1/ Some random things I've learned about the auto industry value chain recently...
2/ Car dealerships typically don't have the capital to outright buy all of their inventory so vehicle manufacturers will provide "floorplan facilities".
This is a type of loan that allows dealerships to hold inventory and pay back the loan as cars get sold.
This is a type of loan that allows dealerships to hold inventory and pay back the loan as cars get sold.
3/ The higher the inventory turnover, the less the dealership has to pay in interest expense and depreciation.
So inventory turns are crucial.
Ok, that's for new cars.
So inventory turns are crucial.
Ok, that's for new cars.
4/ The used car market has a few more wrinkles. For one, car auctions play a huge role here.
The two biggest are Manheim (private) and KAR (Adesa). These two control the market (Manheim is way bigger).
Interestingly, Manheim's parent (Cox) owns Kelly BlueBook as well.
The two biggest are Manheim (private) and KAR (Adesa). These two control the market (Manheim is way bigger).
Interestingly, Manheim's parent (Cox) owns Kelly BlueBook as well.
5/ Another name for the auctioneers is wholesalers. These companies connect supply and demand and take fees for holding the auctions.
Nowadays, the auctions can be held "off-premise" where dealerships can bid on cars remotely through the internet.
Nowadays, the auctions can be held "off-premise" where dealerships can bid on cars remotely through the internet.
6/ CarMax is big enough where they actually hold their own auctions but they, and every other dealership (CVNA included) buy from Manheim and Adesa.
A lot of the wholesale supply is just dealerships trading with one another.
A lot of the wholesale supply is just dealerships trading with one another.
7/ For instance, say you trade-in your car with Carvana but the mileage is a little too high for Carvana's preference.
They will likely sell that car through a wholesaler for more than the trade-in value.
Interestingly, Carvana has a partnership with Manheim called Access.
They will likely sell that car through a wholesaler for more than the trade-in value.
Interestingly, Carvana has a partnership with Manheim called Access.
8/ The auctions are also investing in technology to bulletproof them from being disrupted.
KAR bought TradeRev and BacklotCars and Manheim is investing as well.
Rather than dealers transporting cars to the auctions with the chance they don't sell, they can take pics and post.
KAR bought TradeRev and BacklotCars and Manheim is investing as well.
Rather than dealers transporting cars to the auctions with the chance they don't sell, they can take pics and post.
9/ Other dealers can then agree to buy those cars and this limits the inefficiency of dealers transporting cars to the auction site and not having any bidders.
Ok, now onto financing...
Ok, now onto financing...
10/ Around 85%/55% of new/used cars are financed.
Typically a car dealer will make about half of its profit from this piece of the business so it's very important.
Typically a car dealer will make about half of its profit from this piece of the business so it's very important.
11/ It usually works like this. A dealer will sell a car and then check someone's credit and then send out a proposal to lenders.
Certain lenders specialize in different niches. Generally, Tier 1 would be prime credit, Tier 2 near-prime, and Tier 3 and below, subprime.
Certain lenders specialize in different niches. Generally, Tier 1 would be prime credit, Tier 2 near-prime, and Tier 3 and below, subprime.
12/ Based on the credit check the dealer does, they can route the application to the respective niche.
Then, the dealer chooses the bidder that gives them the best economics.
But it's not always a clear choice because there are lots of nuances.
Then, the dealer chooses the bidder that gives them the best economics.
But it's not always a clear choice because there are lots of nuances.
13/ For example, if it's a Ford franchise dealership, Ford's finance arm could do the loan and give some incentives for the dealership.
But maybe a non-captive (meaning not the car manufacturer) lender gives a better deal?
But maybe a non-captive (meaning not the car manufacturer) lender gives a better deal?
14/ Now, sometimes a dealer is also the lender like in the case of Carmax Auto Finance (CAF). They keep ~40% of their loans on balance sheet and then will typically sell the rest.
But this is fairly rare with smaller dealerships.
But this is fairly rare with smaller dealerships.
15/ The riskier the credit profile of the borrower, the bigger the discount the dealer will give to the lender.
In subprime, loan-to-value's can be 120+ so the dealer still makes a positive spread on the vehicle but the lender is pricing the risk.
In subprime, loan-to-value's can be 120+ so the dealer still makes a positive spread on the vehicle but the lender is pricing the risk.
16/ Dealers will also usually get up to 2% of the loan value as sort of an origination fee from the lender.
This is obviously very high margin and drops to the bottom line.
This is obviously very high margin and drops to the bottom line.
17/ If a dealer or a lender gets to scale, they can pool the loans and sell them off in tranches, also known as, asset-backed securities.
Institutions looking for yield can purchase these and get fixed-income in exchange.
Institutions looking for yield can purchase these and get fixed-income in exchange.
18/ The reason dealers and lenders do this is for liquidity. If they have to keep putting up capital for the loans, they won't be able to do more loans.
You can think of it like taking on reasonably priced debt to continue making loans.
You can think of it like taking on reasonably priced debt to continue making loans.
End/
One more thing is the dealerships make very high margins on GAP & VSC waivers. These things can be marked up 300%!
GAP (guaranteed asset protection)
VSC (vehicle service contact)
Along w/ financing, this is where the real margin is. Used cars often sell for breakeven.
One more thing is the dealerships make very high margins on GAP & VSC waivers. These things can be marked up 300%!
GAP (guaranteed asset protection)
VSC (vehicle service contact)
Along w/ financing, this is where the real margin is. Used cars often sell for breakeven.
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