Pushing dealers to upgrade stores fuels a 2-tiered price war
DETROIT -- In 2007, General Motors' sales executives set out to fix a problem that had nagged them for years: GM's network of dealerships was shabby compared with those of its rivals, especially Toyota and Ford.
"You had these ridiculous Chevrolet stores with 75-year-old exteriors or blue bow tie logos or Geo signs," a former executive says. "We could not have looked older."
Fast-forward five years: Most of GM's 4,500 Chevy, Cadillac and Buick-GMC dealerships are being gutted or replaced with sleek storefronts and gleaming showrooms. GM is spending more than $5 billion on the transformation over seven years, through 2016, according to an Automotive News estimate based on GM documents that detail the program. The company calls it the most extensive dealership network makeover in the industry's history.
But not all of that cash is going toward shiny tile and silver exterior cladding. The way the money is flowing from GM's Essential Brand Elements program has triggered side effects. Dealers say the cash, awarded in quarterly bonuses, is stoking price wars and widening disparities between big retailers and small ones. And GM has had to crack down on some dealers for trying to wangle more cars than earmarked to them because the payments are based on vehicle orders.
Because the cash is based on the number of units that GM ships to a dealer -- $300 to $700 per vehicle for dealers who comply -- it's gravy for many high-volume dealers who are reaping much more Essential Brand Elements cash than they'll ever spend on their dealerships. They're free to use the bonus money as they see fit, creating disparities that lead to low-balling on price, especially in metro markets, many dealers say.
Steve Rayman figures he'll get $1.2 million in bonus money this year while selling more than 2,000 new Chevys at his sparkling new store in Smyrna, Ga., near Atlanta. He doesn't need it to finance the work on the dealership -- he did that through the sale of a few other stores -- but the Essential Brand Elements cash will keep flowing through 2016.
"It's changed the way we've done business. We can be a lot more aggressive because of that," Rayman says. "It's such a big part of our profit. It's imperative that we're in the EBE program."
It's a big part of Byron Hansen's profit, too -- but he's dropping out of the program. The Brigham City, Utah, dealer has been receiving roughly $90,000 in bonus payments while selling about 250 new vehicles a year. He has carefully jumped through the GM program's hoops -- hiring an architect to sketch renovation plans, for example.
So far, though, none of the bonus money has gone to renovate his store, which is just 9 years old. Instead, he has used the extra cash to help him limp through a stubborn economic recovery made worse by the departure of a few big employers in northern Utah.
Hansen, who sells all four GM brands at Hansen Motor Co., is among a group of smaller dealers now facing a GM deadline to make some dust, after the company focused its early efforts on higher-volume stores. GM says dealers who fall out of compliance with the program won't have to return the money they have earned. Last year Hansen's store eked out a $70,000 profit, he says; he would have lost money without the bonus cash.
Batey: It’s a game-changer.
"All of the sudden the smaller dealers are bailing out of the EBE program," says Hansen, who says he has talked to a dozen dealers who also are dropping out. "General Motors knows they have a problem."
GM executives laud the Essential Brand Elements program as a success. About 4,000 of its dealerships are enrolled; roughly 1,900 renovations already have been completed or are under construction, with the rest yet to break ground. Many dealers tell Automotive News that they like the system and are using it as intended: As the bonus cash flows in, they set it aside to cover their construction costs or loans.
GM says the program's positive effects go beyond renovations. To qualify, dealers also must participate in customer-retention, digital-marketing and staff-training programs, although dealership improvements represent 90 percent of the cost to comply, on average.
But, nearly three years after the program took effect, it has become clear that the Essential Brand Elements program is having far-reaching effects on dealers' day-to-day operations and decision making. Dealers point to these side effects:
1. It has stoked dealer demand for product.
That's because, under the per-unit bonus structure, dealers know that there is money attached to every car that GM delivers to their lots.
For example, a Chevy dealer who sells 1,500 vehicles this year will get $714,000, or $476 per vehicle, according to the GM document. That puts that dealer on pace to earn nearly $5 million over the seven-year life of the program, as long as he follows the rules. For many dealerships, that would mean a few million dollars beyond their construction costs.
"The net effect is to encourage dealers to take more product, sell more cheaply and do business on a much higher-volume model," says the owner of a large Midwest Chevy dealership who didn't want his name published.
That seemed evident early this year, when GM sent a letter to dealers scolding some for finagling more cars than they deserved under GM's turn-and-earn system, which allocates vehicles based on dealers' sales rates. Techniques included false sales and inventory reports, the letter said.
Many dealers concluded that the enticement of the bonus money from those additional units was a likely motivator. Some noted the irony, too: A few years ago,when GM field reps routinely twisted dealers' arms to take excess inventory, few could have imagined a day when dealers would be scheming to secure more cars from the factory.
2. Two-tier pricing
Dealers who order big with an eye on the extra cash still have to move that metal. The bonus money allows dealers to discount cars more aggressively. But dealers can also use it to beef up advertising or commissions to sales staff, for example.
One dealer who owns multiple Chevy stores across two states said he has seen rivals sell cars at $1,500 below true cost, even after the automatic holdback payment made after the sale. He blames the program's cash and other back-end money that GM funnels to dealers.
"It's terrible business acumen, and it's driven by egos," says the dealer, who didn't want his name published. "But when they've got an avalanche of cash coming in on the back end, they think they're rich."
Alan Batey, GM's vice president of U.S. sales and service and GM's face to the company's retailers, says dealers are using their Essential Brand Elements payments to defray construction costs and not to lubricate deals.
"The dealers are not using EBE as a way of using price to sell cars," he told Automotive News in September.
Batey points to GM's rising transaction prices. For example, he says the Chevy Cruze is selling for about $2,500 more than its Japanese competitors such as the Toyota Corolla, whereas prices on its predecessor, the Cobalt, always badly lagged. Batey says prices are up because GM is making far superior cars and trucks but isn't overproducing them, lessening the need to offer discounts to help purge dealers' lots.
Dealers agree that better products are commanding higher prices. But many also contend that GM has raised retail prices while cutting dealer margins on new-vehicle sales, which is another reason vehicles are selling closer to sticker price. To compensate for lower margins, some dealers say they're pricing cars more aggressively to qualify for more volume-based bonus cash awarded after the sale.
If GM dealers' margins have shrunk, it would mirror an industrywide trend. This year through August, U.S. dealers' gross profit as a percentage of the sales price was 4.3 percent, National Automobile Dealers Association data show. That's down from 5.2 percent during all of 2006.
Five years ago, when GM executives first began discussing a major image program, the goal was to improve GM's retail experience to match the improved products created under the direction of Bob Lutz, then GM product chief. Batey says the Essential Brand Elements program is nearing that goal.
"Three or four years from now, I think you'll see the evidence externally, and you'll say 'Wow, you guys have changed the game,'" Batey says.
GM didn't set out with a hidden agenda to drive a wedge between big and small dealerships or to use the renovation process as a way to pump volume, say two people with knowledge of the process that crafted Essential Brand Elements. It was viewed as a necessary move to tranform the image of GM's dealerships and to serve as an expression of faith in the company's future.
"There were guys who had just lost Pontiac or Saturn or Hummer, and here comes GM with this big-money program to invest in the remaining brands," says one former executive. "That took a lot of guts, and now they've got critical mass."
He adds: "If some things have gotten out of whack, they should adjust it."
Essential Brand Elements is just one program that pays bonuses to GM dealers. They also can pocket quarterly bonuses under the Standards for Excellence program, which requires dealers to hit customer-service targets and increase quarterly sales year-over-year. And this year, GM has increased its use of stair-step programs, which pay dealers escalating bonuses as factory-set sales targets are met. A large dealership could earn $2 million a year from the various reward programs.
The cumulative result is that a growing percentage of GM dealers' new-vehicle profits is coming from various rivulets of cash paid on the back end of sales.
GM isn't alone. After backing off such programs after the recession, several automakers, including Nissan, Honda and Chrysler, have rekindled them over the past year. NADA is harping on the issue of two-tier pricing and has a task force analyzing it.
But the breadth and perceived inequity of the Essential Brand Elements program, especially among smaller dealers, has made GM the industry poster child in the controversy over two-tier pricing.
Some dealers sue GM
A few prominent dealers have sued GM, contending that that program's tiered pricing violates the federal Robinson-Patman Act, which bans companies from engaging in price discrimination. Billionaire dealer Norman Braman's federal lawsuit alleges that his Cadillac store in Miami was put at a $700-per-unit price disadvantage in 2011, when GM cut off his Essential Brand Elements payments because of a dispute over the limestone that GM required him to use on the store's exterior. That suit is pending.
A chief gripe about two-tier pricing is that customers lose trust when their dealer can't match the prices of rivals who are chasing one factory bonus or another.
The potential for customer confusion "is a real issue," says Jeremy Anwyl, vice chairman of Edmunds.com, a research site that tracks automotive incentives and pricing. "Consumers want confidence when they step up and pay for a vehicle that they're not paying more than everybody else."
Rhode Island dealer Paul Masse sees both sides of the debate. The program's payments have helped him finance more than $5 million on major overhauls of two Buick-GMC stores and one Chevrolet store. But he is hesitant to renovate a fourth dealership, a Chevy store in a historic New England seaside town, because he thinks it would look out of place.
Masse worries about what loyal customers will think when he can't match the price of a rival who has extra money to play with.
"I don't see how you can tell a customer with integrity that the Big Mac costs $3.89 at this store but $2.89 at that store," he says.
Still, Masse calls Essential Brand Elements "a great program." He says his posh new stores are drawing a new breed of customer and helping him recruit and retain good employees. And, based on his current sales rate, Masse believes he will recoup his renovation costs by the time the program expires in 2016.
"I'll get that money back," Masse says. "Hopefully a little more."
You can reach Mike Colias at email@example.com.