dealers. "Dealers have to pay off the [original equipment manufacturers] immediately on new vehicles, but many turn around and finance them through the OEM's finance arm. Most used vehicles are also financed this way, although some dealers own their used cars outright."
One of the rules of any business is that, if the business doesn't grow, it stagnates. So car dealers are always looking to attract new customers, not just to procure those extra sales dollars, but to find another ambassador for the car dealer. New business often comes in the door by word of mouth.
But attracting new customers has been more of a challenge in recent years, due to slumping regional economies, a sluggish new-housing market (builders and tradesmen are big buyers of light trucks) and the above-mentioned woes of domestic car makers. And there is also the obvious -- there are simply too many cars out there right now. As manufacturers roll out more new models every year, the industry becomes more fragmented. So, it's now more difficult than ever for a carmaker -- and its car dealers -- to increase toehold in the consumer marketplace.
"The two biggest obstacles to attracting new customers are a marketplace that's more crowded with competitors, and a slow economy, like the slow first quarter of this year," Taylor said.
Just as they work to attract new customers, it is equally imperative that car dealers retain existing customers. Repeat business is consistently a major contributor to any car dealer's annual revenues and its reputation. Many car dealers conduct customer satisfaction surveys to determine whether current customers are happy with the quality of service.
"Customer satisfaction surveys provide very useful feedback, and dealers use that information as an opportunity to continually improve that customer satisfaction," Phillips said. "Dealers put a lot of emphasis on continuously improving their processes." That is key to keeping current customers coming back over the years, hopefully to buy that second, third and fourth vehicle
One issue car dealers have had to deal with over the years has been a relatively high rate of employee turnover. Salesmen and various department managers leave or are dismissed for various reasons: Maybe they under-perform, maybe they just don't like the job, maybe they get discouraged by slow sales of their products.
"The salesperson-turnover rate at the typical new-car franchise dealer has remained on the high side, averaging almost 46 percent for the past few years," Taylor noted. "Although formulas for turnover rates vary, the simple formula most often utilized, and the one used by NADA, is calculated as the number of employees who voluntarily quit or were fired in a given year, divided by the firm's total number of employees."
That said, the salesperson turnover rate actually decreased at franchise dealerships in 2006, Taylor added. "The lowest turnover occurred at smaller dealerships -- those selling up to 150 new units a year. Turnover at these dealerships averaged a little over 43 percent, an increase of less than one percent from 2005. Turnover at large dealerships -- those selling over 750 new units per year -- came in at 38 percent -- the lowest rate since 2005."
What does all of this mean to you, the car buyer? Well, knowing more about how car dealers are run -- and knowing that dealers face many more challenges than they did a few years ago -- helps make you a smarter, more educated customer. And that puts you in a solid position to get a better deal on your next new car purchase.