A Formula to Avoid Trouble

When I was a young used-car manager, my dealer voiced concerns about an aging used unit in inventory over 60 days. He felt I should wholesale the vehicle and get it out of inventory. Easy enough. But if I did that, it would probably lose $1,000 at auction and that loss would be charged back to the total gross profit. This outcome was not good for me because I was paid a percentage of the department

Tony Albertson

May 1, 2008

3 Min Read
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When I was a young used-car manager, my dealer voiced concerns about an aging used unit in inventory over 60 days.

He felt I should wholesale the vehicle and get it out of inventory. Easy enough. But if I did that, it would probably lose $1,000 at auction and that loss would be charged back to the total gross profit.

This outcome was not good for me because I was paid a percentage of the department gross. A loser would cost me money. I convinced myself I could retail my way out of it.

In another 60 days, I actually retailed the vehicle and made a $2,000 gross profit. I marched into the owner's office and said, “Hey, Boss! You know that unit you wanted me to wholesale 60 days ago? Well, we just retailed it and made two grand on the front end.”

He gave me a look and said, “Thanks for selling another vehicle. But figure out what my net return on investment was after the daily holding cost.” Uh … What? Holding cost? What's that?

Simply put, it expresses the cost of stocking a used vehicle as a daily dollar amount. There are many ways to calculate this. The following, shown graphically below, is a good formula to work with.

It takes your year-to-date total used vehicle department expenses (Step 1), subtracts out your variable expense (Step 2), leaving you the year-to-date holding cost (Step 3). Set that aside for a minute.

Next divide your total cost by the number of months you are looking at (Step 4). In Step 5 multiply the average monthly sales times 1.33, which represents a benchmark 45-days' supply and divide the total into the holding cost from Step 3.

This total represents your monthly holding cost (Step 6). Divide this total by the average number of days you are open per month (Step 7). This will give you your average holding cost per day (Step 8). In the example, it's $52.12 per day.

You may ask, “So what?” Well, let's go back to me and my big mouth, then ask: “What is the true net on this single transaction and what effect does aging have on my owner's return on investment?”

Days to Sale

120

Gross Assumption

$2,000

Holding Cost

$6,254

Sales Comm. %

20%

Sales Comm.

$400

Avg. Delivery Exp. @

22

Avg. Policy Rxp. @

2

Net Profit

($4,678)

Inventory Cost

$12,000

ROI %

-38.99%

ROI Annualized

-117.0%

Here is the example illustrated above. Remember, it took me 120 days to sell the vehicle.

I made $2,000 in gross profit. Subtract the holding cost of $52.12 per day × 120 days = ($6,254). Subtract the sales commission of ($400). Subtract the average per unit sold delivery and policy expense ($22 + $2). After those calculations, my true net loss on this single transaction was a whopping $4,678.00. Looooooser!

Focus on gross per unit and avoid wholesale loss. But focus equally on return on investment and inventory turn.

Tony Albertson is executive conference moderator for NCM Associates. He is at [email protected].

Daily Holding Cost

Step 1

Calculate total YTD used vehicle department expenses

$1,980,959

Step 2

Subtract the YTD variable expenses

Sales commissions

Delivery expense

Policy adjustment

F&I comissions (if not netted out of F&I)

Total variable sales expenses

483,694

Step 3

Total daily holding costs (step 1 - step 2 total)

1,497,265.00

Step 4

Divided by the number of months reviewed (12) (step 3 / step 4)

124,772.08

Total monthly holding costs

Step 5

Divided by days supply benchmark (YDT avg month DDR × 1.33)

99.8

Average months retail units

75

Step 6

Equals average month holding per unit

1,250.85

Step 7

Divided by the number days open per month

24

Step 8

Equals average holding cost per unit per day

52.12

Questions or comments about this column?
Send us an e-mail at [email protected].

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