The Dreaded "R" Word

January 2008, Auto Dealer Today - WebXclusive

by Greg Goebel - Also by this author

I don’t profess to be a stock market wizard, but I have always done very well with most stocks in industries that I know well, such as automotive and sub-prime finance. Even though my broker, backed by all his research teams, discouraged me over the past year when I told him to buy Ford and GM stock, I bought it heavily, and it has performed despite his discouragement.

I am a firm believer in both Rick Wagoner and Alan Mullaley and the plans they and their management teams have orchestrated for their respective companies. GM recently returned to profitability, and the company saw an increase in sales volume in September. GM has a great looking fleet of newly-designed vehicles (that the public will actually desire) and a new labor deal that will allow products to be built with labor costs rivaling that of the Japanese. I believe Ford isn’t far behind

With that said, I just sold all of my automotive stock for two reasons. First, I turned a very tidy profit (reinforcing my belief to invest in industries where I have knowledge). Second, I know I will be able to buy it back in about 90 days for less.

I believe the dreaded “R” word—recession—is coming. It may even be declared by the time this issue hits your desks, and if it hasn’t been, it is eminent. Whether fueled by the housing crash (one European financial magazine pegged the epicenter of it as Sarasota, Fla., where I happen to reside – nice) or record prices for crude oil, new vehicle sales have fallen to the lowest levels in decades. Even the mighty Toyota is not impervious to declining sales. For the first time in a long time, the company reported a 4.4 percent decline from the prior year.

I also know a recession is coming because my phone has been ringing off the hook for the last month; Wall Street bankers and analysts are looking for information on how dealers (and large auto groups) will fair through a recession. Yet another indicator, the brass at a couple sub-prime auto finance companies who have enjoyed particular success through recessions are telling me they are licking their chops as their indicators are lighting up.

These words aren’t meant to drive your investment decisions. My thoughts are focused on a totally different vein. If those on Wall Street are calling me with concerns, it indicates they too feel a recession could be brutal to domestic auto makers – which means it will significantly impact retail dealers as well.

Let the experts address the needs of manufacturers during a recession when their sales fall further because of lack of consumer confidence and inability to purchase. I am more concerned for the retail dealers, some of which have grown accustomed to staggering profit levels over the past five years. Without strong dealers, the best laid plans of the factories will be scuttled.

This recession will likely be very different than those in the past where domestics faced sales slumps in their fixed operations and relied on used vehicle sales to carry them through.

Over the past 24 to 30 months, the new retail sales volume for domestics has been reduced by 20 to 30 percent, and in some markets the reduction is over 50 percent. Additionally, the quality level of vehicles today is far superior to those just a few years ago. What this combination means is the fixed operations safety net enjoyed by domestics has deteriorated significantly. Warranty labor and parts sales have dropped dramatically, in many cases more than 20 percent. With more competition than ever in the aftermarket, in many cases customer pay is down as well.

To make matters worse, as new vehicle sales slide, so do those of the higher gross profit used vehicles—the profits that have been carrying variable operations. Are you beginning to get the picture?

It is imperative that dealers “batten down the hatches.” If you have been living under the false impression that your operation should be consistently averaging a record sales level you achieved once a couple years ago, it may be time to face reality.

Please understand, I am not saying everyone is destined to suffer. Certainly, some dealers have been enjoying excellent performance in spite of the market. It may well be a time for dealers who have enjoyed the spoils of their diligence to acquire additional points. I absolutely believe that for dealers that are both well capitalized and staffed for expansion (or have strong personnel at their avail), it will be a great time to acquire additional points at bargain prices.

While it may be a great time to take advantage of opportunities, I also have been cautioning single- and dual-point dealers who have been performing well to avoid getting greedy if they don’t have the staff available to expand. The ability to buy is only half the equation; you must have the ability to operate without compromising your existing business(es).

If the success enjoyed by your current operation is dependent on one or two key people, as well as your own day-to-day involvement, before you pull the trigger on acquiring a new location, answer two more questions: Who is going to perform those critical functions for the new acquisition, and what would happen if you lost one or both of the key people you depend on now?

Outstanding profitability in a single-point operation is not guaranteed when operating multiple points, especially if the market is slowing down. The results, mixed with a recessionary market, could be devastating.

The “R” word is coming, and whether you are looking to taking advantage of opportunity or just maintain your existing profitability, now is time to be realistic on your operational expectations. Those that do so will be rewarded.

Until next month, Good planning!

Vol 4, Issue 11

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