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Increasing Inventory Turnover: Release Your Frozen Capital

It is no secret that the single largest consumer of your “net working capital” is likely to be your used vehicle inventory investment.  Unfortunately, and for reasons I will never understand, this investment generally has the fewest controls, checks and balances and is likely to be one of the few inventories owned by the dealership that is not “actively managed” on a daily basis with an inventory management system.  Lack of controls and having no real inventory management system creates, for many stores, a large amount of “frozen capital.”   If the answer to any of the following questions is yes, it is likely that your store has frozen capital that needs to be objectively identified, released and re-invested. 

  • Have you ever had to “cash” some vehicles to make payroll?  
  • Are any of your used vehicles on your floor plan?  
  • Do you seem to experience more “wholesale pain” than you think you should?  
  • Do you wish you really knew what your “lost sales” of used vehicles is? 
  • Do you think you would gross more if you had a different mix of inventory?

Besides the real estate, your two largest recurring cash investments are likely to be used vehicles and parts.  Today, the average franchised automobile dealership has a parts inventory investment of approximately $400,000.  Dealers wouldn’t consider for a moment, not having a system that allows the manager to phase in what he/she needs and phase out what they don’t. The various inventory management systems are based on a lot of indicators, primarily demand and movement.  They can quickly tell the manager many things they need to know to make inventory decisions including rate of turn, gross profit as a percent of sales, return on investment, stocking guides, seasonality, and much more.  We not only hope, but expect, to turn this inventory between four to six times per year.

With a monthly investment of $400,000, you can expect $800,000 in gross profit per year.  This is based on a 25 percent profit on annual sales of $3,200,000. 

To figure your annual return on investment, divide your gross profit ($800,000) by your monthly inventory investment ($400,000), which totals your annual return on investment (ROI) at 200 percent. 

If you want to go a step further and figure your monthly ROI, just divide the annual ROI (200 percent) by 12 months, and you will get a 16.67 percent as your monthly ROI.

These numbers are real, achievable and happen in many dealerships because of diligent, daily inventory management.  Having the right part on the shelf at the right time is one of the keys to making this happen.  The hardware and software costs for parts inventory management typically fall in the $2,500 per month range.

You also have expectations of your much larger cash investment-used vehicles.  However, getting the same figures for vehicle inventory is a bit different.  The average cost of used vehicles inventoried at franchised automobile dealerships today is nearly $14,000.  It is not unusual for a dealer to have 100 (or more) units in inventory, or a total investment of $1.4 million.  Assuming this inventory (100 units) is a 60 day supply (six turns per year), you will retail 50 units per month. 

To figure your yearly and monthly ROI percentages, first you must calculate gross profits for both.  To get monthly gross profits, multiply how many units you will retail per month (50) by the front end gross per unit ($2,000).  This gives you $100,000 gross profit per month.  Multiply that number by 12 months to get annual gross profit ($1,200,000).

To figure your annual ROI, divide your annual gross profit ($1,200,000) by your inventory investment ($1,400,000).  Your annual ROI is 85.7 percent.  Divide that percentage by 12 months to get 7.14 percent as your monthly ROI.

This equals slightly less than half the return that your parts inventory generates – not including wholesale losses.  To improve you have three choices.

  1. Keep the same gross while reducing the investment. 
  2. Keep the same investment and increase the gross.
  3. Reduce the investment and increase the gross by increasing turnover.

This can only happen by having more of the right stuff on your shelf more of the time and by paying strict attention to diligent inventory management.  The quicker the turn, the higher the gross and the lower the investment required to do it.  It is relatively simple, stock more of what your customers are looking for and your investment will become more active.  A more active investment means quicker turnover.

Unfortunately, most dealers rely on managers who continuously claim, “I know what sells and what doesn’t.” Have you ever changed used vehicle department managers and were told that your inventory was all wrong and you really needed to start over?  Everybody has an opinion.  Often times they aren’t the same.  You need to have your investment managed by objective facts, not subjective opinions.  Most used vehicle department managers are also largely resistant to inventory management systems.  There are numerous excuses; here’s just a few:  “I can’t control what comes in on trade.” “Yes, I know I need some of those; just dial 1-800-used-cars and order me some.” “No computer can manage my inventory better than me.”

Perhaps it is because they generally fear accountability.  I really don’t understand the resistance to something that will increase their personal W-2s.  Let’s face it, this is sizeable investment portfolio. This department often determines whether we make a net profit or not.  Dealerships need an inventory management system.  Most all are less expensive than a parts inventory management system.

Do yourself a favor, commit to making a change in your used vehicle department and install an inventory management system.  Demand that the process is inviolable.  Monitor its use and progress at least once a week.  When it is running properly and decisions are being made by the numbers, not by emotions, your used vehicle inventory turn will be more like nine to 12 times a year.  It is not likely that you will begin achieving different results without changing current behavior.

Vol 3, Issue 12

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