Near-record inventories pinch dealers

Automakers and their dealers have millions of reasons to be concerned about weakening U.S. new-vehicle sales — nearly 4.2 million reasons, to be more precise.

That's how many unsold cars and trucks the industry had on hand going into this month, an unwieldy pool of vehicles that has spilled into vast overflow lots popping up wherever enough wide-open space is available: shuttered factories, vacant shopping centers, barren fields.

The estimated 4,188,200 unsold vehicles on April 1 was the highest inventory number for any month since that reported for July 1, 2017, and just 114,300 vehicles less than the modern-day record set in May 2004, according to the Automotive News Data Center. It's over half a million vehicles more than automakers and dealers were grappling with in the spring of 2007, when the Great Recession was just around the corner. The figures do not include the estimated 18,000 electric vehicles that Tesla had in inventory this month.

Bulging inventories, combined with rising floorplan interest rates, are sapping whatever was left of dealers' new-vehicle margins and threaten to unravel the industry's hard-fought pricing discipline if demand erodes further.

Pushed each month by factory reps to load their lots with more and more of the latest and greatest, many dealers now find themselves stuffed to the gills, paying extra for off-site storage while the interest clock ticks and each vehicle's floorplan allowance melts away.

"I know my customers have a problem when they don't have room to park the cars," said Carl Woodward, a longtime certified public accountant in central Illinois who provides accounting services to more than 250 dealerships in 18 states.

Dealers can take comfort that U.S. sales are still relatively strong. But there are also clear signs that the industry, after rising in eight of the last nine years, has passed its peak for this cycle. Sales were down 3.2 percent in the first quarter of 2019, which analysts say is likely to be the first year since 2014 that falls short of 17 million vehicles.

The situation is admittedly less dire than in the run-up to the last recession, with consumer confidence remaining healthy, automakers generating solid profits and more flexible union contracts affording the Detroit 3 greater control over production today. But the problem has caught some dealers off guard because of how quickly the cost to carry today's inventory — largely high-priced pickups, SUVs and crossovers — has risen, as floorplan interest rates surged from a comfortable 1.5 percent only a few years ago to more than 5 percent now.

And if a downturn comes, dealers sitting on big inventories could find themselves in a great deal of trouble.

"Right now, there's excessive inventory out there, and there's a tremendous amount of pressure from almost all the brands to take additional cars," David Hult, CEO of Asbury Automotive Group Inc., told Automotive News last week after reporting the dealership group's first-quarter earnings.

Asbury, the seventh-largest U.S. dealership group, said its floorplan expense vaulted 55 percent, to $10.2 million from $6.6 million in the first quarter of 2018. Expenses from bloated inventory account for two-thirds of the additional cost, Hult said, and the Duluth, Ga., company saw its new-vehicle supply skyrocket to 87 days' worth, 20 more days than a year ago. The other third of the added cost came from higher floorplan interest rates.

In some locations, "Space is absolutely an issue, and we're bursting at the seams," Hult said. "We might even have some of it stored off-site."

Until recently, many dealers managed to earn a nice profit through floorplanning, collecting factory reimbursements that more than covered their payments, but it has become a fast-growing expense as vehicles turn more slowly.

What do rising floorplan expenses mean to a dealership in cash terms? On a $35,000 vehicle, each full point of floorplan interest adds a little more than $29 per month to the cost of carrying it in inventory. Change the vehicle from a $35,000 car to one of those now-popular $50,000 trucks, and the carrying cost goes up almost $42 per month for each point.

Every car, every pickup, every SUV, every crossover and every minivan sitting unsold on a dealer lot — especially after the 90-day floorplan subsidy that automakers typically pay runs out — is just profit evaporating. When floorplan interest and vehicle prices move higher, that evaporation rate gets supercharged.

"You can afford to make a lot of mistakes when your floorplan interest rate is only 1.5 or 2 percent, but the room for error grows a lot tighter when you're paying 5 or 5.5 percent," said Marc Ray, co-owner of Charlie's Inc., which operates a pair of Chrysler-Jeep-Dodge-Ram dealerships in metro Toledo, Ohio. One of those dealerships sits less than a quarter-mile from two Fiat Chrysler Automobiles rail storage yards, each holding hundreds of vehicles waiting for shipment to dealers around the country — and already running up floorplan costs.

"We have a 60-day supply on the ground and another 30-day supply in the pipeline at any given time, and I'm convinced we can run leaner, down to 45 or 50 days on the ground and 15 in the pipeline," Ray said. "We have to try; our carrying costs are up $500,000 year over year."

Of the nearly 4.2 million vehicles in inventory on April 1, more than half belonged to the Detroit 3 and their dealers. Each of the three companies saw its days-supply numbers dip in March thanks to a strong selling rate for the month, but all still had more inventory than what experts consider ideal.

FCA US began the month with 666,700 vehicles on hand, a 90-day supply; Ford had 715,600, an 84-day supply; and General Motors had an estimated 835,500, an 83-day supply.

A common and practical rule of thumb for dealers when it comes to new-vehicle inventory is to stock somewhere between two times their best-ever monthly sales or three times their worst-ever monthly sales, explained Woodward, who has done accounting work for dealers since 1971. That's enough to attract customers without paying too much in finance costs if the expected sales don't materialize, he said.

But for dealers and their new-vehicle managers, the business is not always so cut and dried. Often the factory offers attractive incentives or just out-and-out pressures dealers to order extra vehicles for varying reasons.

And dealers — who by nature are generally huge believers in the value of the vehicles they sell — take the bait.

"I have so many vehicles, I stopped accepting deliveries," said one exasperated FCA dealer in metro Detroit, who asked to remain anonymous for fear of retaliation. "First they told us to order [Dodge] Durangos because they were going to put extra support on them, so we stocked up, but the support never came. Then they stuffed us full of [Jeep] Compasses. Then they told us that in order to get [Jeep] Gladiator allocation, we had to order Ram pickups, so now I've got those coming out my ears."

The issue of stuffing dealerships with inventory is by no means restricted to the Detroit 3.

At the start of April, Volkswagen tied FCA for the highest inventory level among automakers in terms of days supply.

Scott Keogh, CEO of Volkswagen Group of America, said the automaker's inventory level "is not bad" given its long supply chain back to Europe. The company is building extra of the seven-seat Volkswagen Atlas to cover a coming retooling for the introduction this year of the five-seat Atlas Cross Sport, Keogh said.

But he acknowledged at the New York auto show that dealers are having profitability issues with floorplan.

"The hot-button issue right now is floorplanning expense, along with interest rates, so it's something that we're tracking," Keogh said. "I think we're relatively OK, considering the situations we have lined up. We're working through it."

Jeff Dyke, president of Sonic Automotive Inc., has said he'd like to see greater recognition of the inventory issue from automakers as floorplan costs eat away at profits. Dyke told analysts on a Feb. 20 earnings call that Sonic's days supply increased in the last quarter of 2018 and holding down inventories has been a struggle, especially in January and February.

"I wish they were doing more to help, quite honestly," said Dyke, whose company is the fifth-largest U.S. dealership group. "We had less floorplan assistance last year, in 2018, than we did the prior year, and hopefully we can get them to start thinking that way.

"We built three rate increases into our [budgeted] numbers for 2019. We'll see if that happens. Effectively, those rate increases have actually eaten up all the tax rate that we got and then some," he said, referencing the 2017 federal tax reform. "It's a very difficult situation."

Asbury's Hult told Automotive News that the group accepted a surplus of inventory to appease its automaker partners and received a mixed response when it stopped taking extra vehicles.

"You never want to be the first dealer to turn down cars, but being the last isn't exactly financially fit either," Hult said. "We got to a point where we took as much as we could, and we finally had to say, 'Hey, look, we can't do this.'

"Some were understanding," the Asbury CEO said. "Some were not."

Jackie Charniga, Melissa Burden and Amy Wilson contributed to this report.