March 26, 2014 — The automotive retail system is on the cusp of revolutionary change. The transformation already is happening and we predict over the next 20 years, forces such as changing franchise laws, new retail models being developed by automakers along with the ever-lurking autonomous vehicle are going to upend the system as we know it today.

How dealers, OEMs, vendors, the courts and legislative bodies deal with these changes is an ongoing story. New retail methods, new technologies and approaches are aligning to create a world we’ve not yet seen. That world is coming quickly.

Franchise Laws – A Recap
The dam holding back the onslaught of changes to the retail system is the state franchise laws. Each state has their own laws – some more severe than others.

Before the 1950’s, manufacturers controlled the relationship with their dealers. Their attorneys wrote the franchise agreements – most, if not all, allowed the automaker to end the relationship with no cause. Dealers had no recourse but to sign the agreements as written. Some dealers challenged the agreements in court but saw no success.

Dealer state associations began focusing on using the legislative process in the states to level the playing field with automakers by trying to get laws passed that governed the manufacturer-dealer relationship.

The first franchise laws came into play in Wisconsin and in Colorado in 1937. More followed in the 1950’s when General Motors, much like Ford Motor Co. did in the 1930’s, began forcing its dealers to buy unwanted inventory along with parts and accessories.

Alaska became the last state to enact franchise laws protecting dealers in 2002.

Dealer state associations have, through the years, successfully lobbied state legislatures to tweak and enhance their franchise laws as new threats take shape – such as, Ford and GM’s attempts to own dealerships in 1999 and 2000. GM scuttled its plans while Ford went ahead in a few markets for a few years only to find that retailing vehicles was not an easy venture.

Porsche also tried to redo its franchise agreements effectively trying to do away with its dealer body but decided the legal challenges would be too costly.

When GM terminated the Oldsmobile brand, it ended up paying its dealers more than $1 billion damages.

Dealers found they had the upper hand at the local and state level because they were often among the biggest employers, were on the ground engaged in local politics, knew what the issues were and were able to donate large sums of money to local and state politicians. As a result, state laws began favoring dealers. That scenario still continues today.

Dealers vs. Tesla and State Franchise Laws
But what if state franchise laws protecting car dealers start to get overturned?

It’s not a farfetched scenario – which is why state association directors fight so vigorously to maintain the protection dealers have today.

The Banks Report laid out recently In the Case of Tesla, Dealers are Winning the Battle but Losing the War, a scenario in which state franchise laws could be endangered.

Tesla is trying to sell its Model S direct to customers but dealers and their state associations are pushing back using state franchise laws to restrict what Tesla is able to do.

In some cases, the laws have had to be strengthened or clarified, such as what happened in the recent situation in New Jersey.

A year and a half ago, someone in the New Jersey Motor Vehicle Commission granted Tesla two licenses two operate stores in Paramus and Short Hills. Two weeks ago, that changed when, at the urging of the Jim Appleton-led New Jersey Coalition of Automotive Retailers (NJ CAR), the Commission clarified a longstanding rule requiring new vehicle sales be handled by a franchised dealer.

The New Jersey law never defined what constituted a dealership, which is the loophole Tesla used to obtain the licenses. The Commission clarified the law by requiring all dealers to have a franchise agreement in order to receive a license to sell new vehicles. It effectively ends Tesla’s ability to sell vehicles directly to consumers in New Jersey.

The battle at the state level has been ongoing for about two years now. Massachusetts, New York, Ohio and Texas are where some of the more high-profile battles have occurred and are still ongoing.

Media and Public Outcry
But for some reason, the battle in New Jersey has created a massive media and public outcry against car dealers that has reached a level never before seen.

For the last two weeks, the Tesla vs. car dealer story has been one of the top three stories in the media – the other two being the disappearance of Malaysian flight 370 and GM’s ignition switch recall troubles.

Hundreds of articles, columns, opinion pieces have appeared in both national and local media outlets and overwhelmingly have supported Tesla’s position. As TBR wrote last week, headlines included terms describing the dealer model such as cabal, cartel, antiquated, monopoly, sucking, racket — even the ancient plaid jacket made an appearance.

The few writers who authored pieces supporting the dealer position (I counted four) were hammered in the subsequent reader comments as being ignorant or out of touch, and in the pocket evil car dealers.

These articles are being shared in the social media world on Facebook, Google+, LinkedIn and Twitter generating thousands of more views. One article generated more than 2,740 comments in five days – and most of them harshly critical of the dealer model.

The crescendo of outrage against dealers is evidence that dealers, the state associations and the National Automobile Dealers Association have lost the PR war with Tesla.

There is a line of thinking for some dealers in that they don’t care about the PR as long as they remain the “only game in town” – as in, they’re the only place customers can buy new cars.
Honestly, there is some truth to that thinking. You have to win the legal battles, otherwise who cares what the consumer thinks.

One of the challenges, however, is that Tesla does not have a dealer body with which it competes. The current franchise laws were set up to protect dealers from their manufacturers, a dynamic that does not exist in Tesla’s case. The media and the public seem to understand that distinction.

And the arguments dealers are making that they are merely protecting the franchise system to protect the customer is falling on deaf ears. It’s an easier argument to make when you’re trying to defend against actions of an overbearing manufacturer.

Instead, now dealers are being painted as anti-competitive free market obstructionists intent on only protecting their turf.

Unwittingly, in fighting Tesla, dealers are turning the electric automaker’s founder, Elon Musk, into a modern day Robin Hood who will shatter the current retail system and free the buying public from the clutches of nefarious and villainous car dealers.

Franchise Laws in Danger?
The disconcerting part about all this, though, is that we might soon see just how tenuous these state franchise laws are.

Take Texas, for example. Last year, state politicians tabled in committee a bill that would have allowed Tesla to sell directly to consumers. That bill is effectively dead until sometime in 2015, the soonest it can make it out of committee.

Texas is one of four states in which Tesla is reportedly considering building a $5 billion gigabattery factory that will will generate 6,500 jobs. What happens if Tesla’s chairman and CEO Elon Musk announces that one of the other three states won the factory sweepstakes because Texas wasn’t friendly to its sales model?

That easily could become an election issue next year along with states such as New Jersey, Ohio and New York among others. Texas Governor Rick Perry said this week he favors another look at the law restricting Tesla from selling vehicles in his state.

Meanwhile, Sen. Marco Rubio, republican from Florida, and possible 2016 presidential candidate, says he has no qualms about Tesla’s business and retail model.

Already, Arizona is trying to push through a bill that will allow Tesla to sell directly to consumers. The law currently only allows a Tesla gallery in Scottsdale to take Internet orders.

The bill passed a Senate committee last week. It’s sponsor is Rep. Warren Peterson, another republican – and that alone is a bit troubling in that the GOP typically supports car dealers. The bill is facing fierce opposition from dealers in the state.

Washington state, meanwhile, last week stripped restrictions from a bill that would have kept Tesla from selling cars directly to consumers. But the legislation seems to have satisfied the state’s dealer community because it also strengthened requirements for other automakers to sell through their franchised dealers.

Washington Governor Jay Inslee still has to approve the bill, which seems likely at this point.

Editor’s Note: In a last minute update to this piece, Ohio’s Automobile Dealers’ Association late Tuesday –March 25, 2014 – negotiated a deal that was approved by a Senate panel that allows Tesla to continue selling to customers at its Columbus and Cincinnati locations. Tesla may also open a third location in Cleveland. The deal follows the model set by Washington state in that no other automakers may operate OEM-owned dealerships.This appears to be a good model that might dial back some of the intensity of the dispute. Look for other states to begin adopting similar models.

While it appears that Washington and Ohio are implementing approaches that will protect their franchises and yet allow Tesla to maintain its direct to customer model, the recent outcry still is troubling and portends a future in which franchise laws will be weakened.

The political and financial clout dealers enjoy in many states today could very well be blunted – or worse, overwhelmed – if the public outcry becomes too strong for politicians to ignore. And then there are the almost certain legal challenges to the franchise laws – which we’ve already seen in New York, Massachusetts and other states.

The industry has to expect and plan for the eventual weakening and possible overturning of these franchise laws. As the laws begin to change, automakers likely will have greater freedom to restructure their retail networks.

But even without strong franchise laws protecting dealers, automakers, if they choose to enter the direct-to-consumer game, will have to deal with the high costs of retailing. Facilities, inventory, human resources, technology investments, used vehicles and necessary local market knowledge almost make retailing a non-starter for most automakers – at least, within the current model.

But automakers are developing new models – ones that may significantly reduce the typical costs of retailing today.

New Retail Models
When combined with weakened franchise laws, these new retail models along with the development of autonomous vehicles could upend the current automotive retail system as we know it.
First, are the new retail models several automakers are experiementing with in Europe and other foreign markets. Other automakers are laying the groundwork in the U.S.

Manufacturer executives say they are merely trying to support their dealers, but it’s clear from some of these experiements, they are preparing for the day when they can take a more active role in the retailing of their vehicles.

Experience/Lifestyle Centers
Here in the U.S., Porsche is building two customer Experience Centers – one in Los Angeles slated for later in 2014 and one in Atlanta that will open in 2015. Both facilities will be high-end, with test tracks and guests having their own driving consultant along with an onsite chef.

The Atlanta center is expected to be functional 24 hours a day while Los Angeles will have to close at 8 p.m. each night.

The question that has yet to be fully answered is just how these centers will interact with and funnel customers to area dealers. Dealers will likely use it as a sales tool arranging test drives at the centers for prospective customers. The two U.S. centers follow three others that currently are operational in Europe.

Look for other automakers to start building Lifestyle Centers in the U.S. Sales transactions won’t be part of these centers – as long as the franchise laws remain in place. Marketing folks at the OEMs like to tie their brands to lifestyle concepts such as technology, music, art, fashion or design. These centers most likely will integrate appropriate concepts into their designs and branding.

Brands such as BMW and Mercedes Benz also are experimenting with lifestyle boutique type stores.

Lexus opened its new Intersect by Lexus concept in Tokyo’s Aoyama district incorporating other luxury brands into a space that transcends a typical dealership.

There are plans to open an Intersect space in downtown New York as well as other international cities.

Pop Up Store Fronts
Cadillac, meanwhile, says its planning to build several pop up retail store fronts, test drive centers and stand alone service facilities in Europe to help support its 40 dealerships there. If successful, dealers can expect to see some variant of the model make its way to the U.S. in the next year or so.

These may be temporary and will be located in high-traffic areas and characterized by futuristic modern looks incorporating technology such as kiosks, 3-D graphics and possibly Q-R codes that allow shoppers to search for more information without the pressure of a sales person.

Inventory will be limited. In fact, these type of “retail” stores likely will be used to showcase a new model coming out.

Virtual Interactive Showrooms
Audi has opened three digital showrooms since 2012 – Audi City London (July 2012), Audi City Bejing (February 2013) and Audi City Berlin (February 2014). Audi City Moscow will open later this year. Another 16 are scheduled to open through 2015.

These showrooms are for the most part virtual – some are completely digital with no inventory. Using-floor to-ceiling power digital walls, shoppers can configure any vehicle within Audi’s inventory. In Berlin, the walls incorporate 3-D technology. Customers can schedule a test drive or order the vehicle directly from the showroom.

Audi will begin incorporating elements of the digital showroom into its “conventional” dealerships later this year. At the moment, the virtual — or digital – showrooms are paired with a local conventional dealership and are manned by product experts and a customer relationship manager.

Audi City London had intriguing results its first year of operation. It’s the smallest Audi dealership in the UK at 4,520 sq. ft (420 sq m) and has only four vehicles in its showroom.

More than 50,000 visitors translated to more than 360 sales with many paying more than 20% of list price because of the options they ordered — no doubt due to the ease and innovative approach to being to able to configure more than one million different combinations. At least 75% of the customers were first time Audi buyers while 50% ordered directly while in the London showroom without taking a test drive.

Virtual test drives are not far off, however. And it won’t be long before potential customers are taking virtual test drives at home or at work. Just this week, Facebook paid $2 billion to acquire 3-D and virtual gaming company Oculus Rift.

In the U.S. dealerships will begin with a much less revolutionary approach using i-Pads instead of 3-D virtual walls to help customers configure their vehicles. Audi has dubbed the plan the Audi Progressive Retail Experience. Dealerships have ordered more than 2,000 i-Pads from Audi for their sales people.

The goal is to create a seamless buying and transaction experience from the online world to the offline world.

Even vendors such as ADP, Reynolds and Reynolds, AutoTrader and DealerTrack are designing their marketing and products around the concept of seamless transactions. That’s why DealerTrack spent $987 million to acquire Dealer.com this year. It needs a big website presence to offer an integrated and seamless solution for dealers to offer their customers.

It’s possible these virtual showrooms represent the future of what automotive dealerships may look like. But it is ironic that as Audi experiements with innovative showrooms that require little to no inventory, it is forcing its dealers in the U.S. to spend millions of dollars to upgrade and add inventory capacity to their stores.

Pay-per-Use Models
In addition to the innovative showrooms, Audi City Berlin is piloting the ‘Audi Select” program in which customers can pay a monthly subscription fee and switch up to three different Audi vehicles each year.

(TBR has heard rumors that Audi is preparing to pilot a similar program in the U.S. sometime this year – possibly in San Francisco.)

Citroen, part of the French Peugeot-Citroen Group, also is rolling out a novel pay-per-use model for its new C-4 Cactus vehicle in the UK, Italy and Spain, in which customers can pay to have access to a vehicle instead of owning one outright.

Autonomous Vehicles
These experiments and others that may be similar, might seem innocent on the surface. But when you factor in the autonomous vehicle, suddenly the automotive retail future looks much different than what we have today.

It’s true, there are numerous challenges for autonomous vehicles before they become a staple on the highway. Best case scenarios currently have fully automated vehicles in play no sooner than in 10 years, although Morgan Stanley analyst Adam Jonas predicts every automaker will have a self-driving vehicle by 2026 and that penetration will reach 100% within two decades after that – a mere 32 years from now.

Other studies, one from Navigant Research and another from ABI Research predict penetration will be 50% to 75% by 2035 – in another 20 years.

So let’s add these three factors together – weakened state franchise laws, new systems including subscription or pay-for-use models and autonomous vehicles.

(We haven’t even touched on how digital advancements will continue to transform how dealers market and communicate with customers – mainly because that seems to be a given).

Instead of buying a vehicle, a consumer will be able to pay a monthly subscription fee to an automaker (similar to what Citroen and Audi City Berlin are piloting today) and choose which vehicle they want showing up in their driveway or in front of their house on any given day.

The above scenario will happen within the next 10 years – if not sooner. Not on a large scale level in that time frame, but it will be available faster than we can expect.

Imagine what a scenario like that potentially could do to sales or ownership rates – especially in urban areas. They will plummet.

A recent study by the Massachusetts Institute of Technology’s Department of Aeronautics & Astronautics, estimates a fleet of 300,000 self-driving vehicles could service Singapore’s six million people with only a 15 minute waiting period during peak travel times.

Currently, 12% of Singapore’s population owns 800,000 vehicles. That’s a drop of half a million vehicles.

In the U.S. the drop off could be even more dramatic as there are 797 vehicles for every 1,000 people. At what point, as autonomous vehicles begin to enter the market in greater numbers, does the appetite for vehicle ownership decline?

We’re not predicting dealerships will completely disappear or that people will stop buying vehicles. However, the automotive retail world 20 years from now will look significantly different than it does today.

From a broad perspective, the industry likely will have less dealerships, with fewer vehicles being sold, while automakers, and perhaps, other players, will have a more direct role in automotive retail.