The roller coaster economic ride that began with the emergence of COVID-19 in early 2020 has reshaped how car buying works. Will it ever get back to what we might call “normal?”
Brian Finkelmeyer, senior director of new-vehicle solutions at Cox Automotive, likens it to a staring contest “between consumers, dealers, and automakers. The question is, who will blink first?”
The car business has strange mechanics, so some explanation is in order.
A complex relationship controls car prices
Traditional automakers don’t sell their cars directly to consumers. They sell to a third-party — dealerships — who sell to you.
A few more recently-born automakers, like Tesla TSLA, +0.28% and Rivian RIVN, +2.93%, sell cars directly to consumers. But they don’t operate in every state because that business model is illegal in many places. So the industry, on average, still works through a third-party sales model.
The companies building cars and the companies selling them spent most of a century evolving a common approach to inventory. By the early 21st century, most dealerships aimed to keep at least 60 days’ worth of cars in stock and another 15 days’ worth on order or in transit to sales lots.
That supply meant a dealer usually had the combination of colors and options a customer was looking for in easy reach.
The dealer purchased each car from the automaker (often through a loan from a bank also owned by the automaker) for a set price, then sold it to the consumer for a flexible one and kept the difference. They could also earn bonuses from the automaker for meeting specific sales targets – typically set by the month or the year.
Such a complex financial arrangement left several openings for discounts.
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The factory or the dealer can offer discounts
Automakers could provide incentives when they weren’t happy with the inventory balance. Dealers could do the same. And savvy shoppers could work both angles to get the best price.
Before 2020, Finkelmeyer says, it was usually the automaker that blinked. “Total industry incentive spend was estimated to be between $ 50-$ 60 billion per year,” he says.
“When holiday bonus cash and $ 179 lease offers didn’t move enough metal, the OEMs would blink again.” They could always sell excess inventory to car rental companies if they had overbuilt and customers weren’t buying.
Dealers, meanwhile, came to plan around those end-of-month bonuses. “Consumers learned the best way to win a good deal on a new car was to keep staring until the last day of the month. Dealers would always blink when there was a $ 50,000 bonus check riding on the next unit sold.”
But the last two years – particularly, a shortage of new cars caused by a shortage of microchips – upset that strange balance.
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Demand exceeded supply, and discounts disappeared
Demand for new cars exceeded supply, and neither automakers nor dealers had a backlog of cars to sell. Discounts disappeared.
“With incentives at rock bottom, it appears many consumers have just closed their eyes entirely as they signed contracts for new-vehicle purchases, with an average payment of $ 762 a month. The days of waiting until the last day of the month have turned into waiting 60 days to receive your pre-ordered new car,” he explains.
Inventories are rebuilding
Inventories are starting to build back up again. Days’ supply – as low as a week at some dealerships earlier this year – is back to an average of 53 nationwide.
So, are automakers about to blink and start offering discounts again?
“Nope,” says Finkelmeyer. “The average incentive spend in November 2021 was $ 1,896 versus this November at $ 1,066.” Discounts are 43% lower on average than they were a year ago, near the peak of the shortage.
Dealers, meanwhile, are still pocketing hefty profits from most sales as the average new car sale price approaches $ 49,000.
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Something will give. But who will give it?
Can high prices be the new normal? Finkelmeyer says it’s unlikely. “For sales volume to grow, the average selling price will need to come down to expand the pool of potential buyers.”
With a recession threatening, he says, “Automakers and dealers should take note that Walmart WMT, -0.90% recently outperformed analysts’ expectations in their grocery business, as more affluent shoppers steered away from traditional grocery stores to hedge against higher prices and inflation.”
But who will offer discounts first – automakers or dealers?
It may be up to shoppers, Finkelmeyer says. The game may end when consumers refuse to blink and stop paying these prices.
This story originally ran on KBB.com.