All three domestic manufacturers have been ending franchise agreements and effectively closing dealers. In particular, Chrysler and General Motors have been making headlines for their massive shutdowns, while Ford has been quietly negotiating closures for the last four years.

Chrysler Vice-chairman Jim Press has said that Chrysler’s bankruptcy allows a “once in a lifetime chance to accomplish a right-sized, realigned dealer body.” It seems sensible to ask, then, why any automaker wants to choke off parts of its own distribution channel. After all, the dealers are independent businesses. Since the automakers don’t own the stores, why should they really care if some of them are losing money?

The answer, it turns out, has more to do with long-term business strategy than with an immediate crucial need. Turnover lies at the heart of the problem. Ideally, both dealers and automakers want the maximum volume possible to go through every store. High-volume stores have a rapid sales rate, and product turnover multiplies whatever slender profit they make on each car sold.

With the Detroit Three’s declining market share, these diminished corporate giants find themselves with too many dealers and not enough customers to support them all. Consequently, unsold cars pile up on dealer lots. Those unsold cars tie up capital that could be used productively elsewhere. The current deep recession only magnifies the problem.

Automakers may provide life-support for low-volume dealers in the form of special discounts or other financial help. They also maintain a network of field representatives and other employees devoted to serving the dealers. All those costs impact an automaker’s net earnings. Making a better match between the volume of cars they produce and the number of stores needed to sell them should result in corporate savings and a healthier dealer group. In the end, it’s not that automakers will earn more per car, it’s that they will spend less trying to sell them.

Another consequence of a dealership glut is that those stores compete against each other for whatever customers are available in any given region. And consumers are pretty good at figuring out which dealer has the lowest price. Anybody who has bargained hard for a new car in the last few years knows how effective it is to get up and make for the door if the dealer doesn’t seem interested in offering a good deal.

How dealership closings affect the consumer?

In some ways, it’s good for the consumer when the dealers are willing to battle each other to sell you a car. And with multiple dealers fighting for your business, that’s what can happen. Such competition can inspire some dealers to resort to high-pressure selling of dubious add-ons like extended warranties, VIN-etching, and absurdly high “conveyance” fees. Then again, dealers shutting their doors can be a real inconvenience. Much of the time, inconvenience is all it will be. If your local Ford or Chevrolet or Chrysler dealer closes, there is often another one 10 or 15 miles up the road, or on the other side of town. For those in more rural areas, the dealer proximity may be a much more significant issue.

The new landscape promises to be a mixed blessing. For instance, you may have to travel further to get your car serviced. However, fewer, stronger dealerships in theory can provide more inventory to choose from and have the resources to provide better facilities and services.

But if you have had five Chevrolet, Dodge, or Ford dealers in your area and now suddenly you have just one, what’s to prevent those survivors from jacking up prices?

The answer is that they can try, but only to a degree. However optimistic some car dealers may be, they can’t just raise their prices at will because they still have to compete with other brands. The three domestic automakers will remain rivals, plus they face seven Japanese, one Korean, and about a half dozen European makers, and their assorted brands. So, however grandiose Detroit Three dealers’ dreams may be, the hard reality is that in practically every car category consumers still have lots of worthy alternatives. If you don’t like the deal you’re offered, forget about brand loyalty and head for the door.

The bottom line

Dealer cutbacks are tough on local communities and their economies, though they remain an important element in restructuring the struggling domestic automakers. Hopefully, the long-term benefits outweigh the current challenges and impositions.

We will continue to monitor this fast-moving story, reporting here in the Cars blog and also updating advice and news on the Auto Crisis hub.

--Gordon Hard