Wednesday 03/20/2019

Dealer Investment Advantage


Dealer Investment Advantage

By Ryan Nelson


Tax deferral, preferential treatments of distributions and the ability to participate in the underwriting profit of the dealers F&I business are just a few of the reasons that the number of dealers participating in reinsurance has grown exponentially over the last two decades. Although dealers have certainly profited from these structures, there are some distinct disadvantages to several of the traditional programs being offered today – especially considering many of the underlying changes in our business.


The upside and downside


The appeal of 100% participation in underwriting profit and investment income certainly has a nice ring to it, and undoubtedly provides generous benefits to the shareholder over the long term. Long term is the issue. Traditionally dealers have to wait years, if not longer, to access any significant amount of surplus and put it to better use than earning a relatively low rate of return. Dealers are faced with staring at cession statements and trust balances that reflect hundreds of thousands, if not millions of dollars in ceded premium. At the same time, they can access only a small fraction of what has been ceded. This all too familiar situation requires the dealer to make a difficult decision; hold off on projects or acquisitions to grow the business, or face the reality of looking for external capital at a significantly higher cost of capital.


This problem is only being exacerbated by the lengthening of earning patterns as service contracts, limited warranties and even ancillary products are being written on longer and longer terms. Over the seven years it takes some contracts to fully earn, the dealer could be faced with the opportunity to expand their business operations with an acquisition, remodel the dealership, or pay down floor plan amongst many other capital requirements todays dealers face.


The current state of affairs:


I recently sat with a dealer who laughed out loud when I asked if it is any more expensive to operate a dealership today than it was 10-20 years ago. The laughter led the dealer to recount the variety of capital-intensive projects he is being asked to undertake while keeping his eye on long-term growth for his 100+ associates. At the same time, we were discussing the expense of running a dealership in today’s reality, while we simultaneously grabbed his cession statements and trust account documents from a big box provider to review them. The dealer was dismayed when we determined when he would be able to access any measurable amount of surplus to assist in daily operations. This led us to talk about how his operations would change if he was able to access the million plus dollars he had in unearned reserves. To say he was excited at the opportunity of putting HIS reinsurance money to work for him earlier, and more often, than what he was allowed to do through his current provider would be a monumental understatement.


The Dealer. The Investment. The Advantage.


The foremost purpose for a dealer to get into a participation structure is for the benefit of the dealer. This could be long-term wealth building, a way to prop up cash flow while the day-to-day operations of the store are seeing the profits undertake tremendous compression, or a way to fund expansion efforts. If the provider and agent do not place the dealers needs first, everyone loses. The dealer is the single most important factor in the analysis of determining which participation structure is right for their needs.


Once the dealer’s needs are determined and isolated, it is time to determine the desired investment results. Does the dealer want to sock money away over the long haul and use the participation structure as a walkaway, or retirement benefit? Or, does the dealer want to access as much cash as possible, as soon as possible, with the least amount of taxes and expense? More and more dealers are choosing the latter as a result of the current business climate. This means that the investment the dealer is making is not going into a trust account with a mix of cash equivalents, bonds and equities. Rather, it means the dealer is making their investment in their most precious assets — themselves and their dealerships.


The opportunity to access a large percentage of the unearned premiums early in the participation structures lifespan can prove transformational. Imagine if you are an average size dealer, selling an average amount of products and all of a sudden you are given the chance to access over a million dollars to use as the you see fit! Now imagine if the capital resource you are accessing this money from is yourself, and the interest repayment on the funds is paid – you guessed it – back to yourself. Go one step further and envision this happening every 90 days. A cash infusion into the business every 90 days with a repayment structure built to benefit the dealer – now that’s what I call an advantage.


The carriage and the horse(power):


There are certainly structures available which allow or mandate the dealer hold reserves in an accessible account, and these have been around for decades. Dealer Obligor programs and DOWCs are viable options if the dealer understands all the potential downsides each of those structures bring with them. DO and DOWC structures certainly have some benefits, but they are not for everyone, and the industry has proven every dealer is not for them. If they were the unicorns of participation structures, we would be operating in a homogenously structured environment. The fact is, some dealers are ideal fits for an Affiliated Reinsurance Company (CFC), while some dealers require no ceding limitations and are better suited for a Non-Controlled Foreign Corporation (NCFC) and there are some who demand no ceding limitations but are uncomfortable with NCFCs and their PFIC uncertainty. Again, the dealer should be provided options, and all of the dealer’s options should include the choice whether to access their unearned reserves or not. Regardless of the carriage (CFC, NCFC, or others), the horsepower – being the availability to put more of the dealer’s money to work for them sooner – should always be available to the dealer as a choice.


National Automotive Experts has been providing dealers and agents with innovative solutions for over two decades and has raised the table stakes by releasing their Dealer Investment Advantage program to Auto, Motorcycle and RV dealers – regardless of the carriage (structure). If you are a dealer and would like to put your money to work for you sooner and more frequently, reach out to schedule a reinsurance and proforma review today.