Tuesday, February 24, 2009

Quarterly Mega-Blog: Where Are We Headed? or The Winter of Our Discontent

“…yeah, we need to make sweeping budget and staffing cuts across the board, across every division. OK? Any questions? What about small car? I said every division. But the Small Car Platform is the only platform selling right now, really, should we cut here, too? Yes. It just wouldn’t be fair to the rest of the organization.” Executive staff meeting excerpt.

Great leadership or incredible insanity? We will get back to this.

Barack, the media, and just about everybody is doing a great job telling us how bad things are, … and are going to get. Belt-tightening is a nice way of saying slashing costs and firing people. It is difficult to think straight in this recession. Our industry does fairly irrational things with a sense of gold plated certainty (I am restraining myself from calling this “stupid”). The small cars segment was the big seller in 2008. Now we hear a lot about a 10-11MM unit year in 2009 (vs. 13MM and change in 2008, and plus 16MM in 2007.) I suspect our industry CEOs are fairly smart about what segments not to cut back on. For example, we will not see peanut butter production cuts that will hit small car the same as large car. Small car makes money (sometimes), large car loses money (now, all the time). Large car gets hacked, and small car survives much less damaged. This actually makes sense to me. I get it: cut things that don’t make money and don’t represent the brand as well, but protect the money makers and brand builders. Like Honda.

The birth of most vehicle ownerships starts with a miserable 45-minute sales process that resembles a C-section. The remainder of the ownership relationship is handled by the parts and service departments at dealers that are, in turn, serviced by the aftersales divisions of the OEMs. For car and light truck OEMs, most of 2008’s positive operating cash flow came from small car sales, and service-parts. Few rolled everything up and made a profit. Now “belt-tightening” and cost slashing is everywhere. Why do these brilliant CEOs have this gold-plated certainty that they should peanut butter service-parts with cuts (the only consistent profit center they have ever had) while nurturing small car (that they cursed in the 1980s and 1990s)? I don’t get it.

Maybe it’s just me. OK, no more rambling.

So, how is the market shaping up for 2009? Let’s take a peek at the seven industry segments we track: Agriculture, Construction Equipment, Heavy Truck, Independent Aftermarket, European cars & trucks, Asian cars & trucks, and Domestic cars & trucks. We developed a simple scorecard for this that has 21 motor vehicle industry companies grouped into 7 segments, and assigns each company to various “quintiles” for each of: (a) common stock price change during past year, (b) stock price change during past month, (c) parts sales change estimate for 2008 vs. 2007. We used stock price movements under the theory that the markets, dominated by big & smart institutional investors, are somewhat efficient. We ranked the 7 segments by simply averaging the available quintiles scores. As a benchmark, the Dow Jones Industrial Average would receive an average quintile score of 3.98, putting it in 6th place. This means that 5 of our industry segments outperformed the Dow. Our quintile scoring methodology is not perfect, but it tells a story that has some sense to it. You will notice that there are rows of filled in circles inside the boxes below. Each circle represents the results for one of the 21 unidentified companies in the sample.

#1: Heavy Truck tops our segment list, pulled all the way there by stock price movement. Given the beating this segment took last year, this was initially surprising. But, on close inspection, not really because of fairly strong segment “tailwinds.” Foremost among these tailwinds is the military replacement of Humvees with a long range Joint Vehicle Tactical (JLTV) program: Navistar, Force Protection, BAE Systems, and others are participating in the bidding process. Already deployed in Iraq are MRAPs (Mine Resistant Ambush Protected vehicles). These are heavy-duty “parts bin” vehicles. For example, Force Protection relies heavily on Mack truck components, and Navistar’s MRAP leverages their heavy truck components. The MRAPs have very different use profiles in the field vs. the Humvees. When an improvised explosive device (IED) hits a Humvee, it destroys it. In contrast, there are some MRAPs in Iraq that have over 1,000 IED hits and are still operational. It keeps troops alive and gets back in operation by dipping into the parts bin. Everybody in the military knows that 63% of all military deaths in Iraq have been caused by IEDs. Terrorists know what works; so does the military. So, even with action in Iraq quieting down, the IEDs made obsolete a lot of military hardware that must be replaced. Other good news? Diesel prices have been falling precipitously, and this might slow down the swing to intermodal from pure over-the-road truck – though some think just the opposite because of pricing and modal switching momentum. Also, 2010 emission standards will act to sell more trucks in 2009, though many industry insiders are skeptical that this will have much of an effect on sales in this recessionary economy. It is all about “the recession” – the average age of Class-8 vehicles on the road in 2009 will hit 6.4 years, leading one to believe that there is a real need for replacements … if buyer confidence returns. Finally there is the stimulus package; $53 billion in infrastructure projects will sell some trucks … very late in 2009. Counterbalancing these “tailwinds” are several “headwinds.” First off is the sheer drop in goods-flow due to lower recessionary consumption and manufacturing activity. Furthermore, the global credit crunch will take a bite out of Class-8 truck sales and force more dealers out of business. The market’s large institutional investors see all this, and have ravaged this segment less than the other 6 segments. The market sees the global military application and the need for massive replacements. It understands that selling parts to repair damaged vehicles is a lot more profitable than replacing destroyed vehicles (that have significant stockpiles back home). It understands that these same economics work on delayed purchases due to the lack of credit. The market understands that diesel prices trigger modal switching, and that US rail prices are already the lowest in the world (low cost and at fairly low levels of service). The “long shot” possibility is that Congress could roll out a wrapped-in-green “scrappage incentive” that could help motor vehicle sales in every segment. This might make more sense than some of the other bailout strategies. The market knows that the traditionally heavy cyclicality of this industry segment has made it scrappy and innovative. Innovative? Navistar just launched “PartSmart” – a separate private label “value line” of parts that costs up to 20% less than genuine. This is being “scrappy.” Looking at this all together leads me to believe that HT will stall on vehicle growth, but have an up-year in the sales of aftermarket parts – call it 2% - 4%. 2010 looks like a winner. That’s what the market sees.

#2: Ag comes in at #2 in the winter segment roundup. Most of 2008 was a good year for crop harvests and prices, and parts consumption. This is a segment that has had strong tail winds for the past several years, but now seems to be adrift. First, the tailwinds. A growing world population needs food, and this is good for farming. In terms of the big volume food crops, we like to think of total acres planted and harvested as an indicator for parts need. Planting and harvesting causes wear, and wear causes parts demand. Overall, 2008 was a very good year. However, recent food commodity price deflation has caused some concern in the stock market. With fairly recent declining prices to farmers, 2009 plantings and harvests could go down. This would mean declining whole-goods equipment purchases. The new-Washington is not as enamored with ethanol production from corn, because of the bad rap we get from the world food markets and from the economic suitability of this fuel substitute. As a result of this, and more, corn plantings and harvests were significantly down in 2008. The credit crisis will certainly take a bite out of whole goods sales on the high-end stuff. The strengthening dollar will make US exports of food and machinery less attractive. Golfing is down as a sport, and this will act to erode the high-end grounds care equipment over time. Recessionary cut-backs will act to contract the do-it-for-me lawn care market, but will increase the do-it-yourself market and boost the low-end of this machinery market. Overall, the whole goods side of this industry will inevitably contract in 2009. However, the parts market should look OK. I suspect the stock market reaction to this segment over the past month reflects all this – it sees 4Q 2008 commodity price deflation and the underlying econometrics, and is not happy. The big picture on this leads me to believe that parts sales will not top 2008 and will struggle to come in dead even to 2008 in 2009 (which was a wonderful year for Ag parts).

#3: European auto importers come in at #3 through consistent performance. The stock market is not as worried about these companies and there are no fears of bankruptcy. To be honest, year-ago European OE stock prices were absent the hype of the Asian OEMs and absent the gloom of the domestics. Outside of Volvo, the Europeans, as a group, did much better with vehicle sales than any other sub-group. European import parts sales were quite good in 2008 despite a harsh vehicle sales environment. Lower units in operation certainly helps here by limiting the field of IAM competition. But, that does not really explain what’s going on. These OEMs have protected their brands consistently over time and are focused on older-money market niches. So, the brand means something, and this “something” is consistently reinforced. The European importers seem to understand the ownership experience better than many other OEMs do, and have been investing here for a longer period of time. Telematics, service levels, service retention – you see more work in these areas than at other OEMs. So, what about 2009? The Europeans will continue to market service quality and build customer service loyalty. For vehicles, we will see some market erosion, but in parts we expect these OEMs to more than hold their own – 2009 vs. 2008 up 2% - 3%.

Fourth place is the #4 Independent Aftermarket (IAM) where we track 6 publicly traded companies. Their mid-pack performance is curious, since they do not have any of the same issues as the OEMs with declining, or jeopardized, whole goods sales. These companies are all about service-parts. Pep Boys had sales declines in 2008 (of 4.7%) vs. 2007, and the stock market punished them for this. The others experienced sales increases in the 2% - 3% range (or, had apples and oranges top lines like O’Reillys acquisition of CSK and LKQ’s acquisition of Keystone). Even with modest sales increases in 2008, the stock market likes LKQ and AutoZone. It sees LKQ aggressively going after the collision parts segment and increasing share through a “previously owned” genuine offering. This rough recessionary economy will bring LKQ even closer to the insurance companies due to obvious economic synergies. AutoZone is the dominant player in do-it-yourself (DIY) and has its gun sights focused on the do-it-for-me (DIFM) market. Zone is remarkably well run, while the perennially sick Pep Boys is vulnerable for further displacement. Also, there is the obvious Wal-Mart Effect recessionary trend of consumers moving to less expensive offerings, which means away from ill-perceived high cost dealers to ill-perceived low cost independent repair facilities. The overall mixed signals in stock market prices reflect a bunch of headwinds. Folks are driving less, even with much lower fuel prices – this is shrinking the market. Fewer miles means fewer repair incidences and fewer collisions. The collapse of the new vehicle market means that there is more dealer service bay capacity available and a greater focus on dealer fixed operations. So, what about 2009? This is an industry segment that is not terribly introspective. They think the OEM genuine purveyors are not terribly smart, and tend not to pay close attention to them. They like to hunt in their own backyards and are very sensitive to what the market thinks of them. They will stealthily take price in 2009 to get their top-line imperatives and show growth, but most of the action will be a feeding frenzy internal to this segment. Watch out for LKQ.
#5: Construction Equipment comes in 5th for all the reasons we hear about in the news every day. There are literally thousands of charts that can be used to show the “headwinds” moving against this segment: declining house prices, glut of housing inventory, tight borrowing, squeezed capital spending, huge job losses, China recession, low oil prices … the list goes on and on. The now-passed Obama stimulus bill has billions of dollars allocated to capital projects, but the stock market is not convinced that this will make much of a difference in whole goods sales in 2009as evidenced by Cat’s post inauguration stock prices. The global post-October 2008 banking meltdown hit very hard and all of a sudden. Commodity price/volume deflation tied to oil prices and/or the recession will negatively impact mining operations. And, the housing construction meltdown will adversely impact the small stuff. Pretty much all headwinds. Tailwinds? This segment will have to feed off the stimulus plan and compete with the plethora of highly mobile used equipment in the global markets. 2008 parts sales were generally up, but under much friendlier market conditions. How will 2009 shake out for service parts? My guess is that it will be difficult simply because machine hours will be significantly down across the board. This is a tough one. The 2009 focus in this sector will to become more competitive and efficient in things like labor productivity, inventory management, terms and conditions, more comprehensive and more economically compelling fleet management, selling 3PL services (Cat), and pricing.
#6: Asians mostly reflects stock price losses on the Tokyo stock exchange as giants are being slain by negative earnings. We had trouble with Hyundai’s stock prices, so we did not include them in this group – they would have improved this score a tad (the conference edition will correct this). To a certain extent the kingly Asian car companies had, for decades, busted the myth that the automobile industry was hopelessly cyclical, moving from boom to bust to boom. With Toyota’s announcement of its first operating loss, that king was pronounced dead, and the stock market reacted. The 3 million unit contraction of the 2008 auto market could not accommodate the year-over-year volume increases even after market share gains. Volume decreases coupled with significantly increased incentive spending added up to bad news. Parts sales stalled or did not meet plan. Honda and Subaru emerged as winners in this environment (and are not in my composite). What about 2009? There are some tailwinds - many of the Asians have issues with tight dealer service bay capacity and customer service satisfaction. The only other good news is the bad winter. Snow and icing conditions in the Northeast and Central states are much worse than in 2008, and this will result in increased demand for collision parts. But the headwinds are cyclonic. In the past, guys like David Halberstam and Tom Peters were linked with critiques that US companies are way too sensitive to quarterly financial results – look at Toyota and their long term strategic focus was a common sound-byte of business wisdom. Well, that king is dead too. Tokyo, welcome to Detroit! The Asians have been taking out their peanut butter spreaders and making budget cuts in their aftersales divisions. Typically “lean & mean fighting machine” budgets and overhead have become anemic where the prevailing focus is on operations, not reform and innovation. If the market is between 10 – 11 million units, 2009 will be worse, sales-wise, than 2008.

#7: Domestics come in last due to horrific stock prices and disappointing sales trends. You’d need a D9 Cat to sort through the bad news here. So, what’s the good news? The good news is a decade-long legacy of reform and improvement. For the past 10 years, Detroit has been the innovator in supply chain thinking, terms and conditions re-wiring, Telematics, organizational structure, supplier management, pricing, and IT development. Although the domestics have melted steadily over the past several years, they have held on to their brain trust and thought leaders. The bad news is that 2009 will be even more of a struggle than 2008. Down 2%.

What’s the point of all this? Lots:
  • For Heavy Truck, they’ve been down so long everything looks up to them. The survivors are efficient and scrappy. For decades they have been looking for new markets and fighting hard to participate in the worst possible market conditions. When Congress talks about what they want to see in industry evolution for Detroit, they say “Toyota”, but really mean “Navistar.”
  • Ag has seen a rather abrupt change in their tea leaves that will cause them to curtail investment and innovation. On August 30, 1960, to introduce the new tractors to all of its dealers in a single day, Deere chartered planes to fly more than 5,000 people to Dallas. The day would mark the release of a line of farm tractors that would soon evolve into the standard all other farm tractors would be measured by. The industry needs this again, but with more a focus on technology, and “market”. They can leverage experience from the Europeans and domestics.
  • The Europeans seem to be focused on brand building, share defense and capture, and step-by-step strategic improvement. Given the economics and service impacts of service-parts, this should be a no-brainer to everybody reading this blog.
  • Don’t worry too much about the IAM in 2009. They are die-hard cannibals and will be feasting on family flesh for most of the year. Except LKQ.
  • Construction equipment? There is a virtual crimson tide of recessionary cutbacks here that is inescapable. They need to be more heavy truck-like (scrappy), European (steady brand-building), and domestic (process re-engineering) to stay afloat in 2009-2010.

  • Asians? Re-read Halberstam and don’t follow Detroit’s lead in how to survive a bad quarter, half, or even year.
  • Domestics? Be nice to Obama.
By the way, where did last year's loss of two million annual new vehicle sales go? Used. (“Edmunds.com calculated that roughly 511,000 used-vehicle sales in the last three months would normally have been new sales if the economy was healthy … a seasonally adjusted annual rate of more than 2 million units, which would equate to over 15 percent of new-vehicle sales” AutoReMarketing.com, Consumers Changing Focus from New to Used, February 19, 2009). Unfortunately, used buyers are exponentially less loyal to dealers for maintenance and repairs. You guys have never made much of an effort to capture this service business, but somebody is going to figure out how to do this. You can’t do this with a peanut butter spreader, sharing the pain, or being “fair.” That’s not great leadership; it’s being incredibly insane.

Tuesday, February 17, 2009

How to Save a Fistful of Money - Stephan Brackertz

Everybody is looking for ways to save money these days. But where can we find large savings opportunities? Try your service-parts supply chain. Specifically, look at transportation.

Transportation represents a sizeable cost category, about 40%-50% of our supply chain costs. It is also often home to poor cost management. Our NASPC supply chain cost benchmarks shows that the highest cost companies pay up to three times as much for transport as the lowest cost companies. And this is not just a function of business model. Carlisle’s transport rate benchmarking shows that shipment cost per kilogram varies by a factor of 150% – 300% for the same weight and same route. Hmmm.

That is a stupefying result, because economists would tell us that “perfect competition” should characterize this industry (transportation is a commodity, there are many competitors, companies are efficient, and profits for transport companies should be low). This is puzzling considering we hear stories about exploited Eastern European truckers driving 20 hour shifts and poorly maintained trucks that amount to driving time-bombs. How is it possible then that we are paying too much for transport and transport companies are getting fat?

The answer lies in industry structure and transport management.

On one hand, the industry players are smart. In the 70s and 80s, transportation consolidated to create 5 big transport and courier companies worldwide. They told us that global reach provides one-stop shopping and that size means lower costs. We (and other industries) built these companies up to a powerful oligopoly with strong negotiating power. Heavy equipment companies have surely heard the argument that they need to pay more due to their “smaller size”.

The transport oligopoly is also smart. Rather than competing strongly on price, they have created an environment of intransparency that makes it virtually impossible to compare prices – almost as bad as the cell phone industry 1 . In the jungle of cell phone plans it is close to impossible to compare prices. Transport companies have created a myriad of different pricing schedules including variables like geography, weight, order type, and delivery speed. They quote us on rate per kg, per load meter, per cubic meter, and per drop. Of course, when transport companies calculate these “simple” quotes they add a safety cushion in order to maintain these rates at least for a while. Our service-parts are riding on that comfortable safety cushion every day.

On the other hand, we OEMs are at fault for not performing transportation management as forcefully as we should have. We have not been monitoring and measuring as much as we should. If we outsourced transport, we have “unlearned” our competencies over time. We do not ensure that transport companies have aligned incentives. If transport companies are paid on a formula of “per X shipped”, why would they want to reduce X? The simplistic method of having the carrier quote the rate (per kg, per drop) also makes us do stupid things rather than thinking about the true economic cost of transportation. For example, if we are quoted per kg, we try to max out on the other variables that are not part of the formula we are billed on (distance, drops, frequency). Transport companies know this and in defense add an even greater safety cushion to their rates.

Well then, how can we save costs? We have both an operational and a strategic lever. Here’s what works…

On the operative side we can:
  • Perform real carrier management: Set-up a dedicated group – hire crack transport analysts from the industry that are willing to rock the boat.
  • Put metrics in place: Start really measuring transport carrier performance (on-time delivery, transport damage, false invoices).
  • Perform freight audits: Audit what you are being charged compared to what the carrier negotiated rates say. You may be surprised by what you find.
  • Figure out your true costs: Use transport simulation tools to identify what you should be paying.
  • Renegotiate rates: Negotiate carrier rates down. Use benchmark data to back up your case. Use brute force where needed.
  • Align incentives: Renegotiate incentives with carriers so that there is an incentive for them to reduce costs (e.g. share the savings).
  • Tell the carrier what to do: OEMs have to do the in-house analysis of savings potentials and tell the carrier what to do (there can be incredible savings from simply correcting poor consolidation).
  • Introduce competition: If you have only one transport company, introduce a hungry underdog in a market/region.
  • Go to open book: Go to open book accounting with cost plus compensation, or set up a transport joint venture giving you visibility to true costs.
  • Review your transport mode policies: For example, are you using airfreight for referrals or sheet metal where it is not necessary?
  • Leverage synergies between inbound production volume and outbound service-parts: Understand if you can use the return haul capacity of our outbound dealer transportation to transport inbound volume from suppliers.
On the strategic side we can:
  • Question your transport service level: Work backwards from end-customer and dealer needs to service level implications.
  • Question your order types and associated terms & conditions: Use conjoint research and dealer value proposition simulation to design new terms.
  • Question one-size-fits-all: Consider segmenting service level by customer, part criticality, by order type, by country.
  • Simulate the future: Use simulation to reach a more holistic optimization of transportation (e.g. strategic stock deployment, inventory levels, RIM).
  • For heavy equipment: Consider rolling transport cost back into the order terms of the parts. Centrally administer transport for all distributors / dealers (global vs. local optimization)

In truth, however, we don’t like touching the supply chain too much. We like status-quo. We hesitate. Our supply chains are big and complex, there are risks in changing. There will be objections such as “never touch a running system.”
However, with a good plan, even the biggest task seems possible. An example:

The Frankfurt airport is one of the world’s largest airports and it is operating at its capacity limit. In 2006 it recognized a need to renovate one of its landing strips. The only way to do it without crippling the airport was to renovate piece-by-piece during the night. Each night the last plane would land at 21:00. Then, a construction crew of 70 vehicles tore apart 2,200 square meters of tarmac, cleared it out, and repaved to airport standards – all in time for the first flight to land again at 06:00 the next morning. As if this wasn’t challenging enough, the newly paved surface also had to have cooled to 70 degrees Celsius to allow flights to land. The nightly 9-hour working window only had a tolerance of about 10-15 minutes. Over a period of 38 nights, 90,000 square meters of tarmac were renovated. The operation was a success.

Maybe we are being too conservative. Maybe there are ways to change the supply chain piecewise? With a pilot project, or bit-by-bit… This particularly seems to be possible for transportation management.

1 Harvard Business Review June 2007: Companies And The Customers Who Hate Them

Wednesday, February 11, 2009

”The Road to Hell is Paved with Good Intentions” - Samuel Frank

The last several of these blogs have looked at why customer satisfaction measures may not be good predictors of market success. Last week, we went down Lover’s Lane to explain how building the brand may be more important than just increasing an easy-to-measure service score.

Indulge us for at least one more week (actually next week may be on a similar topic – then we promise to get back to supply chain issues).

How good intentions may – as a result of unintended consequences – be leading the industry inadvertently down the road to hell!

Let’s talk about survey coaching. We all know it happens. Most OEs have taken aggressive action to try to control survey coaching, but we also know that it still happens. I have very recent experience.

I decided I would turn in my current leased vehicle early, both to do my patriotic duty by spending money and to get that hot new truck that I coveted. I actually had a pretty good sales experience and everything started out innocently enough. I had done my research – going in with money factors, depreciation, and dealer cash information in hand, and I was ready to complete the sale quickly. The salesman recognized an informed (and willing) consumer and closed the sale in 35 minutes by effectively getting out of the way. Needless to say, I was very pleased with the experience and the dealership was guaranteed a “completely satisfied” sales satisfaction evaluation.

Well, almost. . .

As soon as we closed the sale, the salesperson let me know that I would be asked to evaluate the dealership. “Fair enough”, I thought – this guy was great!! At this point though, he started pressuring me to give him all “5s”. When I asked what “5” meant, it became apparent that the salesman wasn’t concerned about that. All I needed to know was that I was supposed to give him all 5s. This pressure was unpleasant, but I quickly forgot about it as soon as I fired up my new V8.

Then the calls started. . .

Over the next week, I started receiving calls from the dealership about my evaluation. Had I received the evaluation? Had I given them all “5s”? One dealer representative actually told me that if I wasn’t going to give them all “5s,” I shouldn’t even send in the evaluation. I was floored! Then I received a call from the salesman. After a quick inquiry about my new truck, he also reiterated that I should only submit the evaluation if it contained all “5s”. I started expecting to see a horse’s head in the back seat of my truck if I didn’t “do the right thing”.

At this point, the dealer had taken a great experience and, in the name of customer satisfaction, turned it into a negative one. In my mind (and likely other customers) this experience tarnished both the dealer brand and the vehicle brand. Certainly the vehicle manufacturer was not blameless in this. After all, they are the ones that placed incentives and rewards on dealers that drive them to survey-management. . . all in the name of customer satisfaction!

How did we get here? How did we go from good intentions (the desire to measure customer satisfaction so that we could improve customer treatment) to the road to hell (creating a system that makes customer treatment worse when we try to measure it)?

Good Intentions
It all started out reasonably. When J.D. Power started measuring customer satisfaction on a syndicated basis there were many good sides to it. It put the focus on improving the customer experience, and because it was national and random it could not be gamed. Any one dealer had little to gain from coaching since they did not know whether their customers would be surveyed.

The weakness was that this approach did not provide OEs with the level of detail needed to take focused actions to improve. They needed more data and more numbers for that. So in an effort to improve (good intentions), OEs started surveying their own customers and (in good capitalist fashion) instituted rewards to individual dealers for good customer satisfaction performance.

Road to Hell
It was those rewards that pushed us down the road to hell – by giving rise to coaching. The very act of trying to more finitely measure customer satisfaction was giving rise to actions that directly changed what we were trying to measure (as predicted by the Hawthorne Effect).

So, in fact, the way we chose to measure satisfaction actually changed the process and the outcome. This may also lead us back to that conundrum we have been discussing for the past several weeks – why don’t customer satisfaction results better predict performance?

Stay with me, I promise to get back to that point soon.

If you graduated from high school, you know about the Scientific Method. This means developing a hypothesis, testing that hypothesis with data and experiments, and evaluating if the data proves or disproves the hypothesis.

In this application, the hypothesis is “Better customer satisfaction should lead to improved business results.”

As we have seen though, the data does not prove out the hypothesis. There are two basic possibilities:
  1. The hypothesis is wrong

  2. The data we used is not reliable and, therefore, we cannot make inferences based on that data.

Almost certainly the hypothesis, if not wrong, is simplistic. As we discussed in the last blog, there are other factors that play important roles: past customer experience, product quality, product execution, customer expectations. These and more impact our customer experience and whether we return to a given brand.

However, it is almost as certain that the data we have is wrong! By creating an environment that incentivizes coaching, the measures we get back will not be accurate.

I don’t think that these insights are particularly unique. Many have commented on similar concerns. But if this is so, then why do we keep doing it? Why stick with something we know (as an industry) is flawed? It could be for the same reasons we keep doing other things that aren’t working: inertia (we have always done it), lack of a better alternative, or feeling we have to do something without a better idea of what to do.

So what is that better idea?

There are some things that would move us in the right direction:
  1. You want to change behavior? Change the incentive
    • Take the directly-related money or rewards out of the easily-gamed satisfaction scores.
    • Instead, continue to obtain survey results by making it part of the “required dealer package” in order to continue getting the most favored dealer benefits. You require your dealers to participate in RIM? Report their inventory? Well, now they also have to conduct the surveys. No longer is the reward tied to the surveys per se, but the entire package of requirements.
    • The biggie – reward dealers for “survey response rate”, not “survey results”.
  2. But don’t we care about results?
    • Of course we do, but we use the results to help dealers improve their performances.
    • Many of us compensate dealers for using a consultant to conduct an inventory audit. We pay for the audit, not the results, assuming that, of course, the dealer will want to improve their performance. Why should this be any different?
  3. Won’t some of the dealers still try to game the system?
    • We addressed this in an earlier blog. The survey should specifically ask the respondent if they’ve been coached in any way. If greater than 20% of respondents for a given dealer say “yes”, exclude all surveys. Remember, exclusion of surveys means the dealer doesn’t meet their base package of requirements, which is tied to financial incentives.
  4. Redesign the survey – select better metrics to measure dealer performance.
    • Customer satisfaction has long been recognized as an interim measure, not the final outcome we want. What we really want is customers that bring their business and refer other business back to us.
    • Measuring service loyalty to dealers and vehicle repurchase loyalty directly is the way to do this. Instead of paying for high scores in these areas, use the results of these surveys to remediate and train dealers.

Tuesday, February 3, 2009

”It Hurts To Be In Love” - Revisited
- Thomas Neumann

*** This blog investigates the link between perceptions of product quality and service retention (i.e. the owner’s service behavior): we believe that customer service satisfaction only partially explains the owner’s service behavior, while brand and product quality may be more important determinants than previously thought. While we are using an example from the automotive sphere (Toyota), the lessons learned equally apply to all segments of our industry, from heavy trucks and machinery to golf carts and other recreational vehicles. ***

Last week, David posed an interesting question: “How can Toyota consistently be mid-pack in CSI performance and still be the richest car company in the market with enviable service retention rates?” Seems like a contradiction – but maybe it’s not.

It seems like a contradiction, because the “rational” process would seem to be: you buy a vehicle that you think is high quality, then you go to the dealer for (what you hope will be) a high quality service experience. If that service experience is high quality then you would (presumably) be more inclined to both return for service (service retention) and buy the product again (vehicle retention).

But in Toyota’s case, customers buy a high quality product, then they get a low quality service experience – yet they STILL both return for service and buy the product again! Seems irrational. Why do they do it?

I would argue that CSI does not tell the whole story here, and the missing part of the story comes back to David’s “it hurts to be in love” analogy. Or maybe, more appropriately – “love is blind.”

If you are in love, you will tend to overlook those minor flaws that we all have. There is a huge “halo effect” based on that love. We will overlook the bad clothes, questionable financial state, crazy mother. Who cares – I’m in LOVE.

Toyota owners (and owners of other strong brands, luxury and non-luxury – Honda, Porsche, others) are in LOVE. They just know that they bought the best vehicle out there and that they are incredibly smart for having done so. Since they love their vehicle, they want to take it to the best service provider. Since they think they are so smart for buying the vehicle, they have to assume that the dealers will give good service. And when they don’t – it gets overlooked because of several reasons;
  1. Once again, the owner is in LOVE, so they just do not see the faults – because of the overall halo that the high vehicle quality provides.

  2. Because the vehicles are high quality (and hence do not break down frequently) they don’t have to be subjected to that poor service experience very often. You can put up with that crazy mother as long as you don’t have to see her very often.

  3. No one wants to admit they made a mistake. The thinking is something along the lines of –“I bought this great car. So what if there are now more recalls than I thought. So what if some aspects of the dealer service are not great. If I admit those things, then maybe I did not make such a good decision in the first place. So I will just ignore those things.”
Of course we are oversimplifying. But I think this is a big part of it. Historically, Toyota dealers didn’t have to really focus on the aftersales business to make money. Their high quality vehicles sold well and it was easier to make the bucks in sales than in the more difficult aftersales area. If you don’t focus on something and don’t put your heart into it and you don’t have to anyway, are you likely to be good at it? Not very likely.

So, why are Toyota customers willing to overlook a not-so-good dealer service experience? Why don’t they defect in droves to the independent aftermarket? The theory of “Cognitive Dissonance” explains this seemingly irrational behavior. (After all, isn’t all true love irrational?)

The theory states that people strive for consistency and harmony in how they view themselves and the world and try to avoid or reduce “dissonance” (i.e. conflicting views). Toyota owners love their “high quality” vehicle, but they have good reason to dislike the dealer that is supposedly most qualified to service it and that treats them poorly. There is a “dissonance” here and there are two alternatives to bring about harmony:
  • Start disliking your vehicle
  • Stop disliking your dealer
Given this choice, “Stop disliking your dealer” is much easier (you don’t even need to go as far as loving him). Maintenance visits are maybe once a quarter and if our vehicle is, in fact, high quality, then repairs occur even less frequently. Conversely, most of us pay our leases or loan installments every month and drive our vehicles every day – do we really want to admit to ourselves every day that we made a mistake in buying the vehicle we are sitting in? “Disliking your vehicle” is not an attractive option.

I would argue that “Stop disliking your dealer” is also much easier, because Toyota owners are not so much after the service “experience”, but after service “quality” - the quality of the work performed, consistent with what they value in their vehicle. Of all the things that vehicle owners dislike about the dealer, “lack of quality” is not one of them, and not accidentally Toyota CSI scores are relatively higher in the area of “service quality”. This may also be more perception than reality, but, again, very consistent with reducing dissonance. To use a different analogy: you don’t like standing in line in your favorite sandwich shop waiting for their renowned signature sub, but that’s not what you came for. There’s all that anger and frustration standing in line, but doesn’t the sandwich taste much better after such an ordeal?

In summary, it does simply not make sense for Toyota owners to buy a vehicle renowned for its high quality and have it serviced and repaired by a low quality provider. Thus, though they may have been treated poorly, Toyota owners are willing to overlook that fact and continue going to the dealer - because that’s where they get the service quality they want.

Getting complex isn’t it? Have a look at the diagram below. I think this illustrates the other factors that explain the supposed contradiction of high service retention despite poor service quality.

So, what can you do with this? The diagram above shows a route to success, but it is not an easy one:

“Build the brand: (Communicating) Quality is Job #1”: It really comes back to the holy grail of brand building. Create a strong brand, that is known for high quality, and you will reap the benefits not just in sales, but also in service and parts. Both manufacturer and dealer need to be on the same page here, communicating the same consistent message, from manufacturer media advertising to the customers’ introduction to the service department at the dealership. There are obvious quality advantages from using the dealer that is equipped with all the knowledge from the people who built the car. In turn, using the dealer allows the owner to better maintain the quality of his vehicle and to keep it longer at better resale values. Sound familiar? Yes, this is from Toyota’s playbook. Will this message resonate in today’s economic climate? No doubt!

“Sell the brand: rethink incentives”: Building the brand is essential, but it needs to be sold effectively. Not only do incentives hurt vehicle sales profits, they also convey a “low quality” brand image that can negatively impact service retention and profits from service and parts. So, incentives may cost you twice. Deals attract people that are focused on deals and whose repurchase loyalty is low. Why would they behave any differently when purchasing maintenance and repairs?

“Target the right segments”:
Few consumers don’t value quality, but some value quality more than others. One interesting segment could be the customers who buy pre-owned vehicles at the dealership. Clearly, these buyers have a choice about where to buy a used vehicle, but they came to the dealership because they value “peace of mind” and the quality level of a dealer-inspected used vehicle. A CPO-program can reinforce this message, and there are indications that the owners of certified pre-owned vehicles are even more loyal than the new vehicle buyer (who has no choice but the dealer and is attracted by deals) – and when they come back, it is for customer-pay, not for warranty work. Offering pre-owned maintenance plans and extended warranties should be standard fare.

“Build the relationship”:
“Love” is strong, but it needs to be nurtured as the initial “craziness” fades away and gives way (hopefully) to something deeper. Communication, as in a real relationship, is key to make the owner “care” about his vehicle. This can be the “touch of luxury” through the sales person calling the customer to follow-up. Not accidentally, luxury brands have higher service retention. To some degree, this is driven by the perception of higher vehicle quality, but the personal touch you receive as the owner of a luxury vehicle is also important. Communication can also be the owner event or the diagnostic report received from the vehicle’s telematics system. Telematics makes the vehicle “talk” to its owner and offers new opportunities. Be sure to keep the service on as a vehicle changes owners, either as part of a pre-owned package or as an attractively priced transferable extension plan. The diagnostics may well hit a nerve with a quality-conscious CPO-customer.

“Bust the price myth”: Building on what David said a few weeks back, I think the battle is really ultimately between (dealer) quality and (independent garage) price. While even incremental improvements in service retention will yield substantial profit increases for manufacturer and dealer, substantial improvements in service retention will not be possible without winning this battle. Yes, the dealer may, in fact, be price competitive even today while offering better quality, but myths are pretty resilient and perceptions driving the customer away from the dealer have been shaped over the past 100 years. Changes in those perceptions are likely to occur at the pace of tectonic shifts – manufacturers need to enter that battle today!

“Execute, execute, execute!”: Lastly, focus on execution - implementing the in-dealership programs that Jay and David talked about a few weeks back. If Toyota can have good service retention based mainly on a strong brand, think what a strong brand and good dealer service capabilities can do!