As a result of the global pandemic, we have seen changes across every industry. The automotive sector has experienced some of the most dramatic. It’s not unethical to say that we’re running out of new cars in the United States right now.
Earlier this year lumber prices skyrocketed (and then fell back down to reality), home prices soared in value (and continue to), and other industries undoubtedly evolved as a result of the pandemic. However cars (both new and used), have experienced unprecedented impacts as a result of Covid-19.
Take a drive down to your local “dealership row” and you’ll see empty lots. Where did all the cars go?
Chips are to blame. No, not those chips … We’re talking about microchips, the unimaginably small, paper-thin integrated circuits that store data, transmit code and allow software to carry out their magical properties. Vehicles today are full of computers, microchips, and software. The reason you don’t see any cars on your local dealers lot is because production of these chips has been outstripped by demand.
We began documenting the chip shortage at the beginning of 2021. Initial news reports suggested that there would be a significant, albeit short-lived supply chain disruption that would affect new vehicle production.
10 months later, it is clear as day that those initial reports were wrong. Very wrong. There will be lasting and widespread impacts from this shortage.
Today we’re going to explore how we ran out of cars, trucks, and SUVs, what impact that has on you if you need to buy a vehicle, and what this means for the “new normal” of buying a car.
Let’s dive in.
How bad is this “chip shortage” anyway?
Frequently you’ll hear my father, Ray Shefska joke that Frito Lay needs to increase their production capabilities because of the chip shortage. If only the solution were that simple!
Global semiconductor production is derived primarily from three companies; TSMC, Samsung, and Intel. Those aren’t the three companies you need to know about though. The one company you need to know about is ASML.
ASML is a Dutch corporation that has cornered the market on the one thing that is more important than microchips — the machines that make them. ASML produces EUV machines. These are the machines that TSMC, Samsung, and Intel use to produce their computer chips.
Wired recently produced an awesome article on ASML, and we recommend you take a look if you’re interested in a deeper dive on them.
The long and short of it is that there is one company that produces these machines (ASML), the machines themselves are incredibly complex (100,000+ components), and they’re unfathomably expensive (hundreds of millions of dollars). When someone says “we should just make some more chips,” they don’t understand that ASML holds the keys to that kingdom, and they are producing as many EUV machines as they can. There isn’t a quick fix when it comes to producing microchips.
Our current microchip shortage is in part exacerbated by the fact that these integrated circuits are in literally every electronic device we interact with. ASML has some quality information on that here. Chips are the new gasoline in a sense — they’re everywhere.
So how badly is the chip shortage affecting the automotive sector? Badly.
Market Days Supply is an industry metric that automotive manufacturers and dealerships measure to track their inventory levels.
When we founded CarEdge we built software that tracks Market Days Supply for consumers so that they could be armed with the same information the OEMs and dealers have. If a vehicle has a high Market Days Supply it would indicate a greater likelihood that the dealer would negotiate and sell it at a better price. When Market Days Supply is low, a dealer (and the OEM) have little incentive to negotiate or discount their product.
How bad is the new car shortage? Subaru has a 6 day supply of inventory nationwide right now. Honda’s sales were off 18% year-over-year for the month of August, and Toyota recently announced a 40% decrease in production over the coming months.
The chip shortage, and subsequent new car shortage is very real, and very impactful.
Used car demand is higher than ever before
With automakers unable to provide their dealerships with new vehicles, used cars have become increasingly popular. Black Book, an industry leader in vehicle valuations, and a CarEdge partner, produces a weekly market report on used vehicles.
For 10 months now we have tracked this report each week, and it is truly unfathomable what we’re seeing. Retail used car prices are up 25% from just the beginning of this year, while wholesale prices have risen more than 30%.
There is serious concern that this “bubble” in used car prices will have lasting negative effects on the market. Our primary fear is that consumers who finance a used vehicle today will be in severe debt positions once supply returns to some sort of pre-pandemic normalcy.
For used car owners (and lessees) who have a vehicle to sell (and don’t need to replace it), there couldn’t be a better time to be in the market. Traditionally used vehicles are depreciating assets, however over the past 12 months we’ve seen certain segments of used vehicles (we’re looking at you full-sized vans) appreciate over 100% in that timeframe.
Is this the new normal?
In short, we think the answer is yes, and there are two primary considerations that give us confidence to say that:
- The new car shortage will likely drag on well into 2022 if not into 2023.
- Automakers and dealers are finding ways to increase profits while having less supply.
It’s as simple as that. The shortage isn’t going to end overnight, and while OEMs and dealerships learn how to cope with that, they are finding innovative and new ways to increase their profits. Even if the shortage could be reconciled tomorrow, why would Ford go back to their old ways? Why would the new car dealership go back to stocking a 90 days supply of inventory? Why go back if profits are up?
For these two reasons, we anticipate there will be lasting and permanent changes to the retail automotive industry. Here are a few specific areas where we think the change will be felt.
Say goodbye to manufacturer incentives
The days of rebates and special interest rates are behind us. Why incentivize the sale of a vehicle when you don’t have enough vehicles to sell?
The average incentive outlay (how much the manufacturer spent to incentivize the sale of a vehicle) dropped 40% year-over-year in August from $3,969 to $2,432 (TrueCar), and this trend will surely continue.
Automakers have traditionally spent thousands of dollars to incentivize the sale of their vehicles. These are marketing expenses that are paid for by the manufacturer. To be crystal clear, these are programs like the $500 you get off for being a recent college graduate, or the limited time $1,000 rebate offer on the Chevrolet 1500. These incentives are diminishing rapidly, and in a world where there is less supply, it makes sense for automakers to cut back on their budget for incentives and programs.
Be prepared to pay more, with more cash down, and get GAP insurance
Another lasting impact we see has to do with transaction prices (both for new and used vehicles). With less supply we anticipate that all vehicle prices will stay elevated.
Dealerships with limited supply are able to tack on accessories and “additional dealer markup” simply as a result of having ample demand and not enough supply. Traditionally gross profit on a new vehicle was near zero. Car dealers made their money on the “back-end” of the deal (selling loans and insurance products). Nowadays, dealers are making thousands on the sale of the vehicle, and even more on the back-end. This is a result of the limited supply and healthy demand.
We anticipate that this will be a lasting trend. Dealerships will not discount below MSRP on new vehicles, and they won’t negotiate on their used inventory. Instead, you’ll have to fight tooth and nail over the $900 “GPS tracking system” they installed (that really only costs $200), and the $5,000 additional dealer markup they added “just because.”
With prices inflated, and with limited leverage, consumers will need to be prepared to put more cash down than ever before in order to get approved for their loan. Unlike anytime before, GAP insurance will be a smart decision for most purchasers.
Get ready to “order” your next car
With limited inventory on dealership lots, we expect the trend to “factory order” vehicles to become the new normal. Ford and General Motors have both said that they like having less inventory on their dealerships lots, and that they’d prefer to move towards an order system.
This will in part change how consumers negotiate car deals, and it will also drastically change the way car dealerships look and feel. Do you really need a humongous lot when you have no vehicles on it? We expect to see the physical representation of dealerships change over the coming years as a result of more factory orders, and less inventory on dealership lots.
We’re here to help
The automotive industry is experiencing a transformation right before our eyes. Buying a car is even more difficult today than it was a few years ago, and in part that’s because of how rapidly the industry is evolving.
Here at CarEdge we’re committed to helping you navigate this process. You should feel confident when you buy a car, and between our Auto Advocate live chat support, vibrant community forum, and consistent educational content, we promise to do the best we can to assist you through this process.