Carvana and Vroom are on a collision course for failure. While I know this is a strong title and what many would consider a declarative statement, it’s true but not for the reason that many of the pundits think, including the guys on Wall Street who have played a role in making this an inevitable failure of monumental proportions but more on that later in another article.
Car Acquisition Cost are Too Expensive
In 2018 a small software company had the fortune or maybe misfortune as it turned getting up close and personal to Carvana’s business model. The start-up company had developed a way to deliver customers to Carvana in an efficient and cost effective way. However, the deal was cancelled by the CEO we he discovered the truth about Carvana’s business model. Basically, that Carvana’s business model was unsustainable in the long-run. After combing through Carvana’s Securities and Exchange 10k statement, the CEO discovered that Carvana was paying an enormous cost for its success. Put simply, it was costing Carvana too much to acquire customers to purchase their cars. Customer Acquisition Cost (CAC) is the total sales and marketing costs it takes to win a new customer. This cost in a dealership includes the cost of the sales, marketing and advertising cost. For instance, the average traditional car dealer’s customer acquisition cost is $1900 per car.
In comparison in undeveloped markets Carvana’s customer acquisition cost was as high as $25,000 per car. Moreover, a traditional car dealer will make an average profit of $3,500 per car. That means Carvana’s $25,000 per car CAC meant they were losing $21,500 ($25,000-3,500) on every online car sale that they made. So why does it cost Carvana so much to sell cars. There are several reasons for this, unlike traditional car dealerships, online dealerships have to reach a national audience. The most efficient way to do this is through search engine companies (Google), search engine optimization (SEO) companies and of course television advertising. While these advertising platforms are quite effective for reaching an audience of millions, it’s also very expensive. The competition to stay at the top of the search rankings can be very costly especially for a company that doesn’t have a traditional sales force. In respects to television it can be even worse, running television advertisements during major sports events like the Super Bowl cost millions for a 30 second spot. According to Carvana’s 2022 SEC 10k statement Carvana in 2019, 2020 and 2021 spent almost $1 billion in adverting alone.
In those successive years (2019, 2020, 2021) Carvana lost a total of $1.1 billion as a company. Compare Carvana to traditional dealers who spend dramatically less money in marketing because they advertise to a local audience, use low-cost adverting mediums such as local television, radio and free advertising such as word of mouth referrals. Moreover, traditional car dealers are also experts at offsetting sales cost with auto servicing revenues, nearly 50% of a traditional car dealerships revenue comes from their automotive servicing department. Online car companies such as Carvana and Vroom can’t to offset sales cost because neither of them have automotive servicing departments.
Carvana and Vroom’s Logistics and Operations Nightmare
Many of us in the general public do not realize the complexity of operating a car dealership. The purchase of a car just boils down to going to the dealership, test driving a car and signing paperwork. Well many in the car business know that to only be the customer-facing part of the business. The car industry has gotten a reputation for being an awful place to go when it’s time to purchase a new or used car. Many would rather go to the dentist to get a root canal then go to a car dealership to purchase a car. While auto dealerships may not be known as the nicest group of people on the planet, there are some things on the non-customer facing side of the business that they are very good at doing. They are experts at the operational and logistics part of the a car dealership’s business. The operations and logistics part of the car business is the non-customer facing side of the car business that the customer never see but ultimately benefits from every time a car is sold to a customer. Operations and logistics comprise of activities that happen before and after the car is sold, primarily the acquisition, upfit, transportation, delivery to customer homes, registration, titling and taxes paid on all cars. It includes where car dealers are required to communicate with different Department of Motor Vehicle (DMV) departments in each state. What’s not known by the general public is that there are 17,968 car dealerships in the U.S., all of them with specific operations and logistics expertise in their area of the country. This dealership expertise translates into the frictionless way most people experience when they purchase a car.
When was the last time you had a home delivery, title, registration or taxes issue when it came to your car you purchased from a traditional car dealership? Yeah, I know, like me, probably never! Compare this to online car dealerships like Carvana and Vroom who have only been in business since 2012. 10 years is not nearly enough time for online car dealers to understand the nuances of the logistics and operational side of the automotive industry. Add to that the fact that the online dealers have what amounts to the logistical and operational nightmare of having to deal with car deliveries, registrations, titles, taxes and tags on a national scale and you get why this is a recipe for disaster. Carvana and Zoom have had huge trouble in that area. Carvana has recently been in trouble with multiple states over fake odometer readings on customer cars. A customer Sydney Allen purchased a car from Carvana and her odometer reading had 40,000 less on the odometer than it had on the title. https://www.thedenverchannel.com/news/contact-denver7/a-terrible-experience-aurora-woman-says-carvana-sold-car-with-40k-mile-discrepancy. Carvana has also had problems with getting customers their titles in a timely fashion. Carvana was recently temporarily suspended from some states like North Carolina because they failed to deliver their customers titles on time. Derek Munhenke purchased a car from Carvana and it took 11 months for him to receive his title. In Mr. Munhenke’s case, Carvana’s negligence made it impossible for Mr. Mundhenke to legally drive his car although he was still required to pay car payments. Can you imagine paying payments on a car for 11 months and not being able to drive the car? The online car dealer Vroom also has many of the same operational problems that plagues Carvana, Vroom’s license has recently been suspended in multiple states due to the inability to get their customers title to them in time. In one instance, a customer purchased a fire engine red 2020 Kia Stinger-Turbo in Florida. The customer had the car for over four months without a title, a car that she couldn’t drive but was still paying monthly payments.
Right Time, Right Place, Wrong Business Model
Timing is everything in business and in life for that matter. In the case of online car retailers timing is just as important, maybe even more so if you want to stay in business. The selling of cars online was inevitable once the internet was created by Al Gore…just kidding! In all seriousness, eventually everything is going to be sold online. We can purchase groceries, order fast food, purchase televisions, computers, clothes, shoes, all of these items can be delivered to our home, many the same day by companies like Amazon, Costco and Publix. This is possible because of technology and because of the enormous investment the U.S. government has made in our broadband infrastructure. So as a natural progression selling cars online was an inevitable possibility for most online retailers like Carvana and Vroom. Unfortunately, what is inevitable or in other words, the right time and place may not always possible if the online retailer does not have the right business model. As was mentioned above Carvana’s and Vroom’s online business model can be stretched to its breaking point due to lack of operational and logistics experience. Maybe what is needed is a minor adjustment to the current online automotive business model.
The current model does a great job of selling the car on the customer-facing side but does a lousy job of logistics and operations which is primarily after the sale and involves state vehicle registration, title, tax, tags and home delivery. Our recommendation is a model that includes not excludes the traditional automotive dealerships. I call this the MarketSpace Hybrid Online Car Model, a model where the duties are split between what the traditional and online retailers do best. On Carvana and Vroom, you can purchase a car in approximately an hour. Add another four to five hours on to that if you want to purchase a car at a dealership. The online retailers are great at selling cars online with their techo-wizardry and stuff as Carvana’s television commercial proclaims. So let Carvana and Vroom do that part of the business while the traditional car dealerships do what they are experts at which is the operational and logistics side of the business. Like I said before, when was the last time you purchase from a traditional dealership and had an issue with your registration, title, tag or taxes? The business model is simple, the online retailers will allow for the traditional dealers to have access to their platforms for a fee of course or a share of the revenues generated from the sale of the car or whichever one the parties agree upon. The fee is to compensate the online retailer for using their software which is valuable to the traditional car dealer because it makes the car buying process less burdensome and time consuming for the customer. After the car is sold, the traditional car dealer will jump in to action and complete the registration, title, tax and tag work and arrange to have the car delivered to the customer. The service would also work in reverse where the online retailer can list cars for sale on the dealership’s website for a fee. The process would be exactly the same where the customer would be processed online and the traditional dealership would earn a fee for the completion of the after the sale paperwork. In this model, both car dealers benefit, the online car dealerships like Carvana and Vroom now benefit from the operational and logistics expertise, not to mention a larger inventory of cars that customers can select from and most importantly a fee per car and a lower Customer Acquisition Cost (CAC). Remember that it’s the high CAC per car ($25,000 per car for Carvana) that is the reason the online retailers like Carvana and Vroom are bleeding cash. The traditional retailer benefits from the national footprint of the online retailer but without the expense, a fee per car for their operations services and most importantly a much better experience for customers. Could you imagine purchasing from a traditional dealership in an hour or less and never being told, let me talk to my sales manager? For those pundits that say what about the servicing of the vehicles? How do the traditional car dealerships service the out of state cars? Well, my recommendation would be that the traditional car dealers only upload cars that have been on their lot past 90 days. In the car business they call this a car dealership’s 90-day inventory. Cars on this list start costing the dealership interest fees from their lender. These cars are the ones that are bound for auction anyway, where the dealership will receive the wholesale value or less than what he has purchased the car for, basically it amounts to a loss on the car. In addition, the dealership will not receive any servicing revenues in this auction scenario. In the MarketSpace Hybrid Online Car Model, the traditional car dealership can sell the car at retail price and even after paying a fee to the online car dealership come out with a profit oppose to sending the car to auction and sustaining a loss. Many will also allude to the fact that this way will never work or why haven’t anyone done this before? Well what if I tell you that it’s already working at this present moment. With a car company that both a traditional and online dealership, CarMax. If you look at CarMax, they started out as a traditional auto dealership and now they have embraced the online model where they like Carvana and Vroom will deliver your vehicle directly to your doorstep. We never see CarMax in the news about logistics and operational issues. That’s because, like other traditional dealers, they have mastered the operational and logistics part of the business. That’s because like the other traditional dealerships, over the past 30 years CarMax have mastered art the non-customer facing side of there business on a national scale. CarMax read the tea leaves and quickly added an online portal that allows the customer who want to purchase a car online to easily purchase their car from their existing inventory. The customer also has the option of coming to the dealership and purchasing their car the traditional way as well. At the very least, traditional dealerships should follow CarMax’s lead and allow the customers who want to purchase online to do just that by either building an online portal or partnering with a third party application such as MarketSpace USA, a software company that helps car dealerships make the transition from a traditional to an online or hybrid car buying model. a. This is sorely needed as 49% of car purchasers prefer to purchase online oppose to going to a dealership and less than 10% of dealerships have the capacity to provide an online car buying platform.
By Kasper E. Mingo
Mr. Mingo is the Co-Founder and CEO of MarketSpace USA, a software company that helps car dealerships make the transition from a traditional to an online or hybrid car buying model.