On Tesla, Michigan And Factory Stores

Bloomberg’s op-ed “ Detroit Fights Innovation — Again” is not about the Detroit Three of GM, Ford and Fiat Chrysler [merger consummated Oct 12th] or even manufacturers, but about Michigan and (indirectly) automotive dealers. It makes the very tenuous claim that a ruling blocking Tesla from running company stores (which is in fact in line with existing state law) is tacit protectionism that represents a step backward. Indeed, the article implies that the restriction is ultimately aimed at preventing a Chinese invasion. In fact the policy is misguided because history shows that there’s no need to fear factory stores, at least as long as they’re not set up by a car company so as to undermine their own existing dealers.

First, there’s the red herring: China. The editors – there’s no by-line, though David Shipley is listed at the bottom – ignore that GM and VW are the biggest players in China, and that purely domestic firms are in a tailspin (Warren Buffett has thrown away a pile of money on BYD [ 比亚迪汽车]). The camel’s nose is well inside the tent: all of China’s major players are multinationals who already have dealerships spread across all 50 states. Indeed, two firms, Honda and Volvo, are already exporting from China. And the policy is to protect the Detroit Three? Don’t the editors realize that last month they held but 46% of the US market?

Second, the important point: multiple automotive firms in multiple countries across multiple decades have tried and failed with factory stores. If you read carefully, you’ll even find Elon Musk talking about defects with Tesla’s distribution model. A modern dealership is comprised of six interlinked businesses: new vehicle sales, used vehicle sales, used car wholesaling (trade-ins), finance & insurance [including warranties], repair services, and parts sales, both retail and wholesale. (Some add a seventh to the mix, body shops, which in practice are a very different business from service & repairs.) So a manager must handle trade-ins, push used car sales and otherwise place a priority on things other than selling new cars in order to make a profit. On top of that, dealers are in a constant battle over what sort of physical “store” is needed, how much and what kind of advertising is necessary, and many other decisions important from a financial or strategic perspective. All this requires an ability to say “no” to the factory. No company has ever granted the manager of a factory store that level of discretion.Note 1

More important for potential new entrants, independent dealers provide billions in financing to a car company, because they hold inventory. The real estate is theirs as well, again not a trivial investment. Any potential new entrant that needs a large distribution footprint — that is, any company outside of the supercar niche — can’t afford to ignore that. If Elon Musk wasn’t so good at bilkingmilking investors, he would need that money, too.

So the Bloomberg editors are accurate that Michigan — which is far from being in the vanguard on this issue — should not concern itself with Tesla’s retail strategy. They are however accurate for the wrong reasons: factory stores have been a bloodbath for all who have tried, and will remain so. In practice, independent dealers are critical to a car company’s long-run financial viability. Contrary to the editorial, it’s not incumbent car companies that should be concerned, or existing dealers. It’s Tesla shareholders and bondholders who should worry.Note 2

1. The factory rep who has actually sold a car to a real customer is the rarest of creatures. To my knowledge there are none with the experience of running an independent dealership. Then there are incentives. A factory rep is not offered compensation commensurate with what the principal of a (successful) independent dealership can earn. Instead they work for a salary, and their career depends on saying yes to their boss. So both corporate incentives and practical knowledge stand in the way.
2. In the past week Toyota sold some of its 2.4% stake while Daimler sold all of its 3.9% stake.