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Nayra Wellinghoff
Dealers are operating in an increasingly disrupted environment, creating the need for dealers to review their own operating model, identify and unlock operational efficiencies, and discover new ways to operate in a digital, omnichannel environment. Over the past five years, we have worked with dealer groups, individual dealerships, and OEMs to study the impact of disruptions on automotive retail and the traditional dealer model; this article synthesizes our perspective on the space and its likely evolution. While we see several challenges to dealers and the traditional automotive-retail model, we also see opportunities for dealers to pivot the model in one of four ways to succeed in the new reality, including centering it on one of the following: luxury brands in tier-two cities; geographic scale and increased scope; ecosystem platform development; and less disrupted, rural markets. But no matter which future model dealers chose, now is the time to lay the groundwork, build the required capabilities, and capture near-term opportunities.
Likewise, used-car retailing is also digitizing rapidly as disruptive new entrants (such as Carvana, Roadster, Shift, and Vroom) launch price-competitive business models that simplify the buying and selling experience for consumers. Compounding the problem, dealership organizations continue to face operational challenges that include high turnover rates and consolidation pressures. As a result, dealer profits have decreased over time, and most dealer stocks are underperforming the market (Exhibit 1).
Dealers have historically relied on revenues generated by vehicle service work and financing and insurance (F&I) to offset the profit pressures and accordingly have grown their business in these areas. For example, F&I as a percentage of new- and used-vehicle gross profits increased from about 45 percent in 2015 to roughly 53 percent in 2018, driven by greater emphasis among dealers on F&I products (for instance, service contracts) as well as compression of vehicle margins. At the same time, dealership-parts-and-service-profit contributions continue to advance, with their share of total gross profits expanding from 45 percent in 2015 to over 49 percent in 2018. However, dealerships will likely soon reach the limits of further growth in these areas as automakers apply increasing pressure on parts and service and F&I penetration reaches a saturation point.
We expect US franchise-dealer new-vehicle profit pools to decline about 9 percent during the next ten years. However, a disproportionate share of the decline will likely occur in densely populated urban areas like Los Angeles, New York, and San Francisco, primarily due to a decline of up to 17 percent in private new-car ownership and increased sales of used vehicles through e-commerce channels with lower margins.
The independent used-car profit pool of $16 billion today will likely decline an estimated 9 percent by 2030 as online penetration increases from around 6 percent to as much as half of all transactions. Every 1 percent increase in channel switching from in-store to online could result in an approximately $40 million decline in the profit pool due to the increased pricing transparency offered by online channels. Franchise dealers currently capture about 38 percent of the used-car market, concentrated among larger players in several subsegments. Several attackers are using digital technologies to connect buyers with used-car inventory to simplify the customer purchase journey (both connecting businesses to consumers as well as enabling consumer-to-consumer transactions); existing players experiment with the digitization of their operating model. Overall, the used-vehicle industry is heading toward further consolidation as large players continue to gain market share.
We believe e-commerce (for example, Carvana, Shift, Vroom, and traditional players enabled by software solutions), characterized by single pricing and streamlined processes, will grow more than 100 percent, taking business away from brick-and-mortar operations. Low-mileage, off-lease vehicles will represent prime digital territory due to their high quality and their prices.
Leading dealership groups have so far focused on driving operational excellence and making the shift to increased F&I and parts-and-services businesses. However, to win in the rapidly evolving retail landscape, all dealerships need to adopt drastically different business models and pursue new revenue streams.
In the near term, we believe dealerships should continue to optimize the dealership footprint based on mobility trends and create multibrand showrooms focused on luxury brands to conserve real estate in large cities. It makes sense to improve the in-store customer experience as rapidly as possible, introducing digitization, making online and offline changes possible throughout the purchasing journey (a true omnichannel experience), and enabling flexible test-drive plans and other innovations. Dealers should also work to reduce operating costs via improved operating efficiency, which could mean taking steps such as upskilling sales consultants in phone and internet lead management or integrating the sales manager and F&I manger roles (within regulatory limitations).
Potential midterm goals could include offering a seamless, digitized experience along the entire vehicle purchase and ownership experience to create stickiness and link shoppers to the dealership. Moving from a view based on vehicle or vehicle identification number (VIN)1Many dealer systems and processes today are focused on the VIN number or a specific vehicle, versus starting from the customer and providing a holistic view of the customer, for example, integrating all internal transaction data, service history, and average ownership time, as well as external data, like other vehicles owned or socioeconomic data, to form a holistic view of the customer and truly tailor marketing messaging and in-dealership experience. to a customer-based view for marketing and creating more personalized customer outreach will further help dealerships grow share of wallet. Companies could also expand their presence in maintenance parts to increase the average lifetime value of customers and strengthen their offering of collision services and crash parts to offer customers a one-stop shop for vehicle sales, service, and collision repair.
Dealers that take an aggressive stance on operational efficiencies and redesign in-dealership operations to cater to a more digitized customer base often capture greater sales volumes and profitability (for example, capturing larger share in or beyond territory, up to 300 basis points higher return on sales than comparable dealers). Approaches include the following:
With the entry of new digital disruptors, customer expectations are rapidly changing. Dealers can no longer simply post their inventory online and hope for the best. Instead, they need to build the capabilities required to engage customers both online and offline via an omnichannel strategy. They must fine-tune their e-commerce solutions and enable customers to dig deeply into the offering online before coming into the dealership. Dealers should also think about their marketing spending efficiency including not just lead count but also lead quality, conversion, and customer insights provided by third parties. As the digital universe expands with online retailers and software offerings from established and newer players, dealers need to approach partnerships strategically to strengthen their digital presence and their omnichannel purchase path.2Consumer platforms could play an important role in realizing this approach going forward, since end-to-end digital platforms offer consumers a streamlined and tailored experience throughout the customer journey.
As dealers confront these changing realities, we see the potential for four new dealership models to emerge over the next decade (Exhibit 4). These models will likely center on luxury brands in tier-two cities; geographic scale and increased scope; ecosystem platform development; and less disrupted, rural markets. As these new models come to life, we expect the total dealer count and number of dealer groups to decline.
Creating a platform ecosystem. During the past three years, as other retailers have experienced several pressures that automotive retail is starting to experience, successful players have focused on leveraging an in-depth understanding of their customer (including loyalty and share of wallet) and created personalized offerings to grow share of wallet instead of just number of transactions. Supported by stronger customer-relationship-management models and customer insights, retailers have developed tailored product and service propositions that appeal to different customer segments and help drive consolidation of spending with one retailer. The propositions can be effective if they are delivered in a seamless, high-transparency, high-control mobile environment with high convenience. Applying this to dealerships could include one-touch updates on current finance payments and equity position, a seamless service process, insurance management, and so on.
Dealers pursuing this strategy should consider developing a sticky platform ecosystem that allows the customers to engage online and offline seamlessly and creates opportunities to capture revenues beyond the core offering while working across a broad portfolio of brands beyond luxury OEMs. Customers should be able to access all dealership services and fulfill their transportation needs in one central location. Examples of potential consumer propositions to be developed by dealers could include creating personalized offerings based on customer loyalty, behavior, or a specific affinity group (for instance, offer concierge services to luxury customers such as pickup and drop-off for cars and increased service loaner availability). The platform would also bring benefits to customers such as automatic discounts to service and opportunities to generate revenue (for example, peer-to-peer car sharing supported by the dealer group with a free car wash and automatic refuel before the car is returned to the owner). This in turn provides a higher frequency of touchpoints with customers for the dealer to create a stickier environment. Creating a portfolio of mobility-services-related partnerships, potentially via equity stakes, will be a key part of this strategy.
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