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Growing reliance on low-margin sales drains profits

Bryce G. Hoffman / The Detroit News


Karl Stolleis / Getty Images

The Chevrolet Impala or Dodge Caravan you pick up at the airport rental lot may be masking the full magnitude of Detroit's woes, as domestic automakers rely more and more on less profitable fleet sales to counter the challenge of hot-selling imports.

Faced with eroding market share, both General Motors Corp. and Ford Motor Co. are using fleet sales to keep volumes up and factories running at the expense of profits and brand image.

In fact, all of the recent market share gains at DaimlerChrysler AG's Chrysler Group can be attributed to higher sales to government agencies, commercial fleets and daily rental agencies rather than retail sales to customers.

And Wall Street is starting to worry.

"As the Detroit automakers' retail market shares tumble, their dependence on fleet sales grows more pronounced," said John Murphy, an analyst with Merrill Lynch in New York. "Soaring fleet sales do not bode well for earnings or residuals."

GM said Monday that it plans to reduce sales to rental fleets by 100,000 units this year to below 700,000. It has been able to turn away daily rental fleet business because it has several new models on the market with strong retail demand. That means it can keep those factories going just on the demand from dealerships.

"When you have new product, you're able to pull back on daily rental business," said Paul Ballew, GM's executive director of market and industry analysis

According to Murphy, Detroit's fleet sales reached new highs in the last three months of 2005, accounting for 29.5 percent of overall vehicle sales. That was up from 24.2 percent in the fourth quarter of 2004 and just 14 percent for the same period in 2001.

On the plus side, fleet sales allow manufacturers to keep their plants running in times of reduced consumer demand. In fact, fleet sale contracts are often timed to coincide with periods of low retail demand. But carmakers also make less money on the vehicles they sell to commercial and government fleets.

Because the volumes are big, the margins are low. That not only results in lower profits for automakers, but also reduces the resale value, known as residual, of their cars and trucks.

"You've basically sold the cars at a substantial discount, and then they come back to the market in large chunks," said Art Spinella, president of CNW Marketing Research Inc. in Bandon, Ore. "Residual values get slammed."

That makes cars and trucks with heavy fleet sales less attractive choices for consumers. It also translates into higher lease rates for those vehicles.

Chrysler, GM are in lead

According to a report prepared by Polk Data for automakers that analyzed fleet sales from October of 2005 through January 2006, Chrysler and GM had the highest fleet mix, with about 31 percent of their sales going to commercial or government fleets. That represented a 24 percent increase for Chrysler and a 19 percent increase for GM over the same period a year before. Fleet sales accounted for 29 percent of Ford's overall sales during the same period, up nearly 21 percent year-over-year.

Ford has sought to reduce its dependency on fleet sales and, until last year, looked like it was succeeding. Then Ford fell off the wagon. The automaker's fleet deliveries increased 6 percent in 2005 over the previous year, according to George Pipas, manager of sales analysis and reporting for Ford. And Pipas said Ford's fleet mix will continue to increase in 2006, perhaps as much as 5 percent. Pipas expects Ford's fleet sales to start dropping again in 2007 when its Atlanta Assembly Plant is idled. The factory makes the Ford Taurus sedan, which is sold only through fleet channels.

All three Detroit automakers say some fleet sales are desirable, particularly those to private companies that can yield the same margins as sales to consumers. However, 63 percent of GM, Ford and Chrysler's combined fleet sales were to the less-profitable daily rental sector.

At one time, all of Detroit's automakers owned rental car companies. They used them to balance weak retail sales during times of lackluster consumer demand. Ford sold off Hertz Corp. last year and also owned a part of Budget Rent a Car Corp in the past. GM once owned National Rent A Car System and Chrysler had owned Thrifty Rent-A-Car System Inc. and Dollar Rent A Car Systems Inc.

"The problem is not our fleet mix," Pipas said. "The problem is our declining retail sales."

More profitable commercial and government business accounts for the bulk of the rise in Ford's fleet sales.

"We have the largest sales to commercial and government customers," Pipas said, noting that Ford's daily rental sales account for only 52 percent of its fleet sales, significantly less than the industry average. Ford's F-series pickup is the most popular work truck in the country, while its Crown Victoria sedan is the backbone of the nation's police fleets.

"We're certainly in the daily rental business, but not to the extent of our domestic competitors."

Like Ford, GM is trying to cut back on daily rental business. Ballew said the company is making progress in reducing its least profitable fleet business as part of its North American restructuring.

GM's fleet mix dropped to just 25 percent last month, down from 30 percent in February of 2005. But that decline took its toll on GM's U.S. market share.

"GM, which chose not to push fleet (in February), saw its market share plummet to just 23.7 percent," Murphy said. "Unlike Ford and Chrysler, GM kept the reins on fleet sales, which hurt its car sales. Car sales fell 13 percent -- after rising 15 percent last month."

GM is hoping to grow other, more profitable segments of its fleet business.

"We're still planning on growing on the commercial business," Ballew said, adding that margins for many of its commercial fleet vehicles are comparable to those sold through retail channels. "Commercial business can be very profitable."

Chrysler focus: market share

DaimlerChrysler said fleet sales increased 24.6 percent in 2005.

Merrill Lynch estimates that the Chrysler Group's fleet mix soared to 30.2 percent in the last three months of 2005 from 23.4 percent in the fourth quarter of 2004, and just 18.3 percent in the fourth quarter of 2003. That would more than account for the company's market share growth over the same period.

"Our retail share was flat," said Chrysler Group spokesman Jason Vines. Chrysler wants to increase retail sales, too, but the company's main goal is to grow market share profitably. If the automaker can do that through fleet sales, then it is not going to turn them away.

"We were small players before," Vines said. "Fleet helps us smooth out the slower months, and it also gives us a new customer base."

Detroit automakers are not the only ones using fleet sales to boost their numbers.

According to the Polk Data report, fleet sales accounted for 21 percent of Hyundai Motor Co.'s U.S. sales between October 2005 and the end of January 2006, up from 11 percent over the same period a year before.

Toyota Motor Corp.'s fleet business was responsible for some 7 percent of the company's overall sales between October 2005 and the end of January 2006, an increase of nearly 17 percent year-over-year. Other than GM, the domestic automakers continued to expand their reliance on fleet sales in February.

"The same thing occurred in January -- and at GM, too -- leading us to wonder whether fleet sales are replacing incentives as the lever that domestic (automakers) pull to juice monthly sales," said Peter Nevoid, a research analyst who follows the automotive industry for Bear Stearns in New York. "Our initial sense is that this is not the case, but that the trend warrants monitoring."

source : detnews