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North Country Auto - Authors

By Benjamin Cox,2014-06-17 01:44
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North Country Auto - Authors ...

North Country Auto

Authors:

Philip Larson

    North Country Auto Philip Larson

1) How do you think car retailers like North Country Auto make money? If you ran North Country

    Auto, what would you focus on? What would be critical success factors?

    Car retailers make their money primarily on new car sales, used car sales, and services. New car sales margins

    are low but frequently lead to good services relationships for maintenance, oil changes and service work. Used

    car sales margins are probably slightly better than new cars, but are likely being pressed down through

    competition from large players like CarMax. The services department is probably the area where good

    margins and recurring revenue streams could be attained. Customer loyalty for services offerings is likely to

    be very high. Therefore, if I ran North Country I would focus on seeding the market with new cars at a

    relatively low margin in anticipation of receiving higher margin services business. Additionally, I would look

    to capitalize on the quality of that relationship at the time of trade-in, charging a slightly below market value

    for the car but having customers willing to take this deal due to the convenience of working with a known

    party.

2) The case describes a typical car transaction: North Country sold a new 1989 Volkswagen Jetta for

    $14,150. To pay for this, the buyer paid $2,000 cash, traded in an old 1984 Jetta for a trade-in

    allowance of $4,800, and arranged financing (through a bank) for the balance of $7,350. North

    Country paid VW $11,420 for the 1989 Jetta (including the sales commission paid to the

    NorthCountry salesperson who sold the car).

    a. Assume the 1984 Jetta was sold without any repairs or improvements to a buyer for

    $5,200. That buyer paid for the car by paying $3,500 cash, and trading in a 1980 VW Jetta

    for a trade-in allowance of $1,700. North Country then sold the 1980 Jetta at auction for

    $1,500. How much money did North Country Auto make on each of the 1989 Jetta, the 1984

    Jetta and the 1980 Jetta?

    North country made $14150 (revenue) - 11,420 (costs) for the 1989 Jetta for a profit of $2730. On

    the 1984 used car, North Country made $3,500 + $1,700 (revenues) - $4800 (cost) for a profit of

    $400. When the car was eventually sold at auction for $1,500 the car was (based on the trade-in

    allowance) “worth” $1,700 and therefore was sold at a loss of $200. Therefore, North Country

    made a total of $2730+400-222 = $2930 in total profit on all of these transactions.

    b. The case states that the “guidebook” value of the 1984 Jetta was $3,500 at wholesale. In

    other words, if the 1984 Jetta were sold at auction, North Country Auto could reasonably

    expect to receive $3,500 for it. But, the dealership sold it at retail for $5,200. How should the

    profit on the 1984 Jetta be calculated? Who should receive the credit for the profit/loss on

    the 1984 Jetta, the new car manager or the used car manager?

    Essentially, the initial $4,800 value placed on the 1984 Jetta was an internal price based on what

    the new and used car salespeople believed they could sell the car for. If the market price

    (opportunity cost) is more like $3,500, then it would be reasonable to say that the profit on the

    1984 Jetta could be calculated as $5,200 - $3,500 or $1,700 in profit. However, if they do this,

    they should recognize that this profit is coming at the expense of $1,300 of profit from the initial

    transcation due to the difference between North Country’s value on the car of $4,800 and the

    market value of the car $3,500. The used car manager should receive the credit for the profit/loss

    on the 1984 Jetta because they are the ones who need the appropriate incentive to sell the used car

    for as much as possible. That being said, the new car manager has an incentive to increase the

    value of the trade-in above market value to make it easier for people to buy new cars. This could

    create a problem if the used car salesman is compensated based on an incorrect market value for

    the car determined by the new car manager. A better system would be to ensure both managers

    are properly incentivized based off the total profits to the firm as a whole, not based on the profits

    of their two departments individually.

    c. The case describes repairs made to the 1984 Jetta before it was sold at retail. How should

    North Country Auto account for those repairs? Should they be added to the cost of the used

    car? If so, at what cost, wholesale or retail? Why? How would you calculate the profits on

    those repairs?

    North Country Auto Philip Larson

    North Country operates a services business. Servicing internal used cars to make them sellable

    should not be significantly differ from the cost they charge externally (the market price) for these

    services. These costs should be added to the cost of the used car wholesale. Profit on those

    repairs should be comparable to the profits they receive from external parties. Therefore, you

    could look at the average profit margin for those types of repairs that are done for external clients,

    calculate the cost based on hours of work, parts, labor, etc. and the difference would be the profit

    on those repairs.

    d. What if North Country decided to sell the 1984 Jetta at auction. But the auction only yields

    $3,000, not the $3,500 suggested by the guidebook. What is the profit or loss on the car? Who

    should receive credit including negative credit for the sale?

    If the used car is sold at auction for $3,000 after the trade-in value was set at $4,800, the company

    should note a loss of $1,800. However, if the new car salesman only gives $3,500 of value to the

    new customer based on the Blue Book value, then the loss reflected on the income statement and

    balance sheet should only be $500. In the case of the $1800 loss, responsibility should fall on both

    the new car salesman and the used car salesman. The new car salesman is at fault for giving the

    customer $4,800 in value when the car was only worth $3,500. The used car salesman is

    responsible for the additional loss of $500 for being unable to receive market value for the car. If

    the used car had a trade-in value at Blue Book of $3,500, then the used car salesman alone would

    be responsible for the loss of $500 in this transaction.

    3) North Country incurred a year-to-date loss of about $59,000, before allocation of fixed costs, on the

    wholesaling of used cars, which is theoretically supposed to be a break-even operation. Where do

    you think the problem lies?

It is possible that this loss occurred because new car owners were giving customers looking to trade-in

    existing cars above market valuations on their used cars. If new owners were providing credit for $4,800

    for a used car that is worth $3,500, the used car group would have a difficult time making a profit. While

    there would be times (like the example above) where they could sell the car for $5,200 and still make a

    profit despite the inflated prices, most of the time they will have difficulty selling the used car above its

    Blue Book value of $3,500. Therefore, the used car division may be operating at a loss because the cost

    they are using for the used cars is too high.

    4) What advice do you have for the owners?

The owners of the business should make sure the managers of their various groups are properly incented to

    do what is most profitable for the firm as a whole. Probably, the firm should use blue book values for the

    trade-in value and use that as the cost to the used car division. However, if it is better for the firm to

    provide added incentive to customers to trade in their cars, the firm could allow for higher trade-in values

    but responsibility for those added costs should reside in the new sales division. On the other hand, if a

    case can be made that the used cars are worth more to this organization than to the market as a whole

    because they have an ability to consistently sell used cars above blue book value or because the service

    organization can increase those used cars more than other organizations can at similar cost, the additional

    costs of allowing trade-ins above Blue Book value might be appropriately split between both the new car

    and used car divisions.

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