Tesla Versus The Auto Franchising System, Part 6, Car Sellers’ Interests

Beyond consumers, other stakeholders in Tesla’s challenge to state franchise laws are the car sellers – car dealers, automakers, and Tesla. This is the second of a set of articles in this series examining what these stakeholders stand to gain or lose. See also the Introduction, Part One, Part Two, Part Three, Part Four, and Part Five.

If you search the news these days, there’s no shortage of stories showing car dealers on the defensive around the country, and to be sure, some are fighting negative perceptions as Tesla Motors seeks to sell factory direct.

But while Tesla says its intentions are harmless, dealers may be quoted on points refuting Tesla’s claim that quick-read stories simply are not covering with much depth – and this is the opinion of an attorney who otherwise supports Tesla and has advocated its cause.

One point is that dealers say what Tesla is asking for is not a level playing field, but favoritism for a company that’s already received special breaks.

It was observed by one close to the issues that many car dealers might also love to place an inexpensive-to-rent fashionable car boutique in an upscale mall like Tesla says it needs to, but they are prohibited by law from doing so.

Selim Bingol, General Motors’ communications and public policy head recently sent a letter on behalf of manufacturers’ interests to Ohio lawmakers saying Tesla’s push to sell without franchised dealers “is quite troubling.”

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“As a result, Tesla would gain a distinct competitive advantage by avoiding restrictions that all other auto manufacturers face in Ohio concerning establishing and relocating dealerships, servicing customers, allocating vehicles, pricing vehicles, the ownership and management of dealerships, and providing warranty services, among other things,” wrote Bingol.

Another point is that the way cars are sold today has evolved from consumer choices and all sorts of distribution methods tried in the early part of the 20th century. They are today upheld only after being fought over by manufacturers, dealers, other interests, and lawmakers. They are seen as not merely done at the behest of dealer groups seeking “protectionist” laws.

This series has covered some of these issues, and there are so many more nuances to this can of worms; the more one investigates, the more can be found showing issues are not so simple.

Is it about “democracy?” Sure. Free markets? Sure. Consumer choice? Sure. But there is more, and the pushback by dealers that may to some seem inexplicable is there for a reason even if has not been comprehensively covered to date.

Some say Tesla’s actions are benign, and this may prove 100-percent correct. Others say the ”disruptive” company could be as harmless as a little boy who contemplates a large ant colony, then dispassionately stirs their carefully constructed dwelling place and nesting area with a stick, and ponders how they all scurry.

Perhaps “benign” depends on whether one is a bystander with nothing to lose, and maybe something to gain, or whether, like the ants, they are the recipient having their world threatened?

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One anonymous source said Elon Musk said in personal communication he’d spend $1 billion seeing laws changed, and spoke of a motives that were not purely benign toward the U.S. dealer franchise system. Another spoke of “animus” perceived against dealers written in Tesla correspondence.

Often feelings expressed toward dealers – as suggested by Tesla – speak in so many words of archaic rules clutched by dinosaurs needing to evolve or die. There may be some truth to this, but the framing of the issues is more complex than a Marvel comic story of Tony Stark representing Good versus Evil, say those close to the issues.

One simple narrative could however be said: Tesla, as the popular favorite, offering hope and with no baggage or bad history to speak of, has readers seeing red over already ambivalently regarded interests viewed as standing in its way.

Some, after reading stories written on the subject, can be ready to point thumbs down to dealer rights, as it is unclear to some whether they ever deserved them.

“I’ve been legally driving since 1984. I have never ever, ever, ever, ever had even a remotely good experience in any dealer from buying a car to buying parts I could not get at a junk yard,” wrote NPR reader Jon Pope in response to a story posted April 10. “If this is even possibly the beginning to the end of dealers, good…. Why car companies don’t just sell direct is beyond me.”

 

It may have been beyond this commenter and others because the brief story, and others like it, perhaps in the interest of a quick read for the Internet, are omitting details while leaving open an insinuation that dealers may be merely crooked.

Another comment by thmogget, offered another view:

“’But what Tesla calls transparency, dealers call a threat to the free market,’” wrote the reader quoting the story. “If transparency is a threat, then honesty is a death sentence. What a bunch of criminals.”

 

Actually, there have been no reports of car dealer association leaders facing criminal charges in fighting for issues – issues they say are about businesses their dealers have invested millions in, and involve their livelihoods, and that of their families, employees, dependent businesses, communities, and local economies.

While some may see only “criminals,” Ohio lawmakers just cut a deal limiting Tesla to three stores, and it is not the only state attempting to stand firm.

And otherwise, Tesla took the deal in Ohio without suggesting it was negotiating with “criminals.”

“One could always hope for more, but I think that this gives us a sufficient base from which to grow and to advance electric vehicles in Ohio,” Diarmuid O’Connell, Tesla’s vice president of business development, told Bloomberg News.

But some may retort that car dealers are lobbying and buying off legislators. While contributions can be legally made, dollar amounts allegedly given in Texas last year were grossly overstated, and otherwise there has been no proof yet published of criminal activity despite the notion being reported as a truism.

It is also true, as Tesla observes, that the U.S. system is unique, but it is a legally created one. If change needs to happen, it will need to be legally done, and in the light of day, with all issues being considered by lawmakers being asked to do it.

A Fully Forthcoming Disruptor?

Last month Tesla CEO Elon Musk wrote that franchise laws used to be justified to protect dealers from overbearing manufacturers but are “now being twisted to an unjust purpose.”

Speaking of decades-old history, Musk said manufacturers saved themselves money by relying on third party investors to establish their local retail distribution networks.

“The franchisees then further invested a lot of their money and time in building up the dealerships,” wrote Musk. “That’s a fair deal and it should not be broken.”

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And then, citing how California and some other states see the issues, Musk offered his view on the current state of dealer franchise laws in other states.

“The intent was simply to prevent a fair and longstanding deal between an existing auto company and its dealers from being broken, not to prevent a new company that has no franchisees from selling directly to consumers,” he wrote. “In most states, the laws are reasonable and clear. In a handful of states, the laws were written in an overzealous or ambiguous manner.”

Actually, at least 32 states have some form of prohibition on manufacturers owning dealerships and the issues, say those knowledgeable of the law and economics of the business, are still quite current and not as Musk says.

‘Conveniently’ Ignored Point

According to Virginia attorney Mike Charapp, Musk’s argument runs roughshod over a host of other issues seen as still applicable by two-thirds of America’s states.

“That’s really a two part argument on franchise statutes, and Tesla wants to conveniently ignore the second part,” said Charapp.

“Many state statutes are not that way,” he said, referring to a second half of the law in which state policymakers have said manufacturers may not own their retail stores citing a public interest. In cases, he added, there may be certain exemptions for startups with little capital to own their stores on a short term basis.

“Point number two is basically the states have said, ‘We’ve looked at it and we don’t believe that a manufacturer controlling its own outlet is best for the consumers in the state for a variety of reasons,’” said Charapp of issues covered in greater detail in Part Three of this series. “Whether it’s adequately working for the warranty rights of the consumer, whether they’ll [the manufacturer] pick up and leave, whether it will help business development in the locality the best way possible. There are a variety of reasons for all that and Tesla basically wants to ignore that second part of it and just say, ‘Oh no, the only thing you should be looking at is whether you compete with your dealers.”

Directly Free Riding

Both Charapp and Ted Stockton, an economist for the Fontana Group in Tucson, Arizona, spoke on a number of concerns presently facing dealers.

The attorney and economist who separately work with dealers lent their voices to what other auto dealer association leaders around the country have been saying for the past few years as Tesla persists.

To be sure, auto dealers are concerned that they may lose out as reports typically focus upon, and none of them deny this. The question, they say, is whether their concerns are valid.

“I think that the threat is real of the erosion of franchise laws. There’s a fairly viable case,” said Stockton.

As Tesla has said, the future of transportation appears to be moving away from petroleum. Tesla says it’s battery powered, others speak of a mix including hybrids and fuel cell vehicles.

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Whatever it is, concerns are that if a “Tesla exception” is made, it could erode franchise laws so that automakers could decide to create their own nameplates based on precedents Tesla helped establish. A perfect time would be in the next several years, even as automakers are contemplating catching up to Tesla, or offering fuel cell vehicles.

A concern, said Stockton, is not only over for-now little Tesla, but the other automakers that last year sold 15.5 million vehicles compared to Tesla’s less than 19,000.

It would be hard to carve out an exception just for Tesla that could not be used later by a major automaker which decided to create a new brand just for its alternative energy technology, said Stockton. This could in turn threaten dealers which gave manufacturers their prosperity in the first place. And, said Stockton, other complications could follow as opportunistic manufacturers created new business units to do things along the lines of the Tesla way.

“It’s not as simple as cutting dealers out of the profits or leaving dealers on a ship where they’re left with the diminishing presence of their products and somebody else is picking up the new products,” said Stockton of a hypothetical new manufacturer-direct brand. “That would be one effect, but what you would see is that these manufacturers introducing new lines would be relying on their retail presence and their reputation that was created by the dealer network that was already in place. It would be directly free riding off their dealer body, and that would be appropriating the value of the investment.”

Stockton said, as Musk pointed out, manufacturers have saved themselves billions in not having to carry the costs and liabilities of their retail network. At the same time, they mandate a host of contractual obligations including sales quotas and “image programs.”

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To this day manufacturers stipulate expensive capital investments like specifically designed branded showrooms, parts and service centers, special tools, training, personnel. And these, Stockton said, from a business law perspective, have implications of a permanent relationship, not unlike a marriage.

The relationship with manufacturers is something dealers substantially invest in under contract, and they do so under the assumption between both parties that it is not supposed to break up.

Terminations do happen, but a manufacturer now must demonstrate “good cause” such as the dealer was not living up to specific requirements of the agreement. It can’t be done arbitrarily. Dealers have rights under these contracts.

Saying his example could be true of any manufacturer, Stockton cited a potential for Toyota to start a new line of fuel cell or hybrid and electric cars that it could sell direct. Maybe it might let some of its selected dealers in on the servicing, or maybe not. In any case, it would want to cash in on the brand cachet its dealers have created for it.

“If Toyota decided to release their electric car lineup through a new brand, Toyota would not want to miss out on the value of their own name and their own reputation,” said Stockton. “But that reputation has been promoted very extensively by its dealer network through specific and permanent investment in those facilities.

“I think the possibility of either extracting additional concessions or free riding off of dealer investment is probably the greatest long-term danger of the introduction of factory networks with manufacturers introducing new product lines through new nameplates.”

Charapp said a number of potential scenarios could happen but if anyone wants to understand why dealers are being very cautious, it is due to legitimate business interests that they see could weigh in the balance.

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He cited how Nissan a few years ago selected dealers who would get the Leaf as one example of needing to keep the manufacturers in check. This was not part of a staged roll out, but, Charapp said, in his view Nissan violated existing franchise laws that would have stipulated distribution to certain dealers who were denied the car. This, he said, was just one of other indicators he has seen of an ever present push-pull relationship with automakers.

Charapp painted another hypothetical situation outlining how a new sub brand could ride in on Tesla’s precedents.

“Then if a manufacturer decides that for what ever reason it wants to tightly control how the new technology is going to take place and it sees that it just can’t do it through its own existing franchise system, maybe they just decide they follow the Tesla model and control how the distribution is done,” he said. “Then you have some cars that existing franchisees are going to wind up competing with that the manufacturers themselves are going to try and distribute.”

This is one potential result of stepping onto a slippery slope he said.

“And that’s the breakdown of the franchise system,” he said. “There are people who have dedicated their lives to these franchises and they’ve put their entire fortunes at risk in these franchises, and that’s kept the manufacturers themselves from having to expend that money.”

We’ll delve into more related issues in a subsequent installment.

This article is based on info and interviews provided by Tesla proponents and opponents and also those with no direct stake. Tesla did not reply to repeated requests for an interview or commentary.