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George Pavlyak

George Pavlyak Product Manager

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Gain control of “The Land of Fixed” and discover that this is truly your “Acres of Diamonds”

Gain control of “The Land of Fixed” and discover that this is truly your “Acres of Diamonds”

The current state of retail reminds me of the story “Acres of Diamonds”. Most of us have likely read it.  In case you haven’t, or don’t remember the details, here’s the short version. Dr. Russell Conwell, an American farmer, becomes intrigued with diamond mining while on a trip to Africa. He’s so fascinated with Diamond Mining that he sells his farm in the U.S. and travels to Africa to seek out his fortune. After spending countless years of searching, Dr. Conwell goes broke, gives up, and throws himself into a river and drowns.

Meanwhile, back at the ranch, the new owner of his farm finds a large rock that he shows to a visitor.  The visitor nearly has a seizure when he realizes the rock is in fact a diamond, one of the largest ever found. The farm turns out to be the Kimberly Diamond Mine, the richest diamond mine the world has ever known.

Another story, less likely known… OK not known at all since I just came up with it… is the unheard story of “The Land of Fixed – Dealership Acres of Diamonds”.

“The Land of Fixed” has always been there, often overshadowed by the bright lights and glow of the showroom. For many, it’s a land to be avoided and whose murky swamps are only crossed when necessary, such as checking on a new or used car delivery. Even the powerful leaders of the dealership shy away from its lack of shine and elusive operating ratios.

Some leaders are brave enough to venture off into the often unknown territory of “The Land of Fixed”. They move past the shadows and begin to use information like Productivity and Efficiency, Effective Labor Rate, and other operating guidelines to their advantage.

These leaders learn that this is a land with gross profit margins that far outweigh any other opportunity in the dealership. Over time these brave leaders gain control of “The Land of Fixed” and discover that this is truly their “Acres of Diamonds”.

Let’s take a look at the diamonds that some of these leaders are discovering.  Sonic Automotive  is on a mission to reach 100% service absorption, and it will likely become a reality. What does that mean in dollars and cents? Jeff Dyke, EVP of Operations at Sonic clarifies the financial impact in a transcript of Sonic’s Q1 2010 Earnings Conference Call:  “As we discussed last quarter, we continued to make progress with our fixed operations playbook execution. We fully expect to continue to improve on the gains that we’ve seen in recent quarters as we work on our goal to have 100% of our stores 100% fixed absorbed. We had two full regions at 100% fixed absorbed in March as the company was 92.7% fixed absorbed for the month and 86.6% for the quarter. Achieving this goal will add $250 million in revenue to our current revenue base.” 1 I don’t care how big you are, an additional $250 million in revenue in a soft economy is nothing to sneeze at!

I know we’re all familiar with the value of fixed absorption, but let’s just quickly re-examine the impact that 100% service absorption has. I like the way Don Reed at Dealer Pro explains it, “To put it simply, if one can achieve 100 percent service absorption, then all of the dealership’s fixed expenses are paid for by the service and parts departments, which means that the sales department is producing net profit on the very first unit it sells. For example, if your sales gross profit is $4,000, your sales commission is $1,000, and your floor plan interest is $500, then you have $1,500 in variable expenses to deduct from gross profit, which leaves you with a net profit of $2,500.” 2

I vividly recall working with a dealership in Eastern Indiana. When I first assessed their service operation, I explained to the dealer that they were pretty strong in fixed operations and I was hesitant to forecast growth numbers since they had it pretty well dialed in. Their service absorption at the time was somewhere in the mid to high 80% range, which far exceeds the fifty or sixty percent that most dealerships have learned to live with.  After working with their service team and getting the GM, the dealer’s son, heavily involved in the project, the dealership climbed to 104% service absorption after ninety days. I remember meeting with the GM at the end of that month. With a big grin on his face, he said “do you realize I have to sell negative four cars to reach break-even? Everything I sell is money in the bank. Never in my wildest dreams did I ever think we could do this.”  It was pretty obvious that he, and the dealership, found their acre of diamonds.

What I find most astonishing is that the “Acres of Diamonds” that exist in every dealership in the country remain, to a large degree, untapped potential.

Sadly, the leaders who haven’t ventured out continue to mine the same territory they always have, never exploring too far from land they’re so familiar with. They toil mercilessly. Many look beaten down, the stress of doing “more of the same” showing on their faces. Although there’s little likelihood that they will jump into a river like Dr. Conwell, they will continue to age quickly from the endless toil and effort in “The Land of More of the Same”.

Hopefully, over time, more will venture into the Netherlands, the ominous and misunderstood “Land of Fixed” and discover their own “Acres of Diamonds”.

Take action. Be an adventurer. Succeed.

1 Sonic Automotive, Inc. Q1 2010 Earnings Call Transcript, April 27, 2010: http://seekingalpha.com/article/201191-sonic-automotive-inc-q1-2010-earnings-call-transcript

2 Does 100 Percent Service Absorption Interest You? By Don Reed, at The RVDA, The National RV Dealers Association website: http://www.rvda.org/AM/Template.cfm?Section=Home1&TEMPLATE=/CM/ContentDisplay.cfm&CONTENTID=2642

Bart Wilson
Great post. Without divulging some top secret information I think it would be interesting to see what Sonic is doing to accomplish this. Anything you can share? What a great marketing advantage a dealer like this has vs. one that has to rely on variable ops!
George Pavlyak
There's a combination of strategies that's put Sonic far ahead of the game when it comes to service absorption and overall profitability. Early on, Sonic established a preference for dealerships in middle markets. Middle market dealerships are easier to acquire at a reasonable price, profits tend to be higher, and their's more inherent customer loyalty. They established a "Hub and Spoke" approach, purchasing a respected and profitable dealership with high CSI as the Hub and under-performing dealerships in the surrounding area as Spokes. So, one of the major keys to their high level of service absorption is that the stores were purchased properly. They also learned early on that service department labor sales, although not the largest portion of overall dealership sales, delivers the highest margin of gross profit. In an article on bnet.com ( URL below) you'll find a diagram that demonstrates Sonic's parts and labor sales as accounting for 14% of overall dealership sales and 46% of their gross profit. http://www.bnet.com/blog/auto-business/car-dealers-more-recession-resistant-than-automakers/240 Based on their understanding of the sales to gross profit margins, they've done an exceptional job of remaining focused on growing service business and retaining customers for well over ten years, much of it fostered through their "Hub and Spoke" approach. Buying stores intelligently and staying focused on service growth has proven to be a winning combination.

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