For GM, Sweet Deals Are Smarter Than They Look
When General Motors Corp. (GM ) revived 0% financing in early July, Wall Street hissed. Investors dumped the stock, worried that the auto maker was putting market share before profits. Others felt the incentives would hurt the rest of the industry, hooking buyers on fire sales. Goldman, Sachs & Co. senior analyst Gary Lapidus went so far as to call the ongoing incentive strategy "destructive."
Maybe, but there is more to this than meets the eye. GM execs acknowledge that the incentives could hurt margins in the short term. But they aim to capture new customers now in the hopes of creating a cadre of loyal GM buyers that will still be around when a raft of promising new models starts hitting showrooms in 2004. "If you have a vehicle people really want," says William J. Lovejoy, GM's group vice-president for sales and marketing, "you don't [need] incentives."
For now, the cheap financing is mostly helping the auto giant win a price war that its weakened rivals can ill afford. After the No.1 auto maker beat Ford Motor Co. (F ) and DaimlerChrysler (DCX ) to market with 0% financing in July, GM's monthly sales soared 24% over the previous year. By contrast, Ford's July sales inched up 1%, and Daimler sales fell 4%. Both Ford and Chrysler responded by offering 0% financing as well; Chrysler has even extended warranties to seven years and 70,000 miles on all cars.
The matching deals haven't stopped either from losing ground to GM, however, since its lineup features newer models. Indeed, Ford's market share has sunk two points, to 20%, this year, and Chrysler's is down marginally to 13.5%. Meanwhile, GM has jumped from 27.7% to 28.5%. Says Michael E. Maroone, president and chief operating officer of AutoNation Inc., the nation's largest dealer chain: "GM is getting its share gains from Ford and Chrysler."
The battle has been toughest on Ford, which is still struggling to recover from last year's meltdown. After reporting slim profits in the second quarter, the company expects third-quarter losses and only a slight gain for the whole year. "The incentive war has been costly," says Ford Chairman and CEO William C. Ford Jr. "It's up to us to get our business in order so that we can be profitable no matter what's going on in the marketplace."
For its part, Chrysler is hoping to sidestep the incentives war--thus far unsuccessfully--with an emphasis on quality. The company has invested billions to improve its engines and transmissions. Says James C. Schroer, Daimler's executive vice-president for global sales and marketing: "We want to put the product first and the deal second."
That won't be easy. GM has the financial muscle to keep the incentives going. After a decade of belt-tightening, GM's variable costs are now in line with the Japanese, at about 62% of revenue, vs. 70% for Ford and Daimler, says UBS Warburg analyst Saul Rubin. So GM can use its cost advantage to boost incentives.
The cheap financing has hit GM's bottom line--but not as much as investors feared. Analysts estimate that 0% financing costs $3,100 a vehicle, $500 per car more than GM was spending on sweet leasing deals in June. But the big jump in sales means GM can run its assembly lines faster. That translates into higher productivity, which helps defray the cost of 0% financing. By one estimate, GM would need to grab at least 2 points of market share for 0% to be a wash on the bottom line. Since GM gained just 1 point in July, the scheme hurt profits. Still, Burnham Securities Inc. analyst David Healy says GM should hit its third-quarter earnings target of $500 million.
Will today's discounts build the customer loyalty that GM needs tomorrow? The company is counting on its next generation of cars and trucks, designed under car guru Robert A. Lutz, hired last year to add luster to GM's lineup. Coming soon: a Cadillac SUV, a retro-styled Chevrolet compact wagon, and the Pontiac GTO sports car. Lutz had better get it right. Otherwise, GM may lose the market share it bought these past 12 months.
By David Welch, with Kathleen Kerwin, in Detroit