The automotive industry in the United States underwent significant transformations between the Great Recession of 2007–09 and the onset of the 2019 coronavirus pandemic. This period saw a notable shift in how car dealerships generated profits, moving from a heavy reliance on new vehicle sales to a more diversified model incorporating financial services and, crucially, service and parts. This article examines the evolving dynamics of the automotive market, focusing on the compression of profit margins in new vehicle sales and the strategic pivot by dealerships to enhance revenue streams from other sectors, particularly finance and insurance (F&I) and service and parts, to maintain and improve overall profitability.
Industry Evolution and Margin Dynamics
Car dealerships act as vital intermediaries in the U.S. economy, connecting vehicle manufacturers and consumers. From 2007 onwards, dealerships faced increasing pressure on their profit margins from new vehicle sales. This pressure originated during the Great Recession and continued through 2019. In response to these challenges, dealerships adapted their business models, strategically expanding their offerings in financial services and service and parts to compensate for the shrinking profitability in vehicle sales. This strategic shift led to substantial growth in these ancillary services, reaching unprecedented levels by 2019. These changes are clearly reflected in the Producer Price Indexes (PPIs) published by the U.S. Bureau of Labor Statistics (BLS). By analyzing these indexes, we can understand the competitive pressures that drove dealerships to modify their profit strategies between 2007 and 2019.
The BLS provides several PPIs that monitor monthly price fluctuations for dealership services. Within the retail sector, these service PPIs primarily measure margin prices—the difference between a product’s selling price and its acquisition cost. The overall PPI for new car dealers encompasses all goods and services sold by dealerships. More specifically, the PPI for new vehicle sales tracks the retail price dealerships receive for new cars and trucks (both domestic and imported), minus their acquisition costs. Other relevant service PPIs include those for used vehicle sales, service labor and parts, and other receipts. The latter captures the markup on services such as financial product sales.
Goods price indexes like the Consumer Price Index (CPI) and PPIs for domestic manufacturing complement these service margin indexes. For instance, the acquisition price of new vehicles in the PPI for new vehicle sales is similar to the price used in the PPI for domestic motor vehicle manufacturing. The retail selling price mirrors the CPI for new cars and trucks, which includes both domestic and imported vehicles. The difference between these prices represents the gross margin—the value added by dealerships for services like marketing, storage, and customer accessibility. This margin is precisely what the PPI for new vehicle sales measures.
Chart 1 illustrates the relationship between the PPI for motor vehicles, the CPI for new cars and trucks, and the margin PPI for new vehicle sales. Trends in the PPI for motor vehicles and the CPI for new cars and trucks directly influence the margin PPI for new vehicle sales. An increase in manufacturer prices without a corresponding rise in consumer prices reduces new vehicle margins. Conversely, an increase in consumer prices without a similar increase in manufacturing prices expands dealership margins.
Further demonstrating this relationship, Chart 1 includes an estimated margin index derived from regressing the CPI for new cars and trucks on the PPI for motor vehicles. The residuals from this regression, which closely track the margin PPI for new vehicle sales, confirm the consistency across these indexes.
The period from 2007 to 2012, marked by significant price volatility, highlights these dynamics. Both the CPI for new cars and trucks and the PPI for new vehicle sales declined from January 2007 to January 2009, followed by a price recovery. Notably, the PPI for motor vehicles consistently increased faster than the CPI for new cars and trucks. This gap between manufacturer and consumer prices indicated rising production costs relative to sales prices, reflected in the declining margin PPI for new vehicle sales and the estimated margin index. This decline signifies that dealerships were unable to fully pass increased producer prices onto consumers. The sharp increase in the PPI for motor vehicles in October 2008, coinciding with a consumer price dip, is mirrored by a steep drop in the margin PPI for new vehicle sales and the estimated margin index. Subsequent increases in consumer prices and stabilization of manufacturing prices reversed this decline, although fluctuations persisted.
Price transmission, the process of price changes moving through the supply chain, is often imperfect in the automotive sector due to factors like oligopolies and information barriers. Price transmission here involves two key markets: manufacturer-dealer and dealer-consumer. Conditions in these markets can independently affect dealership profit margins.
Manufacturers generally wield more market power than dealerships. If a manufacturer raises prices, dealerships have limited options to switch suppliers. Dealerships may struggle to pass these increased costs to consumers. If consumers resist higher prices, dealerships bear the brunt through reduced profit margins. Chart 1 effectively illustrates this price transmission mechanism and its impact on dealership margins. The significant drop in new vehicle margins spurred dealerships to fundamentally change their business model.
Dealerships are central to the automotive supply chain, acting as the main link between manufacturers and consumers. During the analyzed period, their ability to influence vehicle prices was limited. Caught between rising manufacturer prices and price-sensitive consumers, dealerships experienced margin compression post-Great Recession. To counter this, they innovated by expanding ancillary services, such as service contracts and insurance, enhancing their value proposition.
Beyond vehicle sales and inventory management, dealerships pursued vertical and horizontal integration, broadening their offerings to include ancillary products and services previously provided by banks, insurers, and independent repair shops. This product and service innovation provided consumers with more choices and influenced purchasing behavior, necessitating its consideration in analyzing dealership service price dynamics.
Analyzing Data: Margin Compression and Service Expansion
This section examines price changes in new vehicle goods and services from 2007, around the pre-recession peak, to 2019, illustrating how declining vehicle sales margins prompted business model changes in dealerships. We use BLS price indexes and corroborate these with financial reports from publicly traded dealerships to show how financial services, alongside service and parts, bolstered their profits.
Chart 2 highlights two significant periods of change in retail margins for new vehicle sales: a sharp drop during the 2008 recession and a steady decline from 2012 to 2019. This later decline coincided with diverging trends in producer and consumer manufacturing price indexes for vehicles. In both instances, commodity indexes and the margin PPI for new vehicle sales consistently indicated that vehicle acquisition costs for dealerships rose faster than consumer prices. The following sections explore the competitive environment and market challenges that drove dealerships’ innovations from 2007 to 2019, leading up to the COVID-19 pandemic. Faced with manufacturers leveraging their market power to increase prices for dealerships, dealerships responded by generating new revenue streams from finance and insurance products and service and parts, rather than solely relying on vehicle sales price increases to consumers.
Recession-Driven Short-Term Margin Decline
The Great Recession caused a sudden drop in new vehicle sales margins as producer prices sharply increased while consumer vehicle prices decreased. Vehicle manufacturers, like other high-fixed-cost firms, faced tight financial conditions and rising producer prices to maintain solvency and cover costs during the recession. Dealerships, interdependent with these manufacturers, had to absorb these price increases. However, reduced consumer demand during the recession limited their ability to pass these higher prices to consumers. This divergence between producer and consumer prices squeezed dealership margins significantly.
Chart 2 shows this margin compression. From 2007 to mid-2009, the margin PPI for new vehicle sales fell sharply. Consumer prices then increased in late 2009 while producer prices remained stable, leading to a recovery in the PPI for new vehicle sales in early 2010. A subsequent dip later in 2010 reflected weak consumer demand and inventory buildup, again lowering dealership margins. This rapid decline at the recession’s onset underscores how manufacturer cost increases were forced onto dealerships, regardless of consumer price sensitivity.
Long-Term Margin Compression and the Rise of Service and Parts
Following the recession’s volatility, a long-term divergence between the PPI for new vehicle sales and the CPI for new cars and trucks emerged. From January 2012 to December 2019, producer manufacturing prices for vehicles rose by 9.6 percent, while consumer prices increased by only 2.2 percent. As producer prices consistently outpaced consumer prices, the margin PPI for new vehicle sales decreased by 34.7 percent over these eight years.
Financial data from SEC filings of publicly traded dealerships in the U.S. confirm these trends. Chart 3 displays annual vehicle margin indexes from the five largest publicly traded dealerships in the U.S., showing a rapid decline mirroring the PPI for new vehicle sales decrease. SEC data shows minor volatility during and shortly after the recession (2007–2011), followed by a sharp decline. The average new vehicle margin for these public companies fell by 25.6 percent from 2007 to 2019, closely aligning with the 34.3 percent decline in the PPI for new vehicle sales over the same period. By 2019, the average new vehicle sales margin for these companies was just 5.2 percent, with some reporting margins as low as 4.1 percent.
Dealerships Diversify into Finance, Insurance, and Service/Parts
Faced with compressed new vehicle sales margins after the Great Recession, dealerships maintained profitability by increasing profits from ancillary goods and services, including service and parts. With vehicle sales plummeting and tight credit conditions limiting traditional financial profit sources like interest rate markups, dealerships innovated. They developed new F&I products and enhanced marketing for existing ones. Dealerships successfully sold a range of products from GAP insurance and extended warranties to credit cards and repair services. GAP insurance, a popular F&I product purchased by 37 to 50 percent of consumers, constitutes about 26 percent of F&I sales. These products are particularly beneficial for consumers with high loan-to-value ratios, protecting both borrowers and lenders. Point-of-purchase sales also became significant profit centers, providing immediate fees and commissions, and recurring revenue from repairs and premiums. Additionally, incorporating services into auto loans increased principal and interest payments.
This expansion into new product areas, along with a continued focus on service and parts, allowed dealerships to grow revenues from the post-recession period through 2019. As shown in Chart 4, the BLS aggregate PPI for new car dealers steadily increased, despite the declining margin PPI for new vehicle sales. This growth was driven by increases in the PPI for other receipts (F&I products) and the PPI for service labor and parts.
From January 2007 to December 2019, the PPI for other receipts surged by 70.8 percent, outpacing all other dealership service price increases. The PPI for service labor and parts also rose significantly, by 50.0 percent over the same period. The consistent price increase in service labor and parts sales is largely related to the volume of vehicles sold in prior years, creating future service demand. The expansion of F&I sales and service contracts enabled dealerships to remain profitable despite low new vehicle margins through 2019, with service and parts playing a crucial role in this diversification.
Relative importance values within the PPI for new car dealers reflect this shift. From December 2008 to December 2019, the relative importance of vehicle sales decreased from 27.2 percent to 17.4 percent, while other services (including financial services) rose dramatically from 2.3 percent to 26.1 percent. Service labor and parts, while decreasing slightly in relative importance from 70.5 percent to 56.4 percent, remained a significant portion of dealership revenue and profitability.
Profit contributions from different business segments of publicly traded dealerships further illustrate this trend. Chart 5 shows that F&I segment growth dominated profit increases from 2009 to 2019. Gross profit from F&I sales for these dealerships grew by 134.6 percent from 2007 to 2019, making it the fastest-growing profit contributor. In contrast, gross profits from new vehicle sales decreased by 1.8 percent, despite record vehicle sales volumes, indicating reduced profit per vehicle due to margin compression.
Chart 6 underscores the increasing significance of F&I sales as a profit source, surpassing new vehicle sales. From 2012 to 2019, F&I profits either matched or exceeded new vehicle sales profits. In 2007, new vehicle sales constituted 26.6 percent of gross profits, F&I sales 19.9 percent, and parts, labor, and service 40.1 percent. By 2019, these shares shifted dramatically to 15.9 percent, 28.4 percent, and 43.4 percent, respectively, highlighting the growing importance of F&I and the consistent contribution of service and parts to the dealership profit mix.
Chart 6 also reveals that gross profits did not recover to 2007 levels until 2012. From that point forward, F&I sales contributed 41.5 percent of gross profit growth, while new vehicle sales profit contribution stagnated (Chart 7). Although parts, labor, and service had the largest percentage contribution to gross profit growth over the 2007–19 period, they also represented the largest segment of dealerships’ business. F&I sales, however, disproportionately contributed to profit growth during this period, showcasing their critical role in offsetting new vehicle margin compression and driving overall dealership profitability, alongside the steady performance of service and parts.
Without the substantial growth in F&I sales and the reliable revenue from service and parts from 2007 to 2019, publicly held dealerships’ net profits would have declined significantly. Chart 8 illustrates how F&I sales sustained dealership profits. It compares actual net profit growth with a hypothetical scenario where F&I sales remained a constant percentage of new vehicle sales. If F&I sales had remained constant, net profit for these dealerships would have been significantly lower, with some potentially experiencing net losses. This underscores the vital role of diversified revenue streams, particularly F&I and service/parts, in maintaining dealership profitability during periods of new vehicle margin compression.
Dealerships faced persistent pressure on new vehicle profits after the recession. As price takers, they endured margin squeeze until the automotive sector recovered profitability in 2011. From 2011 to 2019, dealerships effectively bolstered profits by expanding F&I product sales and leveraging the consistent revenue from service and parts.
The Impact of Dealership Services on CPI
The expansion of F&I sales, alongside the consistent demand for service and parts, is crucial to understanding the incomplete price transmission from producer to consumer prices in the new vehicle market. F&I innovations and robust service/parts departments helped dealerships remain viable despite limited bargaining power with manufacturers and price-sensitive consumers. Because service and F&I innovations are not factored into the vehicle’s price itself, they explain how dealerships navigated the gap between rising manufacturer prices and consumer price expectations.
Considering the prevalence of financial products and GAP insurance, the spread between the CPI for new cars and trucks and the PPI for motor vehicles does not fully represent the total consumer expenditure on a new car. The CPI for new cars and trucks measures the final vehicle price, including taxes and transportation but excluding finance charges. Since F&I revenues and service contracts are separate from the vehicle price in the CPI, the actual economic cost to consumers purchasing these add-ons likely increased more than indicated by the CPI alone. The popularity of GAP insurance, especially with low- and no-downpayment sales, further highlights this point. Thus, the difference between the PPI for motor vehicles and the CPI for new cars and trucks partly reflects the uncaptured cost of additional F&I services and potentially underestimated service/parts expenditures, beyond the base price of a new vehicle.
Conclusion: Adapting to Market Dynamics Through Diversification
Between the 2007–09 Great Recession and the COVID-19 pandemic, car and truck dealerships faced significant economic challenges and declining profit margins on new vehicle sales. Many dealerships successfully navigated these challenges by expanding their offerings of F&I products and services, along with consistently leveraging revenue from parts and repair services. This article, using industry PPI for new car dealers, illustrates these changes. The industry index shows that dealerships offset declining new vehicle sales margins by increasing prices for service labor and parts and other receipts (F&I) from 2007 to 2019. Shifts in relative importance values within the industry indexes further demonstrate this transition from a primary focus on vehicle sales to a more diversified model. The relative importance of vehicle sales decreased, while other services (including financial services) significantly increased, and service and parts maintained a strong presence.
This strategic shift towards F&I products and services, coupled with the reliable revenue from service and parts, was common practice for dealerships through 2019. However, subsequent economic shocks, such as the 2021 supply chain disruptions, again highlighted the vulnerability of the automotive industry to external factors, leading to further shifts in dealership operations and profit strategies. Despite the unique economic climate of 2021 and beyond, the trends up to 2019 clearly indicate that dealerships needed to innovate and diversify their revenue streams to sustain profitability in a challenging market, with service and parts and F&I becoming increasingly critical components of their business model. BLS price indexes provide valuable insights into how these innovations unfolded in response to a changing business environment.
Suggested citation:
Kevin M. Camp, Michael Havlin, and Sara Stanley, “Automotive dealerships 2007–19: profit-margin compression and product innovation,” Monthly Labor Review, U.S. Bureau of Labor Statistics, October 2022, https://doi.org/10.21916/mlr.2022.26
Notes
[1] For details on the Producer Price Index (PPI) coverage of the retail trade sector, see https://www.bls.gov/ppi/factsheets/ppi-coverage-of-the-retail-trade-sector.htm.
[2] The PPI for new-vehicle sales (and all other dealership services) is based on an industry classification system and is not seasonally adjusted. For this price index, we use an industry classification system as opposed to a commodity-based classification system, because the product mix captured by industry classification indexes is closer to that reflected in the Consumer Price Index (CPI) for new cars and trucks and the PPI for motor vehicles (both of which are commodity indexes).
[3] In this article, all references to PPIs for motor vehicles refer to manufacturing indexes from a commodity-based classification system; the seasonally adjusted version of these indexes is used. CPIs for vehicles measure the final price for a finished vehicle paid by the consumer to the dealership or other retailer and include taxes and transportation costs; the indexes exclude finance charges. CPI measurement also subtracts any rebates the consumer receives from the price. PPIs for both car and truck manufacturing measure the prices received by manufacturers of domestically produced vehicles sold to retailers and intermediaries. Manufacturers typically sell new vehicles to dealerships, so the price used for the PPI for motor vehicles is the dealer net price, which subtracts taxes, fees, and any incentives or rebates provided to the dealership.
[4] Mariano Tappata, “Rockets and feathers: understanding asymmetric pricing,” *The RAND Journal of Economics,vol. 40, no. 4, October 2009, pp. 673–687, https://doi.org/10.1111/j.1756-2171.2009.00084.x;Habtu Tadesse Weldegebriel, “Imperfect price transmission: is market power really to blame?” Journal of Agricultural Economics, vol. 55, no. 1, March 2004, pp. 101–114, https://doi.org/10.1111/j.1477-9552.2004.tb00082.x;Sam Peltzman, “Prices rise faster than they fall,” The Journal of Political Economy,vol. 108, no. 3, June 2000, pp. 466–502, https://doi.org/10.1086/262126;and Jochen Meyer and Stephan von Cramon-Taubadel, “Asymmetric price transmission: a survey,” Journal of Agricultural Economics*,vol. 55, no. 3, August 2002, pp. 581–611, https://doi.org/10.22004/ag.econ.24822.
[5] Patrick S. McCarthy, “Market price and income elasticities of new vehicles demands,” The Review of Economics and Statistics, vol. 78, no. 3, August 1996, pp. 543–547, https://doi.org/10.2307/2109802; and James E. Turley, “Automobile sales in perspective,” Review (Federal Reserve Bank of St. Louis, June 1976), pp. 11–16, https://doi.org/10.20955/r.58.11-16.qgu.
[6] D. Selz and S. Klein, “The changing landscape of auto distribution,” Proceedings of the Thirty-First Annual Hawaii International Conference on System Sciences, 1998, https://doi.org/10.1109/HICSS.1998.654820; Wendy E. Dunn and Daniel J. Vine, “Why are inventory-sales ratios at U.S. auto dealerships so high?” Finance and Economics Discussion Series 2016-047 (Board of Governors of the Federal Reserve System, May 2016), https://doi.org/10.17016/FEDS.2016.047; Mark Graban, “Overcapacity and overproduction in the auto industry (and healthcare),” Lean Blog, January 5, 2019, https://www.leanblog.org/2014/05/preventing-overcapacity-and-overproduction-in-the-auto-industry/; and Bertel Schmitt, “The truth about channel stuffing,” The Truth About Cars, March 4, 2013, https://www.thetruthaboutcars.com/2013/03/the-truth-about-channel-stuffing/.
[7] Simon Gilchrist, Raphael Schoenle, Jae Sim, and Egon Zakrajšek, “Inflation dynamics during the financial crisis” (Cambridge, MA: National Bureau of Economic Research, November 2016), https://doi.org/10.3386/w22827.
[8] Here margins are defined by subtracting the cost of goods sold from total new-car revenue and dividing the result by total new-car revenue. The cost of goods sold is a common accounting term referring to the variable costs associated with selling a particular item. In microeconomics language, this metric is very close to (p × q − AVC × q)/(p × q), where p is price, q is output, and AVC is average variable cost; however, opportunity cost is not considered in financial statements and is considered in the microeconomic concept of AVC.
[9] This analysis is of the five largest dealerships that exclusively operate in North America.
[10] Jackie Charniga, “Through thick and thin, dependable profits from F&I fight margin compression,” Automotive News, September 19, 2018, https://www.autonews.com/article/20190919/FINANCE_AND_INSURANCE/180919687/through-thick-and-thin-dependable-profits-from-f-i-fight-margin-compression; Charniga, “F&I profit per unit rises at 5 of 6 public dealership groups,” Automotive News, October 31, 2018, https://www.autonews.com/article/20191031/FINANCE_AND_INSURANCE/181039943/f-i-profit-per-unit-rises-at-5-of-6-public-dealership-groups; Hannah Lutz, “AutoNation says F&I profit will hold steady even when new-vehicle sales fall,” Automotive News, August 8, 2018, https://www.autonews.com/article/20190808/FINANCE_AND_INSURANCE/180809781/autonation-says-f-i-profit-will-hold-steady-even-when-new-vehicle-sales-fall; Lutz, “AutoNation posts rise in net income, invests in online retailer Vroom,” Automotive News, October 30, 2018, https://www.autonews.com/article/20191030/RETAIL/181039994/autonation-posts-rise-in-net-income-invests-in-online-retailer-vroom; Lutz, “Don’t turn today’s profit into tomorrow’s chargeback,” Automotive News, November 14, 2018, https://www.autonews.com/article/20191114/BLOG13/181119884/don-t-turn-today-s-profit-into-tomorrow-s-chargeback; Lutz, “Publics see F&I gains in Q3, buoyed by add-on sales,” Automotive News, November 4, 2015, https://www.autonews.com/article/20151104/FINANCE_AND_INSURANCE/311049915/publics-see-f-i-gains-in-q3-buoyed-by-add-on-sales; and Jim Henry, “Dealership gross profits see bigger impact from F&I,” Automotive News, April 15, 2015, https://www.autonews.com/article/20150415/FINANCE_AND_INSURANCE/304159998/dealership-gross-profits-see-bigger-impact-from-f-i.
[11] Leslie J. Allen, “F&I bright spots: dent removal, tire repair,” Automotive News, May 4, 2009, https://www.autonews.com/article/20090504/RETAIL02/305049836/f-i-bright-spots-dent-removal-tire-repair; and Lutz, “As CFPB retreats, what’s next for dealer reserve?” Automotive News, February 19, 2018, https://www.autonews.com/article/20190219/FINANCE_AND_INSURANCE/180219770/as-cfpb-retreats-what-s-next-for-dealer-reserve.
[12] John W. Van Alst, Carolyn Carter, Marina Levy, and Yael Shavit, “Auto add-ons add up: how dealer discretion drives excessive, arbitrary, and discriminatory pricing” (Boston, MA: National Consumer Law Center, October 2017), https://consumerist.com/consumermediallc.files.wordpress.com/2017/10/report-auto-add-on.pdf.
[13] Charniga, “Through thick and thin”; and Charniga, “F&I profit per unit rises.”
[14] Company-specific information is from the 10-K forms filed with the U.S. Securities and Exchange Commission (SEC), which are stored in the SEC EDGAR database (https://www.sec.gov/edgar/search/).
[15] Net income before taxes is calculated by subtracting fixed costs, depreciation, and interest expenses from total gross profits.
[16] Chart 8 truncates the data values at −100 percent despite 2008 values falling below that level, for two reasons. First, having a 2008 data point fully displayed in the chart distorts the visualization and makes the difference between the actual and estimated profits difficult to observe. Second, the level of −100 percent is a meaningful cutoff because any point below it is a net loss. The calculation begins by taking total finance and insurance (F&I) sales for each company in 2007 and dividing each figure by total new-vehicle sales in 2007. Then, to arrive at the estimated counterfactual net profit for each company, the proportion obtained from the previous step is held constant over the 11-year period by multiplying it by new-vehicle sales each year and then subtracting the difference between actual F&I sales and the estimated counterfactual from actual net profits.
[17] Charniga, “Through thick and thin”; and Charniga, “F&I profit per unit rises.”
[18] Lucia Mutikani, “U.S. manufacturing gains steam; raw material, labor shortages mounting,” Reuters*, June 1, 2021, www.reuters.com/world/us/us-manufacturing-sector-picks-up-may-work-backlogs-rising-ism-2021-06-01.
[19] “Industrial production: manufacturing: durable goods: motor vehicles and parts (NAICS = 3361-3)” (FRED, Federal Reserve Bank of St. Louis, January 31, 2022), https://fred.stlouisfed.org/series/IPG3361T3S.
