Car dealers face prospect of lower earnings

Credit: NRMA Motoring and Services

New motor vehicles could be more expensive within weeks if a decision by the Australian Consumer and Competition Commission (ACCC) goes against car dealers.

The ACCC is expected to announce its ruling on add-on insurance products sold by new car dealers to customers. It could affect hundreds of millions of dollars of commissions generated by the $86 billion car dealership industry according to Fairfax Media.

It’s almost standard practice that dealerships don’t make much profit from the sale of new cars, but bump up their margins through the sale of add-on products like accessories, tinted windows, rust protection, consumer credit insurance (CCI), mechanical breakdown insurance, gap insurance, loan termination insurance and tyre & rim insurance.

A report by the Australian Securities & Investments Commission (ASIC) has found that the market is failing consumers, with add-on insurance “represents poor value for consumers and is designed and sold in a way that may not meet consumer’s needs.”

According to ASIC, car dealers were paid more than $600 million in commissions over three years, but consumers were only paid $144 million in successful claims. Additionally, consumers paid $1.6 billion in premiums.

That suggests that most people either don’t need the insurance that was sold to them, that it is extremely overpriced or a combination of both.

ASIC has already called on the insurers to address the high costs, poor value and poor claims outcomes.

The regulator has also suggested a voluntary cap of 20% on commissions paid to anyone who sells an add-on insurance product to consumers through car dealers (some can be as high as 79% according to ASIC).

ASIC has also found that consumers find it hard to say no to the salesperson when they are buying a new or used car when it comes to add-on products. ASIC also found that at least one insurer trained car dealers in how to avoid disclosing the price of the insurance, even if asked.

As well as impacting car dealers like AP Eagers Ltd (ASX: APE), Automotive Holdings Group Ltd (ASX: AHG) and Autosports Group Ltd (ASX: ASG), the ACCC’s decision could also impact on the insurers, including Insurance Australia Group Ltd (ASX: IAG), Suncorp Group Ltd (ASX: SUN) and QBE Insurance Group Ltd (ASX: QBE).

Some dealer groups have already claimed that slashing these commissions would force up the price of new cars, or at worst force the closure of every motor dealership in Australia. That may be a bit extreme though.

But a valid concern for investors is that some dealerships may not be profitable if commission rates are capped, and if the watchdog forces insurers and dealers to refund millions to customers who purchased insurance they didn’t need or paid too much for. It happened in the UK in 2011 with consumer credit insurance (CCI), so it could happen in Australia too.

Motley Fool writer/analyst Mike King doesn't own shares in any companies mentioned. You can follow Mike on Twitter @TMFKinga

The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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