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Why Carvana and Vroom are Doomed to Fail and What Can Be Done to Fix the Problem:

Carvana and Vroom are on a collision course for failure. While I know this is a strong title, it’s true but not for the reason that many may think, including the experts on Wall Street who have played a role in making this possible, but more on that later in another article.

 

Carvana’s Acquisition Cost are Too Expensive

In 2018 a small software company had the opportunity to get up close 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 start-up’s CEO when he discovered the truth about Carvana’s business model. That Carvana’s business model was unsustainable in the long-run. After reviewing Carvana’s Securities and Exchange (SEC) 10-K statement, the CEO discovered that Carvana was paying an enormous cost for its success. It was costing Carvana too much money 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 meant they were losing $21,500 ($25,000-3,500) on every online car sale. So why does it cost Carvana so much to sell cars. There are several reasons for this, unlike traditional car dealerships, online dealerships like Carvana have to reach a national audience. The most efficient way to do this is through search engine companies like Google and television advertising. While these advertising platforms are quite effective for reaching an audience of millions, they’re 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 be worse, running television advertisements during major sports events like the Super Bowl cost millions for a 30-second advertisement. According to Carvana’s 2022 Securities and Exchange 10-K 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 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. For example, nearly 50% of a traditional car dealership’s revenue comes from their automotive servicing department. Online car companies such as Carvana and Vroom are not able to offset sales cost because neither of them have automotive servicing departments.

Carvana and Vroom’s Logistics and Operations Nightmare

The general public do not realize the complexity of operating a car dealership. To the public, the purchase of a car is going to the dealership, test driving a car and signing paperwork. Well that’s only the customer-facing part of the business. The car industry has earned 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 then go to a car dealership. While auto dealerships may not be known as the nicest group of people on the planet, there are some things they’re very good at doing. They are experts at the operational and logistics part of the 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 sees 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 vehicle acquisition, maintenance, transportation, registration, titling and taxes paid on all cars. It includes communication with the Department of Motor Vehicles (DMV) and other state regulatory agencies. What’s not known by the general public is that there are 17,968 new 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 purchase a car.

When was the last time you had a title, registration or taxes issue with a 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. Online dealers like Carvana and Vroom 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.  Well, you can see how this can become a recipe for disaster. Recently Carvana and Vroom have had huge trouble in the area of operations and logistics. 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. Carvana has also had problems with getting customers their titles in a timely fashion. Carvana’s licenses was recently temporarily suspended from some states like North Carolina because they failed to deliver their customer’s titles on time. Another Carvana customer, Derek Munhenke purchased a car from the online retailer and it took 11 months for Mr. Mundhenke to receive his vehicle title. In Mr. Munhenke’s case, Carvana’s negligence made it impossible for Mr. Mundhenke to legally drive his car even though 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 retailer Vroom also has many of the same operational problems that has plagued Carvana. Vroom’s license has recently been suspended in multiple states due to the inability to timely deliver customer vehicle titles. 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 vehicle title.

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 online retailers like Carvana and Vroom. Unfortunately, what is inevitable may be impossible without the right business model. As was mentioned above Carvana’s and Vroom’s online business model has been stretched to its breaking point due to lack of operational and logistics experience. And both companies have struggled to make a profit. Maybe what is needed is an adjustment to their current online business model.

A New Business Model Proposal

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. Our recommendation is a business model that includes not excludes the traditional automotive dealerships. A hybrid model where the duties are split between what the traditional and online retailers do best. On Carvana and Vroom,  a customer 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” as Carvana’s television commercial proclaims. So let Carvana and Vroom do that part of the business model while the traditional car dealerships do the operational and logistics side of the business model. When was the last time you purchase from a traditional car 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. After the car is sold, the traditional car dealer will 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. In this proposed hybrid model, both car dealers benefit, online car dealerships like Carvana and Vroom will benefit from the operational and logistics expertise 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.

Imagine A New Car Buying Experience

An online hybrid model is sorely needed as 49% or approximately 1.7 million car purchasers prefer to purchase online oppose to going to a dealership, unfortunately only 5% of dealerships have the capacity to provide an online car buying experience. 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 for over 90 days. Cars on the 90-day inventory 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 they have purchased the car for, many times it amounts to a loss on the car. In addition, the dealership will not receive any servicing revenues in this auction scenario. In the proposed hybrid online business model the traditional car dealership can sell the car at retail price rather than sending the car to auction and sustaining a possible loss. Many may say this proposed model will never work or why haven’t anyone done this before? Well, it actually already has been done, have you ever heard of CarMax?  If you look at CarMax, they started out as a traditional auto dealership and now they have embraced the online model. 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 become experts at the non-customer facing side of the car business. 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.

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.

 

 

 

 

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