Dealership Groups: Mega Stores

There is no better evidence of the consolidation underway in automotive retailing than the emergence of the public multi-location mega-dealer group business model.

In the late 1990's a game plan evolved: target the fragmented dealer business, accumulate major segments, then merge them to assemble critical mass for more efficient operations.

Nationwide chains appeared in a market once dominated by thousands of independent mom and pop shops.

This was the concept that turned the noun "Wal-Mart" into a verb.

"We'll Wal-Mart the entire industry."

Economies of scale, using common operating processes and systems, centralized purchasing, and leaner personnel policies, were supposed to translate to higher margins for megadealers and lower transaction costs for customers.

Smaller dealers found expansion increasingly difficult as prime franchises sold at prices to $50 million.

Using money raised in the stock market, nationwide holding companies acquired the best dealers in major metro markets. The used car business is also seeing the rise of national chains.

Six publicly-owned and traded megadealers now cast a shadow on an industry under duress.

But the "mom and pops" had an entrepreneurial spirit that corporate groups can seldom preserve. There is a conflict between leveraging scale and the employee morale so central to service and customer satisfaction.

Last of the Low Hanging Fruit

The big dealer groups economize by reducing advertising costs, consolidating their back-office work, and lowering floorplan costs on inventory. As the best dealerships disappeared, these savings were insufficient to offset the cost of additional management and regulatory expenses of a public company.

Earnings are now driven by brutal cost reduction, and the strategy has bogged down.

Increasing associate productivity while lowering compensation hurt employee morale. Some franchises even unionized.

The result was that many chains had lower profit margins and weaker customer-satisfaction ratings than predicted by the game-plan model.

The pace of acquisitions peaked in 2002. Today, with excessive total debt loads, some of the leading dealer consolidators are unloading nearly as many properties as they buy. The strategy is now known as portfolio enrichment: disposing of underperforming shops and replacing them with higher margin foreign and luxury outlets.

Countervailing Power Limits Growth

US automakers have traditionally built cars that make operational sense for their unionized assembly plants rather than those customers actually want. Ads and incentives were used to move the herd. Surplus inventory was dumped on dealers, who were expected to absorb costs.

The rise of powerful national dealership chains challenged that pattern, leading the smaller franchisees in resisting the sales bank glut.

Manufacturers began to discourage further consolidation, placing limits on numbers of dealerships held by groups. There are now hundreds of private and public dealer groups, holding from three to a couple hundred franchises.

The Dark Side

Public companies must have higher employment standards. Tougher pre-employment screening, background checks, drug tests, driving record investigations, ethics training and internal auditing are standard.

While this is an improvement, there is a dark side. Class-action lawyers nationwide are targeting the dealership groups, claiming improper sales tactics have not been abolished.

The pressure from Wall Street to make quarterly earnings pretty is something the mom-and-pops never had to deal with. The stocks trade at low p/e multiples, suggesting the boom is ending.

Dealerships of the Future: All-Brand Auto Malls

Although it's now harder to sustain growth by acquisition, the trend is established.

With dealer numbers falling and consolidation of brands imminent, these superstore chains are the dealerships of the future. Eventually auto mega-malls, large multi-franchise showrooms with all surviving brands under one roof, will dominate the market.

Some are big enough to offer a test drive course onsite. With a captive finance subsidiary available to OK loans instantly, spot delivery is redefined. Starbucks and Subway fast food outlets are beginning to appear inside the big stores. A more sophisticated “big box” retail model is evolving, with one-price, no haggle deals the norm.

Improved price transparency for buyers, with internet kiosks in the dealership, means the car dealer scams detailed here will become unnecessary. Dealers will make a 2-3% return on gross and consumers will be spared the ordeal of negotiating every detail.

The challenge for the megadealers is to avoid the dehumanization that ruined the big box retailers (think of all the dissatisfaction with Best Buy). Customers should find "sales consultants" who are dressed casually, knowledgeable about product, and non-confrontational. Salespersons at these steady volume superstores will be paid a salary rather than on commission.

The auto industry is globalizing, and the dealer groups are expanding worldwide. Automakers will be forced to accept the large chains eventually.

With internet based auto shopping growing exponentially, dealerships owned by publicly traded companies such as AutoNation, Group One, and Penske Auto Group have embraced the web. They are best able to automate the purchase/service processes and satisfy customers who buy through their internet departments.

The auto business evolves very slowly. (Way too slowly in my opinion.)

Dealer groups are in the very early stages of experimenting with economies of scale for car retailing.

Most of the publicly traded dealership groups reported improved financial results in the second quarter of 2007.

Leading Dealer Groups

Here are the top eight from Automotive News' survey of the top 125 US dealership groups.

AutoNation AN
Penske Automotive Group PAG
Sonic Automotive SAH
Group 1 Automotive GPI
Asbury Automotive Group ABG
CarMax KMX
Lithia Motors LAD
Rush Enterprises RUSHB