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How Does Cutting Dealers Save the Automakers Money?

Name: John Heafield
City & State: Bloomfield Hills, Mich.

Question: I keep hearing that GM has to shed brands and cut dealerships, but I don't understand it. Is the logic simply that GM makes too many distinct carlines to be profitable given its total sales volume? Economies of scale thwarted by model proliferation? If so, that's different than "too many dealers." Aren't dealers independent businesses, costing GM nothing?

Paul Solman: No, dealers cost GM (and other automakers) plenty -- largely because of state laws that prevent the manufacturers from cutting them off. The connection to "distinct carlines" is that if you're a Pontiac dealer, say, and there is no more "Pontiac," both parties have a problem.

But apart from this, the proliferation of product most definitely operates against economies of scale. It's obviously cheaper to make one type of car than many. Take the logic to its extreme. You sell 1 million cars and they're all the same (think, Model T). You sell 1 million cars, and each is different. Which will be cheaper?

I also sent your question to David Cole, the auto expert whom I consult when I have car trouble. Dave writes:

"Paul, this is a tough issue. The state franchise laws make it difficult to cut dealers. The rotten market is taking a great toll of dealers today. The other issue is scale and you noted that however when several models are derivatives of a single platform, taking a model out can hurt capacity utilization which is the key to manufacturing productivity. If the loss of scale in a manufacturing facility and the cost of taking dealers out is greater than the savings, it doesn't make good sense. For example, the Saturn Outlook crossover is built in Lansing, Mich., in a plant that also makes a Buick and GMC model. The cost to engineer the Saturn is fairly small and the Outlook adds to the capacity utilization. You do save on marketing costs but it is generally a tough call and most forget about the capacity utilization issue."

So then I wrote to Dave:

"But if the state laws are so tough, how come GM is announcing it will lop off 25 percent or so of its dealers? I can understand Chrysler getting away with it -- in bankruptcy. But can GM do it UNbankrupt?"

To which Dave replied:

"That remains to be seen. Even with a Chapter 11 it may be tough. I think with the threat of bankruptcy the dealers might be prompted to be a part of a rationalization. For example, in Detroit, several Ford dealers bought out the retail business of one of their peers. This is a possibility in the metropolitan areas where the dealer problem is the most severe. Stay tuned. There are a lot of moving parts in this puzzle."

-- Posted May 18, 2009 | Comments ( ) | Permalink