Category: Strategy

Spinoff Startups in F&I

The popular notion of a startup is two guys in a garage, like Hewlett and Packard, but this is not always the case.  Sometimes a mature company will give birth to a new business unit.  I did some foundational work for Dealertrack and, at that time, it was the eCommerce department of Chase Auto Finance.  In fact, a number of the startups I’ve worked with have been F&I spinoffs like Dealertrack.  Today we’ll explore these for common themes and lessons learned.

One common theme is the role of outsourcing.  You can begin with a core team, plus service providers, and then insource the functions systematically over time.  I was an early employee of BMW Financial Services, which began as a department of the sales company and all functions outsourced to GE Capital.  The head of this department, Kevin Westfall, had a plan to bring the operation under his control as a new entity with a new service provider.

I was recruited from Coopers & Lybrand, which was tasked with selection and contract administration for the service provider – outsourcing the outsourcing, so to speak.  After a few years at BMW, I followed Kevin to AutoNation and the same strategy.  We outsourced Funding, Customer Service, and Collections to World Omni, but kept staff functions and the Credit department in house.

You have a lot more autonomy managing a service provider than you do with permanent staff on the parent company’s org chart. 

Outsourcing isn’t magic, though.  If you can’t manage the function in house, then you probably can’t manage contracts and SLAs either.  On the other hand, this is a great way to get around the parent company’s hiring restrictions.  They may not be willing to hire the requisite staff for, say, a Collections department, but will sign a flexible contract with a service provider.  Also, to be frank, you have a lot more autonomy managing a service provider than you do with permanent staff on the parent company’s org chart.

McKinsey’s Meffert and Swaminathan write about “breaking the gravitational pull of the legacy organization,” and this is such an apt metaphor.  Many at BMW viewed the breakaway department with suspicion.  There was political pressure to keep Kevin under control of the Finance department, an obvious misalignment, and passive resistance from some of the others.  It was important in this case to set up our own HR department, and move it out of town.

It was the same story at AutoNation Financial Services.  We had our own IT, Finance, Ops, and Marketing plus dotted lines to the respective “real” departments of the parent company.  This gravitational pull is normal organizational behavior.  Managers are always starved for headcount and, since the new initiative is hiring, they want their piece of it.

When your army has crossed the border, you should burn your boats and bridges, in order to make it clear that you have no hankering after home.

When ANFS was shuttered in 2002, most of our crew was absorbed back into the parent company.  Obviously, having an escape route like this is not conducive to the kind of commitment required by a startup.  Insert Sun Tzu quote here.

There was no such option for two of my consulting accounts, Route One and Provider Exchange Network.  Route One, for example, was manned by senior managers from various captives.  There was not much chance of these guys going back to their old jobs if Route One were to fail.  I am thinking in particular of the founding CEO and CIO, Mike Jurecki and Joel Gruber.

Joel retained me as a subject matter expert in online credit systems, to work on the outsourced (there’s that word again) development of Route One’s core system.  I called on Joel a few years after the project and we talked about the career risk he had taken.  By that time, I was involved in a startup of my own, with no small amount of risk.

Paradoxical though it may sound, we believe companies need to take more risk, not less.

McKinsey cites the top ten ways to fail at digital transformation, and “excessive caution” tops the list.  It’s my personal belief that you can never achieve anything unless you’re willing to take a risk for it.  In any case, a big, risk-averse corporate parent is certainly going to impede the new unit.

Provider Exchange Network, likewise, was staffed by people hired for the purpose.  We had, from the outset, our own IT, Finance, and Marketing.  We did, however, run our hiring through the excellent HR department of Reynolds and Reynolds, and this is maybe the counterpoint to my arguments about autonomy.

The parent company is unlikely to have functional expertise useful to the new venture but, where it does, you should use it.  BMW had zero expertise in consumer finance, but they had a terrific Legal department.  At AutoNation Finance, we made good use of our parent’s FP&A capability.  Also, the spinoff may be designed specifically to exploit some asset of the parent company, like its dealer network or OEM relationships.

So, my takeaways on this topic are:

Group Cohesion – The new unit should be united around a common purpose, with people hired for the purpose or as a breakaway department.

Cutting the Cord – The spinoff will have to win some turf battles with parent company managers who refuse to let go.

Leverage Legacy Assets – On the other hand, take advantage of the parent’s core competencies, especially those that are hard to duplicate.

Outsourcing – Find partners.  Rent to own.  McKinsey and others have stressed the importance of thriving in an entrepreneurial ecosystem.

Take Risks – Fortune favors the bold.  No shortage of clichés here but, seriously, all of the literature talks about new initiatives that move too slowly and become roadkill.

I recognize that these points are open to some interpretation.  They’re based, as you see, on my firsthand experience.  That’s some good experience, though, so if you’re doing an F&I spinoff maybe you can profit from it.  Best of luck.

Digital Transformation Playbook

I read a good book over Christmas break, The Digital Transformation Playbook, by David Rogers.  This is a good book because it has both theory and practice, plenty of research and real-life examples, and practical “how to” guides.

Just when you’re thinking, “oh yeah, when has that ever happened?” Rogers comes up with an example.  Many of the these include commentary from the people who worked on them.  It’s clear that the professor gets out of his classroom for a fair amount of consulting.

Digital transformation is not about technology – it is about strategy and new ways of thinking.

Most books like this focus on digital native startups.  That’s the sexy stuff and, in fact, where I have most of my experience.  I chose this book for its focus on digital transformation, in existing companies and hidebound industries (like auto retail).

The book is organized around five strategic themes: customer networks, platform marketing, upgrading your value proposition, data as an asset, and innovation through experimentation.

I did grow a little impatient with Rogers’ incessant enumerating: five core behaviors, four value templates, three variables, two trajectories (and a partridge in a pear tree) but I appreciated the effort to boil everything down to a foolproof recipe.  There are a number of these:

  • Customer Network Strategy Generator
  • Platform Business Model Map
  • Value Train Analysis
  • Data Value Generator
  • Experimental Design Templates
  • Value Proposition Roadmap
  • Disruptive Business Model Map
  • Disruptive Response Planner
  • Digital Transformation Self-Assessment

I was even inspired to start making value train diagrams of our business, and platform model maps:

On the theory side, Rogers reexamines familiar models from people like Drucker and Levitt.  He shows, for instance, that Christensen’s theory of “digital disruption” is a special case, and broadens it.

By the way, this discussion of digital disruption is one of the most lucid (hype-free) that I have read.  As usual, there is a checklist: analyze three features and choose one of six strategies.  If that doesn’t work then, yes, you’re disrupted.  Time to update your resume.

I read all the time, though I don’t often write book reviews (here is the last one) so Rogers’ fifteen-page bibliography was an extra treat.  That should keep my Kindle stoked for a while.

Toward a Digital Auto Marketplace

Will the big public groups dominate online retail, as I predicted last week, and drive private dealers from the field?

This trend seems to have recovered, after some false starts, with the availability of fresh talent like Shift, Drive, and Roadster.  Shift has $253 million in funding, notably including Lithia.  AutoNation has recently invested $50 million in Vroom, valuing the online startup above $700 million.

How can smaller groups compete in this high-stakes contest?  One way, as I wrote here, would be to consolidate themselves online.

To defend themselves online, private dealers will migrate into the most capable of the platform sites. The winning platforms will not be mere lead providers.

I know something about platform marketing, having organized the Provider Exchange Network around cross-side network effects.  The more menu systems we added on the dealer side, the more success we had with F&I providers on the other side.

The difference between a selling platform and a mere lead provider lies in the site’s ability to deliver a completed deal.  That is:

  1. Show the true price online.
  2. Sell protection products.
  3. Provide a firm offer for the trade-in.
  4. Offer hard-pull credit approval and deal structuring.
  5. Allow the customer to save multiple deals and self-close.
  6. Sign the contracts online.
  7. Provide for home delivery.

Home delivery is not just a nice touch.  It demonstrates the capability to truly complete the deal online, with no tasks left over.  It is the acid test for online retail, even though most customers will opt to finish the deal in person.  The tasks are described here, and the workflow is here.

This capability is not so far-fetched as it was when I started writing about it, some years ago.  Delivering it on a multi-dealer site, however, poses special challenges.  The only eCommerce capable sites I can think of are run by monolithic used-car dealers Shift, Vroom, Carvana, and CarMax, or single points using digital storefronts from Roadster, Drive, and TagRail.

So, I am back to writing about the future.  In the fullness of time, someone will figure out how to do eCommerce for:

  • New cars
  • Multiple new-car stores in a group
  • Multiple unrelated new-car stores

When I started writing about the platform concept, I naturally assumed that Autotrader, et al., would be there.  Now that I have spent some time exploring Autotrader, Cars.com, Car Gurus, Edmunds, GoGo, Carfax, TrueCar, Autobytel, Kelley, and Deliver My Ride, I can tell you this is still uncharted territory.

Everybody promises eCommerce, of course, but most stumble at the first gate.  This challenge, price transparency, was supposed to be TrueCar’s edge.  In fairness, the platform model poses some special challenges:

Price Transparency – This one needs no explanation.  Despite glimmers of hope from the Rikess Group, online pricing is mostly confined to used cars.  A new car marketplace would have to disclose, on the search results page, prices from competing dealers.

Protection Products – Same story here, as regards pricing.  Also, if you want to do it right, you need to copy the dealer’s menu system setup, and ping those providers for pricing.  In fact, each step of the online process needs an interface with its “system buddy” in the dealership.

Trade Valuation – There are plenty of tools, but participating dealers must agree to honor the platform’s valuation.  This is easier if the platform happens to be Kelley.

Credit Approval – Each dealer will have their own stable of finance sources.  It’s best simply to bounce the application off the dealer’s Route One or Dealertrack credit system, and then return the results to the platform.  This data needs to be in synch with the dealership anyway.

Deal Structuring – I complain all the time about weak payment calculators on consumer sites.  The special challenge here is that data must be shared with each dealer’s desking system, and the calculations must match.

The rest of the process is pretty much unchanged from single-dealer: saving and transmitting the deal, signing (standardized) forms with DocuSign, and scheduling the delivery.

I recognize this is but the broadest broad-brush outline.  My purpose here is not to explicate the design, but to illustrate how progress toward the digital marketplace is impeded by these special challenges.

We may need to cooperate with a direct rival due to interdependent business models or mutual challenges from outside our industry.

How will these challenges be resolved?  Will competing dealers learn to cooperate, for the sake of their online survival, or will the palm go to a single online victor – like AutoNation, or Amazon?  The quote above is from Professor Rogers’ definition of “coopetition.”

Smaller groups cannot afford to invest $50 or $100 million, as AutoNation and Lithia have done.  Look a little farther down the league table, though, and it’s not hard to find four or five dealer groups which, combined, match the scale and revenue of a public group.

Joint ventures are not unheard of in our industry, especially when it comes to eCommerce.  My own brainchild (and eCommerce platform) PEN, like CVR before it, is a joint venture between archrivals CDK and Reynolds.  Route One is a creation of the Detroit three captives, plus Toyota.  Honda and GM are working together on electric cars, while BMW and Daimler collaborate on mobility services.

Combining four or five dealer groups simplifies the problem, relative to a fully open marketplace.  It reduces the number of systems, lenders, and product providers that need to be integrated.  The ideal venture partners would already have a high degree of standardization within each group, and similar choices of software among them.

Such a project might proceed “depth first” by developing core functionality in one partner, and then folding in the others, or laterally by function, or by merging the existing eCommerce capabilities of the partners.  What to aim for as “minimum viable,” and how best to expand it, depends on a number of factors.

Meanwhile, the commodity lead business is under pressure.  Damage reports and reviews do not offer adequate differentiation, whereas investments in eCommerce could yield significant new opportunity.  The Cars.com situation marks the beginning of the shakeout, consolidation, and – just maybe – the digital marketplace.

Asbury Drive in the House

Photo Credit: Nyisha MorrisKelly and I were sipping coffee at Digital Dealer, greeting participants, and speculating on how the ultimate online buying experience would come to pass.  Presenters had talked about Amazon, obviously, and the recent opening of a Hyundai digital showroom on Amazon Autos.

A while back, I organized the various offerings into categories like: online platforms where multiple dealers may list their inventory (basically lead providers) versus eCommerce plug-ins to be placed on individual dealer web sites.

One key variable was whether the site actually holds inventory, i.e., is a dealer, not just a technology play.  Carvana, for example, or Shift.  Increasingly, what I notice is that the good technology either evolved from a dealership, or – I found this intriguing – they will buy a dealership to serve as a test bed.

Your rapper name is a top twenty dealer group plus a digital retail system.

Roadster came from a concierge buying service which, as far as I know, they still operate.  A2Z Sync came out of Denver-based Schomp group.  The Gogocar people operate a Kia dealership.  This brings me to the next level of dealer technology tie-ups, those where big dealer groups choose an online retail solution and commit to it.

Roadster is working with AutoNation, Lithia just bought a big stake in Shift, and Drive is in all Asbury stores.  The Lithia deal is pure genius, because it allows Shift to handle more inventory and slashes their floorplan costs.  The many links in this post show support for my prediction using publicly available information.

We philosophically do not believe that software development is our expertise. Instead, we’d prefer to partner with third parties – Craig Monaghan

That prediction is … continuing the consolidation megatrend, we will see dominant groups taking the lead in online retail, but unable to master the technology on their own.  This is what I call the “Kodak syndrome.”  Incumbent leaders are not agile enough to ride a paradigm shift.  This means not only the dealer groups, but the traditional software vendors.

I expect to see the Sonics and Asburys of the world buying up the digital retail people, absorbing their talent, and denying access to their competitors.  I characterized this as a “land rush” in the earlier piece.  Direct to consumer is the final frontier.

Deconstructing the Dealership

Remember when dealerships had body shops?  Two out of five still do, but they comprise less than 20% of this $35 billion market.  Somewhere along the line, it became clear that collision repair was better done by specialist facilities, unconnected to the dealer.  Scale, capital investment, brand diversification, and (lack of) synergy were factors.

We may now wonder if parts and service belong in the dealership, thanks in some measure to the rise of automotive eCommerce.  Jim Ziegler warns that Valvoline Express is beating dealers in the shop and online.  Ward’s makes the same point, with emphasis on Google search optimization.  In the same vein, Amazon has come up with a way to sell tires online.

There can be much synergy between the two ends of the business, which can be leveraged to manage and sustain customer relationships – Vincent Romans

My approach is to “follow the money” and, sure enough, here is Carl Icahn buying up repair facilities.  Icahn Automotive Group is a classic consolidation play, with 2,000 locations including Precision Auto Care, Pep Boys, Just Brakes, AutoPlus, AAMCO, Cottman, and CAP.  Icahn is vertically integrated through Federal-Mogul Motorparts, which includes ANCO wipers and Champion spark plugs.

So, will eCommerce pick off the dealer’s profit centers one by one?  In this example, we see the convergence of powerful megatrends.  The traditional dealer model is challenged by two new ones, which I like to call the Best Buy model and Amazon model.

History tells us that the Amazon model will prevail in the end, but it doesn’t tell us what the transformation will look like, or how dealers should prepare.  To learn that, we employ an old tool from Business Process Reengineering, and we discover a surprising result.  Here is a breakdown of the traditional dealer operations:

  • New Sales
  • Used Sales
  • Finance
  • Insurance
  • Parts
  • Service
  • Collision Repair

We can consider each operation in terms of how it will respond to the new challenges – and whether it belongs with the others.  We have to start somewhere, so let us define new vehicle sales as the nucleus of the dealership.  The test drive is the process most resistant to eCommerce although, as I wrote last week, there are ways around it.

Used vehicle sales will certainly not stay in the dealership.  It is vulnerable to both consolidators and eCommerce.  This is a shame because taking vehicles in trade used to be a great synergy.  The new specialists are true “auto traders,” using high-volume analytics to trade both ways with the public and the auction.

Coming back to fixed operations, there is a clear synergy.  According to Cox research, customers who are properly introduced to the service department are two and a half times more likely to come back for service.  But there are other ways to exploit this synergy, like the “zero deductible at our dealership” service contract – and the Amazon tire store shows that parts can be separated from service.

Lithia Motors has 186 locations including, by my count, fourteen collision centers.  There is not much synergy between body shops and vehicle sales, or even service, but they run fine as standalone operations connected to the brand.  Likewise, given a branded service contract, I can see Lithia’s mass market franchises supporting shared service facilities.

F&I is the subject of fierce debate, too much to cover here.  Can it be merged into the sales function? Can protection products be sold successfully online?  What is the future of indirect finance?  Do “F” and “I” even belong together anymore?  For our purpose today, we need only observe that while F&I has a workflow linkage to sales, it does not need a physical one.  F&I could just as easily skype in from a call center.

As Carl Icahn would tell you, these are distinct businesses without much synergy, if synergy is defined as “positive return from shared personnel and facilities.”  Dealers organized along these lines will, indeed, be picked apart by eCommerce and consolidation.

On the other hand, if synergy means “positive return from shared customer contact and branding,” then these businesses will hang together.  Dealers organized along this principle will have diverse and independent operations, making them resilient to disruption.  They will have “optionality,” to use Nassim Taleb’s term.

You may be taken aback by this assault on the venerable “rooftop,” and I admitted earlier to being surprised.  However, decoupling and diversification (and divestiture) are textbook responses to an industry in flux.  Just look at how many departments are no longer in department stores.

Worry about Mobility, Continued

This week, we examine the fourth piece of McKinsey’s automotive revolution, shared mobility.  This is really a collection of trends including car sharing, ride hailing, and mass transit.  I will show how to gauge whether a new program has the potential to be disruptive.  But first, let’s dispense with mass transit.

From Munich, you can ride the U-Bahn to the Schnellbahn, and get anywhere in Europe by fast rail.  This is where McKinsey’s analysis shows its European bias.  Europe’s population density is three times that of the United States, and her various rail systems carry twenty times the passengers.

American cities are linked by air, of course, but relatively few have commuter rail systems.  When you deplane at Las Vegas, for example, or Orlando, you are headed for the car rental counter.

“What’s happening in general, millennials, younger people, car ownership in and of itself is not the most important thing.”

When I worked at BMW, twenty years ago, they were already styling themselves a “mobility” company, and not solely a car company.  At the time, that meant mass transit.  If you look at BMW today, their investments tell a different story.  I won’t try to categorize Fair, Shift, Skurt, Scoop, and ReachNow – not today, anyway. Today I want to talk about capacity utilization.

If you’re like most people, you drive your car to and from work, plus errands and recreation.  Let’s call it 20 hours of use for the 112 hours per week you’re awake, or 18%.  In theory, any mobility scheme that increases capacity utilization will cause a proportional decrease in car sales. There is a variety of schemes, known collectively as Mobility as a Service.

“The success of a MaaS provider will be determined by how much utilization they can gain from their accessible fleet.”

Uber is the obvious example.  It increases utilization for the drivers, and reduces the riders’ inclination to buy a car of their own.  I meet people every day who won’t buy a car, or won’t buy a second car, because Uber meets their occasional driving needs.  In major urban areas, people have long gotten by without cars.  The way I see it, Uber has widened this circle out into the suburbs.

Uber will also take a bite out of traditional car rental, as will hourly rental services like Maven. Maven is basically Uber without the driver, good for business travelers who just want to attend their meeting and go back to the hotel.  Business travelers I know will often choose Uber over Hertz, depending on the city.

“Millennials like having an easy process, but they hate commitment,” Bauer said. “I think the next step for leasing has to be no fixed term, or a different way of term.”

Here in Atlanta, we have two subscription car programs, Flexdrive and Clutch.  It is wonderful to live in the nexus of so much new-auto activity.  Flexdrive is a joint venture of Cox Automotive and Holman Auto Group.  You choose from a variety of vehicles, and your monthly subscription includes insurance, maintenance, and roadside assistance.

The average car payment in America is $500.  Depending on the figures you use for gas, insurance, and maintenance, your car costs at least $7 per hour of use.  This may sound fanciful, accounting for the car as a utility, but this is exactly the way a new generation of mobility providers look at it.  A monthly subscription of $500 is the price point advertised by Fair.  Zipcar and Maven hourly rates start at $8.

The chart above shows that car sales per capita have declined, in fits and starts, by about one in six over the last forty years.  This reflects trends like gradually increasing urbanization and longer-lived cars, which are minor worries for our industry.  Increasing utilization, through various forms of renting and sharing, has the potential to be a major worry.

Car Dealer Megatrends – Conclusion

This is the conclusion of my series on car dealer megatrends.  The first three articles covered the long running trend toward consolidation, steadily improving process maturity, and disruption from new technology.  Like all good megatrends, these three flow together, reinforcing each other to produce a sea change in the industry.  Consolidation means bigger groups with more money to spend on technology, and the scale to exploit improved procedures.

Big dealer groups crave stability, and repeatable successes.  In my trade, software development, we have a formal process maturity model.  The bottom rung is where your success depends on “heroes and luck.”  When you own 20 stores, you are less interested in one superstar killing the pay plan, and much more interested in a hundred guys making base hits.  If you are not clear on this, I recommend the movie version of Moneyball, featuring Brad Pitt as Billy Beane.

We’re making less per transaction, but we’re doing more transactions.

I work mainly in F&I, but you can see the same general idea in the velocity method for new and used car sales.  That idea is margin compression.  The quote above is from Paragon Honda’s Brian Benstock and, last I checked, he was still hard at it.

The locus of high gross shifted from new cars to F&I, and then from finance to products.  Smart people tell me the 100% markup on products will soon be ended, either by competition or by the CFPB.  Today, when you read about the latest PVR record from Group 1 (or whomever) you will also read management downplaying expectations of further such records.

The executive, however, said the group’s F&I operations may have reached the peak in terms of PVR.

Dealership ROI is above 20% but, as you know, highly cyclical.  The stock market has been around 14% lately and, arguably, less volatile.  AutoNation has been chugging along at a steady 10%.  Investors will accept a lower return, in exchange for stability.

AutoNation was founded in the era of big box retail.  My colleague there, Scott Barrett, came from Blockbuster.  It was always our intention to remake auto retail in the image of Circuit City, which, by the way, was the parent of CarMax.

I spoke with an ex-AutoNation executive recently who told me that learning to live with margin compression is an explicit part of their strategy.  It is an iron law of economics that, in a free market, competition will drive margins toward zero.

Have a look at this NADA chart.  In five years, gross has been cut almost in half.  This is a breathtaking diminution, and then you go on the industry forums and find people bitching that vAuto has cut used car gross, and TrueCar has cut new car gross, and now some idiot proposes to cut F&I gross by putting VSC prices online.

Marv Eleazer has called this a race to the bottom, and he’s right, but this is not a race you can opt out of.  That’s not how competition works.  Think of it as a race run in Mexico City.  The smart dealers and big groups are already training to compete in the thin air of lower gross.