Profit Accelerator No. 1: Parts & Labor Margins
Look at your financial statement. Find your customer pay parts (retail) gross profit margin as a percent of your customer pay parts sales, year to date. I have found that most dealers are averaging somewhere around 38% — but should be 45%. Time to roll up your sleeves.
Getting Better Margins
If you are an average dealer, at a 38% margin, you are suffering a shortfall of 7% on every part you sell. So how are you going to get those seven extra points?
Here is an example: Let’s say you sold the part for $1 and it cost you 62 cents. Your gross profit would be 38 cents and your gross profit margin would then be 38% with a cost of sale at 62%.
To determine a retail sale price for that part that produces your 45% gross profit margin (sale of 100% minus cost of sale at 55% equals gross profit margin of 45%), you would divide the cost of sale by 55%. So, a part that costs 62 cents, divided by a cost of sale at 55% equals $1.13 sale price. Subtract the cost of sale, 62 cents (55%) from the sale price of $1.13 and you get a profit of 51 cents (45%).
To determine your markup on parts to achieve this margin, divide the sale price of $1.13 by the cost of sale of 62 cents and you get 182%, which means you must mark up your parts cost by 82% to achieve a gross profit as a percent of sales at 45%. This is called a Cost-Plus Parts Pricing Matrix.
I hope I haven’t confused you with the math, but you need to understand this and inform your parts manager of Rule No. 1. The reason it is number one is because it is the easiest to control and, therefore, the simplest to follow. Your parts manager can make this happen with a few key strokes by installing a parts pricing matrix that will generate a 45% gross profit to sales.
What a Difference 7% Makes
Let’s say you are averaging about $100 in parts sales per RO at 38% gross profit margin and you are writing an average of 500 retail ROs per month. By simply installing the matrix I showed you, your sales will now average $113 per RO, which means an increase of $13 per RO. With an average of 500 CPROs per month, that equates to an increase of $6,500 per month or $78,000 per year in parts sales.
Apply this math to your dealership and see how this initial step gets you closer to achieving your goal of 100% service absorption.
Achieving 75% Gross Profit on Labor
Again, go to your financial statement and calculate your retail gross profit as a percentage of your retail labor sales. Is it less than 75%? Probably so. Next, compare your effective labor rate to your retail labor rate and calculate the difference between the two. Note: Your effective labor rate should be no less than 90% of your retail rate.
If you have a parts-to-labor ratio of say, 80%, then using the example above, $100 in parts sales per RO would give you an average labor sale of $125 per RO. Multiply by your 68% gross profit margin and your average per RO equals $85.
When we calculate gross profit margin at 75% instead of 68%, now you’re looking at $93.75 per RO, which is an increase of $8.75 per RO. That equates to an additional gross profit per month of $4,375. ($8.75 x 500 ROs) or an annual increase of $52,500 in gross profit.
Profit Accelerator #1 Results
Now let’s add both the additional parts gross and the additional labor gross ($78,000 + $52,500) and you can see your potential for profit improvement totals $130,500, just by following Rule No. 1.
Apply this math to your dealership and take another step closer to achieving your goal of 100% service absorption. Sound good so far? If your answer is yes, then why not make profit accelerator a number one company policy? In other words, it is not optional whether your service and parts managers follow this rule, it is your policy.
Diagnosing & Curing a Cancer
Most dealers have a retail rate that will generate a 72-75% profit margin, but their effective labor rate is producing a margin around 68%. Why is this happening? The answer is discounts. Your service writers are giving away your money.
Yes, I said service writers (clerks/order takers) not service advisors (professionally trained salespeople). These writers are giving away thousands of dollars of your money and many of you continue to allow them to do it. So, I often ask:
- Who controls the selling price of a vehicle: the salesperson or the sales manager?
- What do you do with salespeople who offer your customers discounts that are contrary to company policy (rules)?
- What do you do with salespeople who only sell an average of five vehicles per month?
- What do you do with a finance producer who only averages $200 PRU?
For a top-performing dealer, there are only two possible answers to these questions:
- You provide professional training that enables them to perform to your standards.
- You replace them with someone who is willing to follow the rules … and train them.
These are the only two options for your new and used car sales teams and they should be the only two options you have for your service and parts teams as well. Make Accelerator No. 1 your company policy starting now.