Channels Aren’t What They Used To Be

Kyle T. Westra
Aug 9, 2019 · 8 min read
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“He needs to stop and take a breath. If you’re an internet billionaire, maybe you think the world revolves around you, and the world springs from your laptop.”

Jim Appleton, president of the New Jersey Coalition of Automobile Retailers, was upset. In March 2014, Appleton was waging war against Tesla and its CEO Elon Musk, who wanted to sell his vehicles directly in the state and not through franchised dealerships as required by law.

“Well, I got news for him. This is not a new law, Tesla is operating illegally, and as of April 1st, they will be out of business unless they decide to open a franchise,” Appleton declared.

By April of that year, sure enough, Tesla was banned from selling its vehicles directly in New Jersey. It looked like Appleton had won.

“Mr. Musk is a brilliant man, and Tesla is an innovative company. We can all respect that,” Appleton said. “But he doesn’t get what it takes to do business in New Jersey. With all due respect, his legal opinions are about as sound as my programming abilities.”

Less than a year later, however, New Jersey reversed course and allowed Tesla to open direct sale dealerships. As of February 2019, Tesla has delivered just under 10,000 vehicles to customers in New Jersey. The company, although subject to divergent analyst opinions, is not out of business in New Jersey or elsewhere.

Dealers are singing a different song than in 2014. In California, dealership group Sonic Automotive president Jeff Dyke summed up the 2019 state of dealers’ new opinions on Tesla during a disappointing earnings call: “My hat off to them — they’re selling a lot of cars, and there is no question in California that it’s getting in our shorts.”

The Purpose of Channel Partners

The relationship between companies and the customers, as well as how they serve those customers, has dramatically increased in complexity thanks to the Digital Revolution.

Concurrently, some companies are finding that bucking the traditions and trends in their industries can create windfalls. There are more options than ever to shift functions, tasks, and subtasks to channel partners, or have the supplier absorb more of these roles itself.

It is incumbent on companies to put real strategy into how they manage channel relationships. Following the status quo is insufficient.

Channel partners must be adding value. There are too many opportunities for differentiation to accept that “the way it’s been done” in your industry is therefore the way your company has to operate.

Tesla’s Channel Uprising

“This Musk guy, he wants all the profits for himself,” said Tom Dougherty, a dealership salesman, during Tesla’s clashes with New Jersey law. “They wanted to go direct, which means no sales force. That’s cutting out a lot of people.”

Removing dealerships from the car selling experience does in fact cut out a lot of people. And Musk surely does want to increase the share of profits that go to Tesla. His strategy is in fact to “cut out the middleman.”

Tesla is revolutionary not only for being the first all-electric car company, having the first U.S. automotive IPO since Ford’s in 1956, and creating fantastic vehicles, but also for overturning the traditional manufacturer-dealership distribution model.

“For all the talk of Tesla’s product innovations, it is leading another battle: this one centered on how vehicles are sold, as much as how they’re made,” writes Fast Company. This assault on the dealership channel model is as transformative for the industry as the push for electric vehicles.

“It’s OK to have your eggs in one basket as long as you control what happens to that basket.” — Elon Musk

Tesla is a company of the digital age and therefore thinks in terms of digital-first. So, it takes a unique approach to the functions traditionally done by dealerships.

Starting from scratch gave Tesla the opportunity to assess aspects of the automotive industry that were taken for granted or seen as impossible to change. Tesla looked at the dealership model and decided it could perform those channel partner functions better on its own.

Let’s look at how Tesla handles each of the five channel functions:

Tesla utilizes online presence, word of mouth, heavy press coverage, and showrooms in major cities to inform customers about its value proposition. By creating the “iPhone of the electric-car market”, Tesla draws potential customers in via branding, happy customers, and the intrigue of seeing its products on the streets, not by dealership marketing and promotion.

An electric car is most useful in heavily populated areas that can provide the charging infrastructure needed to keep the car moving. Dealerships every twenty miles make the most sense to cover wide and hard to reach geographies, which Tesla has already decided aren’t in its target market.

For customer education, traditional dealerships built around the sale and service of gas engine cars probably aren’t the most natural evangelists for electric vehicles.

“We actually train people to educate,” Musk says about his employees. “It takes them at least twice as much effort to sell someone an electric car and to educate them as to why an electric car is good. And so if we were to go through the traditional dealer path, the result would be a disaster.”

Tesla is largely comfortable utilizing digital resources for customer interaction. Its product innovation draws the type of customer they want to attract in the first place. Tesla is a elite brand, so it counts on customers self-selecting for those who are willing to come to it on its own terms. Most interaction is done through Tesla’s own website.

In major cities, again, there are showrooms to view and test drive cars, because there is no substitution for in-person when it comes to a large purchase like a vehicle. Whereas traditional dealerships tend to be in the outskirts of urban areas and consist of large car lots, Tesla showrooms are centrally located and utilize a small store footprint, saving on cost and contributing to the urban and elite brand perception.

“Because Tesla sells its vehicles directly to customers instead of using independent dealerships, the company has more control over its stores and the way they present the brand to consumers than other automakers do,” according to Business Insider. This control is a major benefit for a high-value-brand company such as Tesla, as similarly positioned Apple has found with its product development and storefronts.

In many states, Tesla is not allowed to sell its cars from its showrooms. Interested customers can only purchase their car through Tesla’s website. Such laws are changing, though, as we’ve learned, and Tesla takes an active part in pushing for those changes.

Tesla recognizes that in today’s economy, customers are more and more comfortable making such large purchases online. “Ordering your Tesla is just like any buying experience on the Internet,” Tesla’s website explains. In a world where 99% of automotive shoppers expect their purchase process to be a “hassle”, Tesla makes buying a new car as simple as we would expect from a digital-first company.

“When the customer is ready to purchase, they do so on their in-store digital design center and a salesperson can walk them through the entire process,” explains customer insights company Qualtrics. “The customer can also purchase the vehicle from Tesla’s website in the comfort of their own home, and the prices are non-negotiable.” (Recall from Variable Pricing how fixed prices can be a differentiator for elite brands.)

Some states do allow Tesla to sell a limited number of vehicles directly, and more are reevaluating their existing laws, so expect to see some change here in the next few years. Tesla is also playing around with the idea of only selling its cars online and doing away with store sales completely , which the company says would enable it to lower prices by 6%.

Regardless, Tesla will continue to own its own shopping experience, whether online or through its own showrooms, delivering a better and more streamlined shopping experience than a channel partner could provide.

One of the big benefits of a dealership is the car you purchase is sitting right there. In most cases, when you buy a Tesla, you’re not going to see the car soon, let alone drive it off the lot.

“[Showrooms]…carry a small number of cars in inventory for customers who wish to drive away with a Tesla immediately,” according to the company.

For everyone else, the process is much what one would expect buying any other product online. “When your car is ready, it will either be shipped to your home or to the nearest Tesla service center,” Tesla states.

This is a very big break from how people are used to buying vehicles, but not a change from how many people order most other items. It also saves on a dealership function: the cost of holding inventory (which may or may not sell).

Tesla doesn’t need big dealership lots to distribute its vehicles, which is yet another strike against the relevancy of such a channel arrangement for the company.

One of the major channel functions dealerships play is in servicing vehicles. If your Ford or Toyota has an issue, odds are that wherever you live in the US, there is a Ford or Toyota dealership nearby who can help.

If your Tesla needs a repair, where do you go? An average mechanic isn’t going to have the familiarity, let alone the extra parts, to service the car adequately.

Tesla does has service centers, but in large swaths of the country, you may have a long drive to find a repair:

As of November 2018, there are 79 Tesla service centers in the US. By comparison, Ford has over 3,000.

While Tesla plans to open more as it moves into more mass-market vehicles, it would have a long way to go to reach that kind of footprint. But does it need that kind of spread?

For typical dealerships, much of their profits come from the service and financing departments, not actual car sales. Tesla rejects this approach. “I have made it a principle within Tesla that we should never attempt to make servicing a profit center. It does not seem right to me that companies try to make a profit off customers when their product breaks,” Musk wrote.

And as already stated, Tesla focuses its customer acquisition on urban areas with higher population density. Customers who live far from a service center can still order a car, but they are not the primary target customer.

So, if Tesla’s service strategy doesn’t require thousands of dealerships, why pay for them?

**

In total, we can see how Tesla decided its channel goals wouldn’t be served by a dealership model. Instead of taking the industry’s organization around dealerships as table stakes, it figured out how to cut dealers out completely and save the channel margin for itself.

Other car companies, despite fighting such changes, may be realizing that such a strategy could work for themselves as well. Morgan Stanley analyst Adam Jonas says that “most auto companies would love to sell vehicles the way Tesla does. There’s just one catch. They can’t. It’s against the law.”

Consequently, Tesla leading the charge against dealership laws may have the effect of reshaping channel dynamics for the entire industry.

The New Invisible Hand

In this blog series, I share excerpts and stories from my book, The New Invisible Hand. I hope you enjoyed this post — if you enjoyed it and want to connect you can reach me here via ktwestra@wiglafpricing.com or connect with me on LinkedIn at https://linkedin.com/in/ktwestra/.

Also, you can also find my book on Amazon — here is the link to buy it: https://www.amazon.com/dp/B07VP1VQFC

The New Invisible Hand

Exploring the revolutions that are transforming businesses…

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