An unexpected outcome: GM recalls are driving new sales

Bloomberg NewsJuly 3, 2014 

— As owners of recalled General Motors cars roll into Duane Paddock’s Chevrolet dealership for repairs, the unexpected happens. While their old cars are in the shop, they kick tires on new models in the showroom. Some even buy one.

“You bring in a 2007 Saturn with 140,000 miles on it, we’re certainly prepared and ready to do the recall,” said Paddock, whose store near Buffalo, N.Y., is deriving as much as 12 percent of its business from recall customers. “The next thing you know, the consumer is in the showroom, saying, ‘Boy, oh boy, that Cruze looks sharp.’”

GM is defying the odds of its record recall of 25.7 million vehicles in the U.S., where it’s fixing models including the Chevy Cobalt that had faulty ignition switches linked to at least 13 deaths. Instead of showroom business tanking – as Toyota’s did during its recall crisis four years ago – GM is actually gaining ground. GM’s U.S. market share in June was 18.8 percent, up from 16.9 percent in January before it began its massive recall campaigns, according to researcher Autodata.

In an unusual twist, the influx of owners of older models is stimulating business at GM dealerships, according to car- buying website Edmunds.com. That fueled a surprise 1 percent rise in GM sales in June, trouncing analysts’ estimates for a 6.3 percent decline. The surge was driven by growth in lease deals and new models like GM’s redesigned big sport-utility vehicles. Cadillac Escalade sales jumped 84 percent, Chevy Suburbans rose 73 percent and GMC Yukon deliveries doubled.

“The hardest part of selling is getting people in the door,” said Jesse Toprak, an analyst with researcher Cars.com. “Multiply that by millions of recalls and that’s a lot of people coming to the dealership.”

GM rode a wave of better-than-expected sales for the auto industry in June. U.S. light vehicle sales rose 1.2 percent to 1.42 million, defying the 2.6 percent decline predicted by the average of 10 analyst estimates compiled by Bloomberg. Adjusted for seasonal trends, the annualized selling rate rose to 16.98 million, the highest since July 2006, from 15.9 million a year earlier.

While GM’s sales have held up so far, the company does face some risk that consumer trust will be permanently damaged.

“We still believe the biggest potential effect of the ignition switch problems and expanding recalls could be to GM’s reputation, reducing the company’s market share or pricing power,” Standard & Poor’s Ratings Services said Tuesday in a statement.

Investors have begun to believe GM is emerging from its recall crisis, said Brian Johnson, an analyst with Barclays. GM rose 3.6 percent Tuesday to close at $37.59, the highest since March 7, a week after GM’s recall woes began. Among 24 analysts tracked by Bloomberg, 17 say to buy the stock and only three say sell.

“Many investors wanted to make sure that GM was not catching a falling knife and that its market share wasn’t going to suffer from all the recall noise,” said Johnson, who rates GM “overweight/neutral” and sees the price reaching $46. “This is the third month in a row that GM’s been able to hold or grow market share. They seem to be out of the yellow zone.”

Investors are hoping GM completed its last big recall with the 8.45 million models it called back June 30, the last day of the second quarter, Johnson said. Chief Executive Officer Mary Barra told analysts June 5 that she expected the company’s “redoubled efforts” on recalls “to be substantially completed by the end of the second quarter.”

There “may in fact be signs that the focus for GM over the coming months will shift away from the recall and instead toward progress in the underlying business – implying upside potential for the stock,” Johnson wrote in a note Tuesday entitled “Clearing out the recall clouds.”

Consumers returning to a GM showroom for the first time in years discover the automaker is producing its best models in a generation, with smoother, more fuel-efficient engines, sharper designs and the latest technology, such as voice-activated controls, said Jessica Caldwell, an analyst for auto researcher Edmunds.com.

“They’ve been in these older cars, they come and see new vehicles that look better and that have better amenities,” Caldwell said. “With the low finance offers and with the leasing, it makes it really affordable.”

GM is stoking sales by offering a $500 incentive to owners of a Cobalt or other recalled vehicles to trade in for a certified used model. On a new GM model, the company offers recall owners “employee pricing,” which takes 4 percent off the invoice price, according to GM.

The effort is paying off. Cobalt trade-ins for new GM vehicles rose 21 percent for the three months of March through May compared with a year earlier, according to Edmunds.com. In May, the most recent data available, almost half the Cobalt trade-ins were for a new GM model, up from 35 percent in January, according to Edmunds.

“People who have older recall vehicles are coming in and buying new cars,” Caldwell said.

Attractive lease deals also are helping sustain industrywide growth this year, said Larry Dominique, president of Santa Barbara, Calif.-based ALG, which helps set automotive resale values.

“Historically leasing was about 17 to 18 percent of the industry, and we’ve been hovering around 24 percent for a good part of the year,” Dominique, who is also vice president of TrueCar, a car-buying website, said in an interview. “We don’t see that trend stopping.”

Indeed, leasing is replacing traditional cash-back deals as the new method for automakers to entice consumers, said Kevin Tynan, auto analyst with Bloomberg Industries. Leases accounted for 27.1 percent of sales in June, up from 25.5 percent a year earlier.

“They’re selling the monthly payment, it’s just a different trick now,” said Tynan, who predicts a leasing bubble is forming that could burst and hurt new car sales in three to four years. “The next lull in new-car volume will come in 2017 or 2018.”

The lull analysts projected in June never arrived, in spite of the month having one less weekend than May and no big promotional events like Memorial Day or the Fourth of July. Consumers who stayed home during the brutal winter weather in the first quarter now seem intent on making up for lost time.

“We’ve got incredibly supportive conditions,” said Mark Wakefield, managing director and head of the automotive practice at consultant AlixPartners. “A 72-month loan on a bank rate is now below 3 percent and people are taking advantage of that.”

Automakers expect demand to continue to grow. GM said a strong second quarter – after the recall crisis began – led to its best first-half retail sales to consumers since 2008. Ford and Chrysler each forecast May and June’s robust sales pace would continue into July.

“It was a really solid run rate the past two months for the industry,” John Felice, Ford’s U.S. sales chief, said Tuesday in a conference call with analysts and reporters. “We expect that to continue, especially into the first part of July with the promotional push by the industry” around the U.S. Independence Day holiday on July 4.

Chevy dealer Paddock said some of his customers are angry at GM for the recalls, but others appreciate how Barra is handling the situation and are finding themselves surprised at the quality of new models such as the Cruze.

“They’re looking at the increased fuel economy and savings at the fuel station,” Paddock said. “And they’re saying, ‘You know what? I really didn’t plan this, but it really is a good time.’”

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With assistance from John Irwin in Southfield, Mich., and Alan Ohnsman in Los Angeles.

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