How Honda Finance's settlement could be a win for all retailers

“A win-win-win.”

That’s what AutoNation CEO Mike Jackson called Honda Finance’s settlement with federal regulators for alleged discrimination in auto lending last week.

Is one of those three wins for dealers? At face value, the consent order doesn’t seem like a gift to retailers industrywide, but it could be.

The consent order says that Honda’s dealers must cap dealer reserve at 1.25 percentage points for loans lasting 60 months or fewer and at 1 percentage point for loans longer than 60 months.

But the federal agencies, the Consumer Financial Protection Bureau and U.S. Justice Department, also included a nondiscretionary compensation option in the order. Depending on what Honda Finance and the CFPB set as nondiscretionary compensation, dealers could be locked in for higher profits.

Nondiscretionary

Honda Finance would pay dealers the nondiscretionary fee in addition to the dealer reserve. It could be a flat fee, $100 per loan, for example. Or it could be a fixed portion of the lender’s wholesale rate in addition to dealer reserve.

Honda Finance and the CFPB have not yet said when they will publically disclose what the nondiscretionary compensation will be, but whatever they agree on, that payment method could be a template for the industry.

Sonic Automotive’s average dealer reserve is 1 percentage point. “So right now, this cap at 1.25 wouldn’t have an impact on us anyway,” said Sonic CFO Heath Byrd during an earnings call this week.

But the nondiscretionary fee could.

For example, let’s say the nondiscretionary compensation were a built-in 1 percentage point of the lender’s wholesale rate. Then the average Sonic dealership would go from pocketing 1 percentage point of dealer reserve on each deal for which it arranged financing, to pocketing that plus an additional 1 percentage point of the wholesale rate.

1% or 0.89%?

AutoNation limits its dealer reserve to 2.5 percentage points, Jackson said. But in fact, this year the average markup has been just 0.89 percent. So if lenders automatically were to give AutoNation dealerships 1 percentage point of nondiscretionary compensation for each loan, the average profit for arranging the loan could more than double.

Remember, we’re talking nondiscretionary compensation. The dealership in theory would be barred from giving it away to sweeten the deal. In effect, the CFPB would be ordering dealerships: “You must pocket this profit.”

If the industry adopts Honda’s caps and nondiscretionary compensation, it really could be, as Jackson says, a win-win-win:

Dealers would have a built-in profit but could still stay competitive; consumers would know that their loan rates never vary sharply due to their race, sex or ethnicity; and the CFPB and Justice Department will have had their say.