Achieving Higher Dealership Profits by Knowing and Watching Costs: Part III
By Jim Eagan
Auto Dealer Alert, April 2006

This article is the third in a series of Auto Dealer Alerts, specifically targeted toward dealership profit improvement. Its author, Jim Eagan, has more than 25 years of experience serving automobile dealerships and their advertising associations. He has significant experience in dealership accounting, auditing, fraud prevention and detection, procedural design, operational consulting, acquisition consulting, succession planning, and tax consulting.

By now you’ve closed your books for the first quarter of 2006 and are hopefully reviewing the many messages, good and bad, contained in your March 2006 financial statement. Frequent comments we’re hearing from dealers is that floor plan and utilities expenses, in particular, are coming in significantly higher than in past first quarters. If applicable, these negative trends may prohibit you from attaining your net profit goals in 2006.

Given current economic conditions and the down market conditions for most dealers, it’s highly unlikely that you’ll be able to successfully replace eroded net profits caused by higher interest expense or, as one dealer reported, a doubling of natural gas costs, by simply selling your way out of the situation. The same logic applies where any dealership cost area is escalating in the absolute sense or in relation to the gross profit level of any department, or a cost area is simply way out of line. As we’ve alluded in past articles, it’s normally more prudent in these times to get your arms around and address feasible cost structure changes and to adjust costs to levels which make sense for what you’re currently selling.

How do you minimize the burn from floor plan interest?
Floor plan interest expense is one of the largest components of dealership costs and is increasing substantially in most dealerships, especially if you’re not turning your inventory rapidly. Given the recent rise in prime interest rates, it can be very costly for a dealer if inventory ordering mistakes are made. Obviously, ordering the right inventory to match up with the typically unpredictable marketing strategies of the manufacturers is easier said than done.

To minimize the chances of floor plan interest expense eroding your 2006 net profits unnecessarily, we offer the following recommendations:

1. The number of individuals authorized to order inventory should be limited to responsible managers, and their pay plans should have features to penalize them for mistakes.
2. If a truck shows up on your lot carrying an unordered unit, don’t accept it.
3. Determine the monthly floor plan interest expense for aged units (more than 60 days), and use this information to determine any special pricing or in-store incentive and promotion programs to move these units. (Remember the floor plan assistance funds you received on these units are exhausted by now.)
4. Collaborate with other like-franchised dealers to lobby your manufacturer to raise floor plan assistance funding.
5. If you’re concerned about rising interest rates for the foreseeable future, contact your friendly banker about the feasibility of an interest rate swap arrangement.

What can be done when a relatively fixed cost increases substantially?
Another rapidly increasing cost appears to be utility cost. Let’s consider this negative trend as a representative example of many other potential fixed or semi-fixed expense variances that could be eroding your net profits. A dealer could legitimately ask him or herself, “Aren’t utility costs a relatively fixed cost? Can anything really be done?” Many dealers throw their hands in the air and give up. Wrong answer.

The correct answers are:

1. Yes, utilities are a relatively fixed cost, and
2. Yes, something can be done about it. First of all, we recommend that you assign someone, if you haven’t done so already, to be the watchdog over unnecessary wastes of electricity or heat due to carelessness. You may want to consider providing a financial incentive to this person if consumption levels are minimized to certain targets. Second, investigate whether your current utility providers are really the only game in town.

We’re aware of dealers who are participating in consortiums who buy electricity at lower prices than they could on their own. Finally, if after all your best efforts, you conclude that a cost area (utilities in this example) is going to be escalated permanently, don’t automatically assume that it has to come out of your bottom line. At this point, we recommend that dealers refer to their “Nice to Have” and “Must Have” lists.

What are your “Nice to Haves” and “Must Haves”?
We suggest that net profit-minded dealers carefully analyze all dealership costs and place the individual categories and their annual costs on “Nice to Have” or “Must Have” lists. Net profit-minded dealers know their costs, have a very good handle on what these expenses amount to on an annual basis, and they know on which list they belong.

For example, many manufacturers no longer reimburse a dealership to deliver a new vehicle with a full tank of gasoline. With the rising gasoline costs incurred by dealerships, even at wholesale prices, many dealers have concluded to consider a full tank of gas with each new delivery in the category of a “Nice to Have” versus a “Must Have.” However, assuming waste is minimized, the utilities are certainly a “Must Have.”

If the utility net profit erosion is estimated to be $2,000 per month or $24,000 for 2006, then the dealer has to make a choice. You could take the hit and make less money in 2006 (money that you probably had to work harder than ever to earn), or you could eliminate the bottom-line net profit erosion of $24,000 by eliminating other costs from the “Nice to Have” list. Once you start categorizing your cost elements, you’ll be amazed at how many items are really “Nice to Have” versus “Must Have.”

Conclusion
Be vigilant in your efforts to protect your dealership’s net profits. Use your ingenuity and business sense to honestly overcome hurdles in time to protect 2006 net profits. And remember—paying out too much today and tomorrow will decrease your 2006 bottom line, dollar for dollar.

We’d be happy to assist you in performing a review of your cost structure. Generally, such reviews can be done within a matter of days. If we can help, please call Jim Eagan at 800.544.0203, extension 3257, or you can e-mail jim.eagan@plantemoran.com.