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Guest opinion: Absorption a measure of what?

This guest opinion is taken from an original post by AM forum user Talisker. To reply to the topic he started head to www.am-online.com/forum.

The principle of overhead absorption is simple, the aftersales departments profit should cover the general overheads of the business.

The logic being that there is a greater consistency to aftersales profits than sales and so the greater the level of absorption, the better the business is able to weather the variability of sales, particularly in a downturn.

This concept has been around for decades but really came to prominence in the 90/91 recession where it was seen as the answer – why? Because the dealers that survived that recession had high absorption and those that failed didn’t. So what had started as an indirect measure of stability became an objective in its own right and led the industry down a blind alley.

Absorption has also allowed manufacturers to hide behind a fundamental flaw in the business model – in the 90/91 recession, profits from trading new cars declined to almost zero and we saw the tacit acceptance that profit came from bonus, not trading. Manufacturer business management bods toured the country like snake-oil salesman preaching the life saving properties of absorption.

Much has changed since the eighties in our industry. Back then when Maggie was cutting the highest rate of tax to 40%, most car owners under three years old had their cars serviced by a franchised dealer.

By 90/91 that began to change. New players entered the market offering service and repair, Kwik-fit and others moved out of purely tyres and exhausts and independent parts factors were quick to offer these new players cheap manufacturer parts. At the same time drivers became much more conscious of cost and customer service.

At the same time two other vital ingredients were changing – service intervals and reliability. Back in the 80s it was not unusual to have service intervals of 3-4,000 miles, now it’s possible to go 20,000. Cars are infinitely more reliable now than then, so dealers see cars less, modern cars use less consumables i.e. spark plugs, filters as they last longer and they don’t go wrong as much.

The result of this changing reality was a decline in workshop sold hours and parts sales. So the aftersales departments have come under huge pressure to maintain revenues and profits. The reality is, this can only be done in three ways:

1. Increase volumes
2. Increase utilisation and efficiency
3. Reduce overheads
4. Increase charge out rates

Whereas 1 is what you want, 2 is hard to achieve, 3 is virtually impossible, 4 becomes the easiest option and that’s what most people have done.

So car dealerships now have some of the highest hourly charge out rates of any sector in the country. There was a time when £100 was seen as eye-watering, today in London £200 is not that far away.

The consequence of all this has been to see a vicious cycle that has led to, depending on franchise anything up to 80% of owners leaving the franchise network for servicing within three years.

Manufacturers have tried to help through extended warranty periods most now at three years, but this has been undermined by changes to block exemption regulations allowing non-franchised repairers to do service and repair work without risking the warranty.

As the business model creaks like an old man on a zimmer-frame, manufacturers have been forced to act by reducing the number of dealers, thereby increasing volumes per outlet. Whereas this may be good news for sales (to a degree) this has been far from good news for service as drive time and convenience become a much bigger factor.

Look at it from the consumer perspective – I have to drive further away to pay more as opposed to stay close to home, pay less and probably get a better service. Tough choice really.

And if that wasn’t enough, the increasing demands on ever bigger, plusher facilities on prime locations just upped the burden, just when your average service manager was looking for a reduction.

Service departments need to be able to reduce their labour rates dramatically to stand any chance of retaining or attracting back owners. This will never happen while workshops are bolted to the side of high cost, low profit showrooms.

Manufacturers need to address the simple reality that selling cars isn't as profitable as it should be. They either have to make it profitable or they should unbolt aftersales and stop it being dragged down by sales. The trouble is, they haven’t a clue how to do the first and can’t do the second as it is a fundamental pillar in their defence of block exemption regulation.

Some will argue that all this has nothing to do with absorption but I would disagree. In the 21st century there is enough pressure on aftersales to be profitable in their own right without having to cover the cost of the inherent weakness of new vehicle sales. Absorption and the drive to increase it in my mind is a bit like a man with a bucket on the Titanic – it may shift some water but doesn’t recognise or tackle the fundamental problem.

Whereas in the past absorption was seen as a measure of the soundness and stability of a business, today it is a measure of the failure of the business model that manufacturers cling to like an alcoholic to a bottle of vodka in a brown paper bag.

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