Will today’s spending pay off tomorrow?
Each and every dealer in Canada is constantly being asked to invest in their dealerships. These requests largely come from OEMs but sometimes they come from other sources, like municipalities, while even competitive dealers can cause an investment response in order to protect market share.
With millions of dollars at stake for each dealership, which investments will pay off and which ones are suspect?
Firstly, lets distinguish investment from expense. Quite simply, investment is a long-term value creation concept while expense is a short-term concept created by the need to produce annual income. Expenses should have a direct revenue correlation. That’s fairly straightforward. The question then becomes; are the investments we are asked to make grounded on a solid long-term focus or are they merely investments to meet short-term market and OEM demands?
In this article we will examine two items, namely training and facilities. Some investments are captured as expenses. Employee training is one such investment. Improving your staff capability should pay long-term dividends, however we tend to treat them like annual expenses. These types of expenses add up quickly and often, we do not take into account their contribution to increased returns.
EXPENSE OR INVESTMENT?
Lets look at Tom’s store. Tom operates a store on the outskirts of a large urban area in Canada. Tom recently took his management team to a social media conference to learn how better to use social media to generate new revenue opportunities. He invested four full days of manager time, transportation and lodging costs and the cost of the program itself. Direct out of pocket costs, including salaries amounted to approximately $5,000.
From an accounting standpoint, this is treated as an expense, even though much of what the management team learned should have a lasting, positive impact on the business. During the first week back, the management team met to discuss how they could implement what they learned and decided to call their DSM to see what experience the OEM could bring to the table. Much to their disappointment their OEM did not have any practical and actionable solutions. Being real believers, they decided to engage the instructor of the social media event as a consultant to help them put their ideas into action. This cost another $10,000.
The consultant outlined a number of actions for them including upgrading their smartphone technology and investment. This cost $8,000 plus a commitment of $500 per month from their service provider for a three-year minimum.
In addition, further training on how to engage current and potential customers was required, this time an on-going program of approximately $1,500 per month for 12 months monitoring and mystery calling in order to elevate the social media
performance capability at Tom’s store. Thus far Tom has spent and/or committed $59,000 in direct costs and likely a sizeable portion of that on indirect productivity losses as his dealership staff bone up their skills.
So tell me, was this exercise an investment or an expense? It may be accounted for as an expense but clearly there are longer-term investment objectives at play in Tom’s mind, therefore it should be viewed as an investment.
INVESTMENT IN FACILITIES
Lets turn to an investment that is more tangible: your dealership facilities. Tom is also under pressure from his OEM to properly image his store within the new OEM national guidelines and specifications. Tom currently has a 15,000 sq. ft. facility and the OEM wants a 22,000 sq. ft. with a showroom double the size of his current four-car facility. The price tag with OEM specified architect, builder and materials is projected to be $1,200,000.
Before Tom committed to move forward with the image renovation, he approached his OEM to talk about the future. His concern surrounded the fact that he believes the auto retail business is changing but does not have the “big picture” plan that he assumed his OEM must have.
He is concerned about the continued impact of the Internet and other technologies on his customers, as well as the perceived “future” of bricks and mortar in a more virtual automotive retail environment. He is also concerned about competition, namely from India and China.
All good questions. Tom’s discussion with the OEM was a little disappointing. His rep was quite clear on the corporate vision — double unit sales within the next five years. They talked about some high level product R&D, as well as OEM partnerships but the discussion never really got around to what retail formats could likely evolve in the time horizon he’d be counting on in order to get a return on his facility investment. He felt the discussion was short-term focused.
Tom did some research and found out that some Chinese automakers and automakers from India are seriously planning North American expansion within the next five years. Some have set up R&D shops in the U.S. Most have joint venture relationships with the global car companies and some vehicles are already hitting the streets in Canada, such as the Honda Fit. Finding this research to yield more questions than answers, Tom decided to sit with his controller to determine best and worst case scenarios for his facility investment.
A LOOK AT THE NUMBERS
Historically Tom’s dealership earned $1,100 per new vehicle sold in his dealership, accounting for all the profit from all the departments. His increase in mortgage interest, property taxes and his principle repayment would mean that Tom would need to generate approximately $140,000 more cash per year just to match his current level of earnings.
That meant that he would need to sell approximately 127 more new vehicles per year just to stay the same. He likely could expect some appreciation in the land value. However down the road, as his building ages, he might not recover his increased building investment. This means that Tom needs to increase his cost estimate by an annual amount in order to come out even in the end. His controller calculated this amount to be $50,000 per year. That amounts to an additional 45 cars per year. In order to stay the same, Tom’s new annual break even target is 172 additional new retail units.
Tom was not wild about these numbers. What would happen if new competition entered his market, fragmenting the customer base even further? And what if that new competition was a low cost provider? What if that new competition used virtual dealerships and partnered with a big box retailer for delivery and service? What if dealer consolidation continued in his market and all his competition had deeper pockets than he did? And finally, what if the demographics of his PMA shifted? How long could he compete?
After further discussion with his DSM, Tom decided to move forward with the image upgrade and spend the money. In the end he felt that he really did not have much choice if he wanted to remain a dealer. Clearly Tom has some long-term concerns about traditional auto retailing. He is also very much aware of the realities of today’s market and knows that he must tow the line and keep his eyes open. The point of these two real stories is that it is often difficult to distinguish investment from expense. What might look like an expense is really an investment in the modern world. Conversely, what looks like an investment, might just be an expense, focused solely on short-term sales goals. Historically, dealers that started in the business 30 or 40 years ago have had a heck of a ride. Both business and real estate have increased significantly in value. Will this be repeated in the future in Canada?
With dealers being asked to continually invest more and more into their stores, we have to ask ourselves will today’s investment pay off and generate a positive return in the end? Are these investments truly long-term focused or are they simply very expensive short-term sales generating tools with a limited shelf life?
