OutRunning Holding Costs
BY: Justin M. Osburn
Like it or not, the independent retail dealer is selling a depreciating asset. We all know the value of inventory decreases, and at times, it can decrease rapidly. In the Certified Master Dealer training (think Dealer Academy for the independent dealer), one of the operational concepts we work through is holding cost. How much does it cost you to hold on to your inventory? Do you know what holding costs are and/or what your holding costs are? Do you know how to calculate those holding costs?
You may think holding costs are simply the sum of your floorpan fees and expenses. However this is just one expense line related to inventory. Holding costs actually account for the expenses you incur to be open for business, and divides that down by your inventory.
This formula provides you with a hard number how much it costs per vehicle, per selling day in inventory to operate your dealership. Here is how holding costs are calculated.
First, most of your four main expense categories together for a given month in the used vehicle department. The four main expense categories are:
- Variable or Direct Expense – (we are not using all of this expense section in the calculation)
If you have a fixed operations department (service) and the used car department and the service department are segregated on your financials, you would only include the expenses from the used vehicle department. If you do not separate fixed operations expenses, then you would just use your operation’s total expenses for the month.
These four expense categories should be easy to find on your monthly profit and loss statement. If they are not easy to find on your profit and loss statement, consider organizing your financial statements.
To calculate holding expense, use all UCD department expenses except certain Variable expenses. Some variable expense you only incur when you sell and deliver a vehicle. Examples of items you exclude in holding cost calculations include Sales Commissions, Policy Expense or Goodwill and delivery expense. Common items that ARE included (for many dealers’ variable expenses) and used in holding costs and expenses unrelated to a vehicle sale include, Transportation & Freight, Used Vehicle Maintenance, etc.
Now add up the expenses for the month subtracting unrelated variable expenses. Next, divide that number by the total vehicles in inventory.
$95,000.00 = Total Monthly Operational Expenses:
$12,536.00 = Subtract Variable Expenses unrelated
$82,464.00 = Sub Total
100 = Divided by Total Inventory in stock
$824.64 = Monthly Holding Cost per Vehicle
26 = Divided by # of selling days in a month
$31.71 = This is your daily holding cost per vehicle, per day.
In this example, you can see this dealer had Total Operational Expenses of $95,000.00. When you subtract out the unrelated variable expenses of $12,536.00 the result is $82,464.00 in operational expenses associated with operating your dealership. This includes your rent, insurance, payroll, light bill, pens, paper and the rest.
You will pay those expenses regardless if you sell 1 or 100 vehicles to “be in business”. By dividing that number by the units in inventory, you are seeing all of your “Holding Expenses” associated with each vehicle in inventory. The dealer in this illustration has 100 vehicles, so each vehicle represents $824.64 in associated expense to keep the lights on and the doors open. By dividing that number down by 26 selling days, we can see the average vehicle on this example dealer’s lot is $31.71 per day per vehicle.
With this information, you can also calculate how long you can hold a vehicle in stock. For example, if you divide your front-end gross profit average for the month by daily holding costs, the result is the maximum days to hold a vehicle in stock.
$1,425 divided by $31.71 equals = 45 days. You would not want to hold vehicles on an average of 46 days or more.
This is a great exercise to consider your inventory levels against your operational expense. If you have any specific questions, feel free to email me at email@example.com