How To Make The Most Profit From Your Dealership
It goes without saying that car dealerships can’t exist unless they are profitable. That’s true for every business, from a neighborhood dry cleaner to a mega-retailer. At auto dealerships, the rows of shiny new cars might prompt shoppers to believe that they’re where the business makes most of its money.
But that’s not the case. According to the most recent data from the National Automobile Dealers Association (NADA)the used vehicle department represents nearly 26 percent of a dealership’s gross profit, according to NADA. In addition to car sales, the figure also reflects profits from F&I products sold on used cars.
So where does the majority of a dealership’s profit come from? It’s not from car sales: at least not directly. It’s from the service and parts department, which accounts for 44 percent of the dealership’s gross profits, according to NADA.
Knowledge Is Powerful
What makes some shoppers wary as they enter car dealerships is the fact that they don’t actually know what they’re going to pay for the product. Shoppers don’t expect to negotiate the cost of a quart of milk at the supermarket or the price to dry-clean a dress at the shop around the corner. We do expect to negotiate car prices, however.
The Role of Commissions
Traditionally, a car salesperson works on commission, and maybe even “straight commission,” without a base salary. The salesperson typically tries to hit sales goals in order to earn a more substantial paycheck. This can set up strains between the buyer, who wants a lower price on a car, and a salesperson, who may be paid better if the selling price is higher.
Today, dealerships vary in how they structure compensation for the sales staff. Some still hold to traditional commission-based plans. But in a growing number of dealerships, the push is to sell as many vehicles as possible, even if it means little or no profit per car. The bonuses are instead based on the number of cars sold, with higher percentages paid to salespeople for more cars sold above a certain goal. Bonuses based on sales volume, rather than more profit per car, have long been the model for online sales. That’s a good reason for car shoppers to work with them.
Used Cars: Trade-Ins and Purchases
Although used cars account for the smallest percent of a dealership’s gross profits, the trade-ins themselves can be cash cows. And dealers really need those used cars. According to NADA, 61 percent of a dealer’s used car inventory comes from trade-ins.
Used cars are far more profitable for a dealer than are new cars. For example, there’s a $4,000 difference between the trade-in value of a 2010 Toyota Camry XLE (what the dealer would pay you for it) and its dealer retail price (what the dealer would sell it for). That $4,000 is essentially the dealer’s expected profit. Dealers will point out that they have to recondition used cars, and that costs money. But even so, the profit margin on a used car is typically more than what a new car sale can bring. NADA reports that at the average car dealership in 2012, net profit per new vehicle retailed was $111.
On the buying side, used cars can be tricky for shoppers because they can be a interesting negotiation. The car shopper doesn’t know what the dealer paid for the used car and might not know its current market value. Only by researching the current market and comparing prices can you know the right price for a used car.
Finance and Insurance: More Important Than Ever
F&I is an important source of dealership income. According to NADA, nearly 37 percent of a dealership’s gross profit comes from the sale of F&I products and service contracts on new and used cars. And while the gross margin on the sale of new cars and trucks fell to 4.2 percent in 2012 from 4.6 percent in 2011, aftermarket income rose, “because of increasing F&I and service contract dollars,” according to NADA.
The average profit on a new car from F&I products was $804 in 2011. In short, F&I sales are critical for a dealership’s success.
The dealership’s F&I manager is primarily there to present the dealership’s pitch for financing. It’s worth listening: Sometimes the interest rates are lower. Try finding independent financing too.
In addition to offering dealer financing, the F&I manager typically offers extended warranties (also known as extended service contracts). The pitch for extended service contracts appears to be a winning one with car buyers. In 2012, customers bought extended service contracts on 42 percent of new vehicles. That’s the highest rate in the past two decades, according to Automotive News, citing NADA data.
If you do want to buy a product such as an extended warranty, it’s important to remember that the price is negotiable.
The Service Department
In economic hard times, service bays have kept many dealerships afloat. Dealers know that there’s a good chance that a car buyer will bring the vehicle in for regular service, and even if the dealership only ekes out a thin margin on a new car sale, there’s the possibility of continued cash flow from a service relationship.
Commissions play a part in the service operation as well. Service advisors typically receive a commission on all the parts and services they sell. Again, the amount of sales pressure you’ll experience varies widely.
Reputation, Reputation, Reputation
Now that you know more about where a dealership makes its money, you can move on to picking one that has a good track record in how it deals with customers, both as buyers and as clients of the service department.