City Halls Lose Good Friends

Over the next several months, city councils, mayors and state officials throughout the U.S. are going to be grappling with significant budget shortfalls due to new-car dealerships going out of business.

While there may be little sympathy in some quarters for the growing plight of dealerships — one blogger wrote last week that “dealers have what's coming to them” — dealers generate millions of dollars of revenue for their states and municipalities.

The fallout will be painful. Jobs will be lost, donations to charities will plummet and schools and other city services will be hurt because of diminished tax revenue.

Consider California. In 2007, the average dealership generated $60 million in sales for a total of $96 billion, according to data from the California New Car Dealers Assn. That is 21% of all of California's retail sales.

Tax revenue for the state created by dealers totaled $8 billion. Add to that the more than $134 million in charitable donations and it quickly becomes evident the critical role dealers play in the nation's economy.

At the start of 2008, California had 1,594 dealerships. Through October, 97 stores had gone out of business. That's 77 more than were closed in all of 2007. CNCDA Executive Director Peter Welch says he has noticed a “recent acceleration” of dealership closings in the state.

At least 82 General Motors Corp. dealerships indicated in an October survey conducted by the CNCDA that they were in danger of closing because of recent actions by GMAC LLC to restrict or tighten floor-plan financing, the means dealers use to fund the purchase of new vehicles they sell to customers.

Add Chrysler LLC and Ford Motor Co. dealerships that are closing and it is not unreasonable to expect California to lose more than 200 dealerships by the middle of 2009. That would create a decline of more than $8 billion in sales and more than $1 billion in tax revenue.

Welch says he has heard of communities in California whose tax revenues are down 30% to 40% this year — much of it caused by a decline in automotive-related taxes.

Damon Lester, president of the National Association of Minority Automobile Dealers (NAMAD), says the trade group will lose nearly 75% of its 2,100 dealerships by the end of the year, creating a $51 billion decline in annual gross sales tax revenue and 150,000 jobs lost.

Florida, the state with the third-most dealerships in the country, could lose as many as 120 stores in the next several months, says Ted Smith, president of the Florida Automobile Dealers Assn.

The National Automobile Dealers Assn. estimated in mid-October that about 700 dealerships would go out of business this year.

That number probably is too conservative. Paul Taylor, the trade group's chief economist, admits the carnage likely will be more intense next year, although he refrains from giving a number.

Michael Jackson, CEO of the nation's largest dealer group, AutoNation Inc., estimates nearly 1,000 stores will close this year, with another 1,000 closing in 2009.

Mark Rikess, an automotive retail consultant and analyst, believes the industry will lose close to 2,500 dealerships by the end of 2009.

A recent study by Grant Thornton LLP Corporate Advisory and Restructuring Services concludes nearly 3,800 stores will have to close by the end of 2009 just for dealerships to maintain the industry's 2007 average sales of 750 units per dealership.

Declines in dealership numbers are nothing new. Large numbers of dealers have gone out of business during previous downturns. From 1979 to 1981, about 1,800 dealers exited the market as new-car sales plunged by 3.2 million units in the period. Much of the sales decline happened in 1980, when the industry saw an 18.5% drop.

The biggest sales downturn since 1970 occurred in 1974, with a 20.8% slide in new-vehicle sales resulting in nearly 1,600 stores closing their doors.

The problem facing dealers is twofold. First is the decline in sales this year, which is expected to range from 2.5 million to 3 million units — a 15% to 16% falloff from 2007.

A drop in consumer confidence and tighter lending standards are fueling the sales downturn.

GM experienced its worst sales month in October since 1945, when adjusted for population. Its sales plunged 47% by volume. Of the auto maker's 168,800 deliveries last month, only 113,000 were retail (the rest were fleet), meaning its dealers sold an average of 17 new vehicles each.

Although other auto makers experienced painful October declines, GM's was especially excruciating due in part to GMAC LLC's decision to stop funding auto loans for consumers with credit scores below 700.

According to data from Experian's proprietary ScorexPlus, 58.9% of auto loans financed from January through August scored above 700 for new- and used-vehicle transactions for franchised dealerships.

A chief financial officer with an Ohio-based dealer group tells Ward's GMAC's move affected 50% of his GM customers.

The sales decline is bad enough, but many dealers are facing an even more dangerous threat: A growing inability to obtain floor-plan financing.

Manufacturer captive finance firms, such as Ford Credit and Toyota Financial, along with independent banks, lend money to dealers to buy the vehicles to sell to consumers. That money also provides dealers with operating capital to manage their businesses.

GM and Chrysler dealers stand the greatest risk, as neither auto maker has a true captive arm today, and that limits financing options for dealers.

Cerberus Capital Management LP owns 51% of GMAC, with GM holding the other 49%. Cerberus also owns Chrysler Financial. Although the private equity firm owns 80% of Chrysler, its decisions are made in the best interests of Cerberus and not necessarily the car maker's best interests, some industry experts say.

Earlier in 2008, Chrysler Financial began tightening and enforcing its floor-plan lending standards with several Chrysler dealerships. Many dealers had to sell or close their doors because they were unable to comply with the requirements.

While not speaking for Chrysler Financial, Steven Landry, Chrysler's vice president-North American sales, tells Ward's he has seen a growing movement among banks to enforce the loan covenants that often are “buried on page 10 of the loan agreement.”

For the last several years, financial institutions have included operating requirements as part of the loan agreements, mostly to protect themselves, but largely ignored them. Sales were strong, and there was little danger auto makers or dealers would be forced out of business.

GMAC began sending letters in early October to dealers informing them they had anywhere from 60 to 90 days to find new lending sources and needed to pay off aged inventory.

Some GM dealers in California will have to pay $100,000 a month to comply.

Many dealers across the country report not being able to find other sources willing to provide the needed floor-plan credit due to the uncertainty surrounding the short-term future of the automotive business.

The full brunt of the problem will be seen in first-quarter 2009, as dealers begin running out of cash to operate their businesses.

What are the solutions?

Experts say the government needs to provide enough assistance quickly to the industry, specifically, GM and Chrysler, to ensure their survival. This should inspire enough confidence among financial institutions to begin lending money again to dealers, in addition to relaxing some loan requirements.

Meanwhile, NADA is trying to put together regional consortiums of banks to create a pool of funds for dealers to access. The benefit to the banks is decreased exposure should a dealer go out of business. But creating the consortiums will take time, a luxury many dealers don't have, a NADA official says.

The Florida Automobile Dealers Assn.'s President Ted Smith urges dealers to stay involved with their state associations, many of whom are trying to set up lending sources for their dealers. “We may be the best friend dealers have now,” he says, admitting it sounds self-serving. “But who else is looking out for their interests?”

Over the last week, NADA Chairman Annette Sykora and NAMAD President Damon Lester sent letters to the White House outlining specific steps to help dealers.

The actions include providing refundable tax credits for vehicle buyers, restoring the deductibility of interest on consumer auto loans and funding state “cash for clunkers” programs that encourage consumers to upgrade to newer vehicles.

The two trade groups also are asking President Bush to immediately implement a small-business stabilization program in the form of an automobile dealer loan guarantee program through the Small Business Admin.

NAMAD also wants Bush to declare ethnic minority-owned dealerships a national economic disaster to qualify them for non-physical disaster loans under the current SBA's Economic Injury Disaster Loan Program.

Former President Jimmy Carter implemented a similar plan consisting of $400 million in 1980 that lasted for seven months. Minority dealers received $14 million of the $400 million. More than 90% of the minority dealers obtaining loans paid them back in full, Lester says.

For several months, both NADA and NAMAD have pressed the SBA to redefine what a small business is — at least for car dealers.

The current definition is based on the amount of revenue or gross receipts a business brings in.

While many dealerships operate as small, family-run businesses, their revenue far exceeds the standard set by the SBA mainly because vehicles are big-ticket items.

The industry trade groups are suggesting the standard for a small business be based on the number of employees, rather than revenue.

Additionally, the American International Automobiles Assn. President Cody Lusk sent an email this week urging members to contact their government members.

“Dealers cannot sit on the sidelines and allow the manufacturers to speak for our industry,” Cody writes. “We must get in the game and engage our elected officials. Time is of the essence and we must join together, act now and make an impact.

“Dealers need immediate access to working capital — they are required to carry the costs of their inventories. There can be no economic recovery without a retail recovery. AIADA would support a loan-guarantee program aimed at helping dealers much like the one implemented in 1980 when dealers faced a similar financial crisis.”

Chrysler Vice Chairman Jim Press reportedly told dealers during a recent briefing on the auto maker's government lobbying efforts, “The lifeboat is coming. We just have to keep rowing.”

Dealers say they hope government acts quickly. Otherwise, it may be a dim future.