Invoice Price: The Bermuda Triangle of the Car Business
It is one of the great ironies that a society often criticized for putting a price on everything uses a system closer to that of an Asian street market for the two biggest financial transactions most of us make in our lives.
While the price label and bar code rule ninety percent of retail transactions, in the housing market and the car business consumers suddenly find themselves in an unfamiliar landscape where prices change by the minute, as we are left to haggle to make our best deal.
Even once the purchase price is agreed upon, we are left with the nagging fear that we may have been able to get a better deal, if we had more skill or more information while sitting at the negotiating table.
For years, the biggest secret in the car business has been the "real" price of a car. In decades past, automobile manufacturers kept their franchise dealerships long distances apart to limit a customer's ability to compare price. This has eroded over time. Major cities now have multiple outlets for most major brands and the internet has made comparison shopping easier. But still, the great fear of all dealers and manufacturers is anything approaching price competition.
"The car business is unlike any other retail operation. You have to get your money out of the customer in front of you - if he becomes a repeat customer he will likely not be back around for several years. There is no equivalent to a loss leader, you can sell a can of peaches below cost price, and then mark up the coffee to make your money back. So you want to do everything you can to get the customer on the lot, without starting a price war that could potentially drive everyone out of business," says former dealership executive Dan West.
"Part of reason no one wants a price war is that margins on cars are fairly thin compared to most household products. While a regular retail store would expect to mark-up its products at least 100 percent, the mark-up on a vehicle is usually under 10 percent. So the dealer's goal is to maximize the selling price in each transaction. It is not uncommon for two customers in the same showroom to buy the same vehicle for two widely different prices" says West.
However the whole question of mark-up and sales price opens up the whole can of worms that is the financing and price structure of the automobile industry.
Most new cars on the lot show two prices, the familiar window sticker showing the Manufacturer's Suggested Retail Price and a smaller sticker showing any "dealer add-on" features and their price. The dealer add-ons can be anything from pin stripes to under-coating; they are basically low cost options the dealer has added to boost profit on that particular vehicle.
Most buyers know that very few cars leave the lot for MSRP, though each year there will be a few popular, short-supply models that can command a premium because customers are desperate to get their hands on one of them.
However, most sales are made somewhere between MSRP and what is called invoice price. Invoice price claims to be what the dealer paid the manufacture for the vehicle. And from a book-keeping perspective, that is true.
But there is a wrinkle to what appears on the dealer's invoice and this is the "hold-back." This is a system by which manufacturers overcharge their dealers by a specific percentage of either MSRP or Invoice price, and then later repay the difference at scheduled intervals, often quarterly.
This system has three major benefits for the dealer. First, by artificially raising the book value of the stock they have on their lot, they can borrow more money against the value of their inventory. Secondly, most of the dealership staff is paid on the basis of gross commissions, which is calculated from the difference between sales price and invoice. And this system lowers that gap, putting more money in the dealer's pocket. Finally if times get really tough, the dealership can advertise cars at "manufacturer's invoice" and still make a small profit on each deal.
The hold-back is just one of a myriad of manufacturer to dealer incentives. From advertising support, to volume bonuses and floor plan credit, few dealers will surrender any of this money to even the best negotiator.
The wide availability of price information on the Internet has been a huge leap forward for consumers. You can walk up to the negotiating table with more research than ever before. But invoice price alone is only part of the picture. West recommends obtaining "good information on what the vehicle of your choice is really selling for in your area. This will tell you the state of the market. And that is your target.
West advises buyers to, "Keep contacting dealers until they get close to that figure. Research all the rebates and incentives available, and get online price quotes in writing, clearly stating whether these rebates are included.
"But most importantly remember you are negotiating on far more than price. Whatever you gain by being a tough negotiator on price, you can easily give away on the cost of your financing or the value of your trade, if you are not equally prepared and knowledgeable in those areas," warns West.
Published on Monday, December 10, 2007 - Email to a friend
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