Despite entering a period of plateauing vehicle sales, West Michigan car dealers remain optimistic even as they wrestle with consolidation and the need to upgrade their facilities.
In the coming year, executives see numerous opportunities to grow through acquisition as smaller family-owned dealerships look to exit the business, which increasingly favors larger dealer groups. Meanwhile, they believe a positive economy, relatively low interest rates, and suppressed fuel prices will continue to drive sales.
Their positivity notwithstanding, executives admit they face several key challenges, including the upward movement in interest rates that can significantly affect their profitability and the struggle to find qualified service technicians.
MiBiz convened a roundtable discussion with executives from the two largest car dealership groups in West Michigan and advisers to the industry. Participating along with MiBiz Publisher Brian Edwards and Editor Joe Boomgaard were:
- Harvey Koning, partner and leader of the banking, finance and restructuring practice team at Grand Rapids-based Varnum LLP
- Diane Maher, president and COO of Fox Motor Group, an automotive dealership group based in Grand Rapids with 28 locations throughout Michigan and Illinois that generated approximately $789 million in annual revenues for 2016
- Jodi Rothenthaler, senior tax manager at Plante Moran PLLC who specializes in working with small family-owned car dealerships and manufacturers
- Mitch Watt, president of Triangle Associates Inc., a Walker-based contractor that has worked with Fox and others on dealership projects
- Aaron Zeigler, president of Zeigler Auto Group LLC, a Kalamazoo-based dealership group with sales in excess of $1 billion that operates 23 locations throughout Michigan, Indiana, Illinois and New York
Here are some highlights of the discussion:
What’s your outlook for the auto dealer sector as we begin 2017?
MAHER: The industry is reporting that it’s going to be a flat year for new car sales, so we’re planning on that, although we don’t really feel like that’s going to be the case. We still feel like there’s growth in our business in new (vehicles). For growth, we are focused on the used (vehicle) market and improving the used market in a number of different ways, and also the service business and accessory business, which I think the car business historically does not do a good job in capturing the revenue (from).
ZEIGLER: The good news is that we are coming off a record year in terms of the number of cars sold. We’ve been having these increases, it’s slowed down a little bit these last couple years, but if the industry goes flat, it’s flat at the highest point it’s ever been. … If you look at the economy, unemployment is low, gas prices are low (and) interest rates are still low. It’s a really healthy economy and I think that’s going to continue to drive sales.
ROTHENTHALER: I would echo the same thing with our client base. Coming off another record year with high profits, with that comes challenges with tax planning, managing that tax flow and then also meeting those requirements for incentives. Dealers are definitely seeing the profits, and it’s been a couple good years for my clients.
KONING: There’s certainly a trend toward consolidation in the dealership world. Back in the 1980s, there were 30,000 car dealerships nationwide. Now there are about 17,000, and you’re seeing the emergence of larger, better financed dealership groups like the Fox Group and the Zeigler Group.
WATT: The shift over the last several years has been away from brand and image programs and enhancement to customer touch points and service. So expanding service areas, building car washes — that whole customer experience and trying to drive more customers through the service (business). There’s still some brand enhancements and things going on, but the majority of the work is focused on expanding dealerships to accommodate more service.
Coming out of the recession, there were a lot of incentives to do those renovation programs. Do you see that cycle coming back any time soon?
ZEIGLER: It used to be that the manufacturers would give you some money to do something. Now it’s, ‘We’re going to take something away from you if you don’t do it. Here’s what you have to do to be image compliant, otherwise we’re going to take money away from you.’
Approximately how much does it cost for a dealership to reach image compliance?
MAHER: I haven’t done anything that doesn’t add up to a million by the end.
WATT: Generally, when they do a brand enhancement program, they’re not thinking cheap materials … because the manufacturers want to increase the brand awareness and the image of the product.
Do you see a day when an independent dealership can’t exist because of pricing pressures?
ZEIGLER: I think it’s coming quick.
WATT: Just think about all other industries as well. Sort of the driver of our economy now is consolidation. I think it’s just going to continue and be tougher for those small dealers to really make it work.
KONING: In terms of family transfers, in particular for smaller locations, because of the capital and bank loans required, the personal guarantees — it’s just not as easy for a new generation to step in for a smaller store.
ZEIGLER: The other thing that’s happened over the last 10 years is with the advent of the internet, the car is basically the star. You have to have enough cars out there online because that’s how everyone gets to you. It puts a smaller dealer at a distinct disadvantage.
MAHER: Some of the smaller dealers are not sophisticated enough to handle the innovation and how fast it’s going for a modern-day car dealer. That’s just another element besides capital that they’re not able to keep up and invest in it.
Do you see any threat to the brick-and-mortar establishment if more people shift their focus online?
ZEIGLER: It would be awesome to not have all of these expensive facilities, but I don’t think it’s going to change. It’s such a complex process that there’s a lot of things you can do online but no one wants to go 100-percent online. At some point, they want to drive the car. The technology online has compressed the buying process because someone comes in and they already know what their car is worth.
KONING: And the service. You buy the product, you have to take delivery of the product and then you have to maintain it and service it. There’s going to have to be some outlet for that.
With pricing and valuations accessible online, how do you stand out as a dealership?
MAHER: Most of our spend is in digital now. More and more goes to digital and less and less goes to traditional media sources. We have a robust e-marketing department so we’re doing a lot of internal marketing to customers and trying social media and contacting them in different means.
ZEIGLER: One-hundred percent of our marketing is digital as well. The other part of it is whoever has the car someone is looking for wins more often than not these days. If you’re a consumer and you go out and are doing a search online, and if someone gets to your car first and you have the right inventory, you’re going to win.
If people pick out their car online and know what they want, but dealers must invest in the customer experience, how does that dichotomy play out?
MAHER: People like their cookies when they come to our place and are getting an oil change. They like to watch the TV and sometimes they like to have coffee.
ZEIGLER: They’re coming in for the car, but people like to do business in a nice facility. If you don’t have to pay any more, would you go to a nice facility or a lousy facility? You’d go to a nice one.
With it becoming more challenging for small dealerships, what does the M&A environment look like moving forward?
ZEIGLER: It’s still very fragmented. Now is when you’re going to see a group that has 30 stores buying a group that has 15 (stores) because if you have 15 stores, the only way to exit is to sell to someone bigger, go public, or have private equity money coming in.
KONING: Even after consolidation, I’d estimate there’s still at least 500 car dealerships in Michigan, so there are a lot of options out there.
Does Fox or Zeigler plan to close on additional acquisitions this year?
MAHER: Yeah, sure — there’s a deal a week. I’m exaggerating, but I’m always working on something. There are a lot of sellers who are unrealistic about what their business is worth and we can’t come to terms for whatever reason. They still think there is a bubble going on and there isn’t really a bubble.
ZEIGLER: We’re always looking at deals and there’s always stuff coming up. When you get known for buying stores, you get more looks, but you have to look a lot more today before you buy one. You look at the price they want and what you offer them and it’s not even close. I think what’s happened is that times are pretty good so some guys are looking to exit, but they’re going ‘Hey, it’s going to be pretty good for the next few years.’ Everyone wants to sell before it goes over a cliff.
ROTHENTHALER: That’s where we come in quite a bit: When our clients are getting approached by offers, looking at what your return is going to be, what’s that sale price — versus what you’re going to make over the next five years if you stay in. A lot of times that’s just not there. It’s more economical to just stay in.
Does M&A become self-perpetuating at some point or could you run out of deals?
MAHER: You don’t have to (do deals), but it’s part of your culture if you’re a growing company. People are attracted to that and your team is energized by that.
ZEIGLER: The bulk of our organizations are at a size where if you don’t buy, you’re going to be fine out there. We have the platform set up so we have the cost reduction and we have enough inventory out there. Now you do it because you want to, it’s part of your DNA.
KONING: When you’re not a public company, you have the luxury of having a long-term view. You can plan for the future and you don’t have to whipsaw your decisions based on what’s going on in the stock market.
Is going public an option anymore?
ZEIGLER: We’re going to stay private.
MAHER: No, we’re a family business.
With interest rates expected to continue to rise, will that slow your ability to grow?
MAHER: For a car dealer that has hundreds of millions of floor plan debt, it’s just a dramatic difference that changes the game a little. Your cost structure goes up because you have loans on cars. No one can finance that out of their own pocket. That’s a threat coming up.
ZEIGLER: If you’re carrying $200 million in floor plan (debt) and interest rates go up 1 percent, it adds $2 million in costs. The other thing that it does is that most people buy a car based on what the monthly payment is because they live their lives one month at a time. If interest rates go up, that car payment is a little more expensive and that will tip a certain percentage ... into slowing things down a little bit.
Both Zeigler and Fox recently added powersports to their portfolios. What role does that play in your business plans going forward?
MAHER: We’re personally in the powersports business in our hometown and that’s probably the extent of it. It’s a really fun business to be in and we really like it, but it’s not a high-profit model business. Harley-Davidson dealerships are a different matter. That’s a very good investment opportunity and so we have three main stores and a clothing outlet on Michigan Avenue in Chicago. We may expand a few more stores, but Harley has a rule about how many dealerships a dealer can own.
ZEIGLER: I grew up racing jet skis and had ATVs and always enjoyed it. I heard the guy was struggling in Kalamazoo and reached out to him and asked if they were interested in selling, and they were. It is a very complex business that’s much lower margins than cars and more difficult to run, yet it’s a pretty fun business and it was in our hometown. I was able to come up with a unique piece of property to be able to build a really cool big dealership and have some tracks with it so people can come, buy something, and then play all in the same complex. It was a chance to do something really cool for Kalamazoo and a one-off deal that would be a destination, but that will probably be the extent of my powersports.
We hear from other industries about the struggle for talent. What’s it like for auto dealers?
MAHER: It’s a huge deal. That’s the thing I worry about most is finding the talent that we need to grow. We’ve come up with different ways to do that that are working. But you can’t go out there and try to find an auto mechanic who has all kinds of certifications. You can try to steal them from somebody else, but there is a lack of supply and that’s just hurting everybody and doesn’t make any sense.
ZEIGLER: We actually have a program where we’ll pay for somebody’s entire four-year school to become a technician and all their certifications if they sign a contract to work for us moving forward.
WATT: (Talent) is an issue in a lot of industries. We had to do the same thing, to dial down to the high school level and build our own recruits for the future and help them through that process. I think the high school programs are realizing now they’ve done a disservice by eliminating shop programs and trades programs.
MAHER: These jobs are much higher paid than what my kids are going to make out of college and people don’t even understand it. It’s like twice as much as most kids make. There’s a real vacuum there.
Can automotive technicians can make a six-figure salary?
MAHER: The best ones can, but clearly, they can make $60,000 or $70,000 a year.
ZEIGLER: If you go to the Chicago market, a high percentage of them are making six figures as well, especially on your high-end brands.
MAHER: It’s a really good job, especially for a kid who doesn’t want to go the traditional route. You look as a parent investing for four years of college and then afterwards your child is in a worse position than an auto mechanic, and it’s kind of sobering.
KONING: Unlike a manufacturing job that might get shipped to Mexico or China, the auto technician work always has to be done here.
ZEIGLER: You could go anywhere you wanted, any city in the country and have job tomorrow if you’re a technician.
How are you planning for the next downturn, whether that’s a year from now or three years from now?
ZEIGLER: We’re car dealers; we’re optimistic. [Laughter]
MAHER: We never ever think there’s going to be a downturn. We grew during a time when everything fell apart, so I don’t really have an experience in my career where something like that impacted us.
ZEIGLER: I always said as painful as it is to go through a recession, it was the best thing that happened to our company because we grew tremendously then too. It brought a lot of deals into play that we couldn’t afford or would have been too expensive before. As much as you never want to see a downturn, when a downturn happens, that’s when we get really aggressive.
As you look out over the next couple years, are there any key things that are keeping you up at night? For the advisers, is there anything that should be keeping them up at night?
MAHER: Other than talent that I mentioned, the only other thing that bothers me is that the technology is not there to do what we want it to do to enhance the customer experience. There doesn’t seem to be the best thing yet developed to help a customer go through our process in a way that’s convenient to them.
ZEIGLER: If I had to pick one thing, it would be interest rates. They have to go up. They say three quarters of a point this year and if it goes three quarters of a point the next year, that might have an impact.
KONING: Interest rates, hiring people. The longer term trend toward the next generation’s view of car ownership is another topic. Will people continue to buy cars at the same volume they have in the past? So far so good, but it remains to be seen.
ROTHENTHALER: Succession planning is really big. It’s making sure my clients know what their vision is, know what their succession plan is and start planning for that, even if it is just five or 10 years down the road.
WATT: As a contractor that came out of the 2008 recession through 2012, all the economic forecasts and trends point to sustained growth in the industry. I was at a great Economic Club presentation that (showed) there might be a slight dip in 2018, but really if you look at the trends on the depressions or major recessions, it’s a 12- to 15-year cycle.
ROTHENTHALER: I also see fraud and cybersecurity as two areas where we are helping our clients. The dealerships, especially the smaller stores, just don’t have as many checks and balances in place because they don’t have the personnel to do that.