Steve Cole on the Market for New Cars

Episode Summary

Executive Summary: Russ Roberts and Honda sales manager Steve Cole discuss why new-car buying feels adversarial, how dealers set prices using invoice, incentives, and holdback, and why price dispersion persists. Cole argues competition, inventory needs, consumer psychology, and negotiation culture shape pricing more than simple markup, while Roberts highlights transparency, deception, and the stress buyers experience.

Main Topics: How Honda dealers set a ‘bottom’ price: Cole explains that the dealership’s starting offer was based on invoice minus Honda dealer cash, minus 2% holdback, and then another $500 below that net cost to drive traffic and secure future inventory allocation. Consumer frustration and trust in car buying: Roberts describes feeling lied to over hidden destination fees and dealer-installed extras, raising the issue of trust and why buying a car feels degrading rather than rewarding. Internet research and pricing transparency: The conversation shows how internet information has reduced dealer profits and empowered consumers, but also created confusion because online quotes often omit fees or mix trade-in and purchase-price effects. Why car prices are negotiated instead of fixed: Cole argues fixed-price strategies struggle because consumers are culturally conditioned to negotiate, compare offers across dealers, and seek the satisfaction of ‘getting a deal.’ Dealer incentives, inventory, and demand cycles: Pricing varies with supply, hot models, and upcoming model-year allocation. Cole says losing money on one car can be rational if it helps move inventory and secure more of the next model year. Sales process, customer reading, and commissions: Cole explains how salespeople and managers qualify buyers, read readiness to purchase, and close deals. Compensation is highly commission-based, so time spent with customers and closing ratios matter greatly. Leasing and disclosure: Cole argues leasing is increasingly transparent, but remains confusing because of money factors; he offers a simple conversion rule and says leasing is only a minority of transactions at the dealership.

Key Arguments: Transparent, fixed-price car sales are not standard because many buyers still expect and enjoy negotiation, making haggling a cultural norm rather than just a market failure. Internet access has reduced dealer margins and increased informed shopping, but online quotes can mislead when they omit destination charges, add-ons, or trade-in effects. Dealers may accept losses on some cars because the immediate transaction can help secure future inventory, attract traffic, and protect reputation through word of mouth and online reviews. A salesperson’s job is not merely to be nice; it is to qualify the customer, determine readiness, and use time and persuasion to reach a deal that works for both sides. Trade-ins complicate price comparisons because customers often misstate or misunderstand the total package; separating the new-car price from the trade can clarify the deal but can also reduce dealer flexibility. Dealers read demand and supply closely by model, trim, and model year; hot models with low inventory command higher prices, while abundant models require more aggressive pricing. Fixed no-haggle pricing can fail because buyers often treat it as a starting point for comparison shopping rather than as a final price. Leasing is not inherently cheaper, but it can lower monthly payments and offer more flexibility; the real issue is understanding the money factor and total cost.

Data Points: Age of Roberts’ Honda Odyssey: 9 years old - Roberts explains why he decided to replace his existing minivan. Mileage on trade-in Odyssey: 95,000 miles - Roberts’ current car before purchase. Distance driven to buy car: about 35 minutes - Roberts drove to Orsman Honda of Laurel for the better price. Dealer-installed extras initially added: over $800 - Pinstriping, wheel locks, and mud flaps raised the price. Destination charge: over $600 - Additional fee Roberts says was not disclosed over the phone. Hidden extra charges total: about $1,500 - Combined dealer extras and destination charge. Honda dealer cash: $2,000 - Cole says Honda was offering this incentive on the vehicle. Holdback: 2% - Manufacturer payment to the dealership upon sale. Extra discount below net: $500 - Cole’s additional reduction below invoice minus incentives and holdback. Competitive radius: 90 minutes / 36 Honda dealerships - Cole cites intense local competition as a reason for aggressive pricing. Dealership net result on transaction: $365 net loss - Cole says the sale was a loss after incentives and holdback. Old average profit per new car: $900 to $1,000 - Cole’s estimate from about seven years earlier. Current average profit per new car: $500 to $600 - Cole attributes the decline to the internet and consumer research. Honda shoppers doing internet research: 80% to 85% - Cole cites Honda survey results. Average dealership profit margin: 2% to 3% - Cole compares car dealer margins to other businesses. Average salesperson commission per car: $350 - Cole states this is roughly the across-the-board average. Salesperson minimum on this deal: $100 flat/mini - The salesperson on Roberts’ deal received a minimum payout. Average mediocre salesperson annual income: $20,000 to $35,000 - Cole describes compensation for average performers. Top salesperson annual income: six figures - Cole says top sales consultants can earn over $100,000. Manager compensation share: 0.01% of total store profit - Cole describes his commission-based compensation structure. Customers doing no-haggle research at CarMax: 38% to 45% - Cole cites a survey showing many still tried to negotiate at CarMax. Leasing share of transactions: 12% to 15% - Cole estimates lease penetration at the dealership. Lease-to-interest conversion: money factor × 2400 - Cole offers a rule of thumb to convert money factor into an approximate interest rate.

Pivotal Quotes: "I believe we, as adults, have been grown up conditioned to sit there and say, I remember my dad taking to me a car deal shift. Watch how your dad does this. We are taught to want to negotiate cardio deals." — Steve Cole: Explaining why fixed-price car selling has not replaced negotiation culture. "The power of the Internet now that everybody has an opportunity to voice their thoughts, their opinions to everyone, and there's a forum for people to read it." — Steve Cole: On why dealerships must avoid frustrated customers who might publicize bad experiences online. "You lied to me." — Russ Roberts: Roberts confronts Cole after discovering undisclosed destination and accessory charges.

Implications: The episode suggests car pricing is moving toward transparency but remains shaped by negotiation norms, inventory strategy, and consumer psychology. Buyers who research carefully can do much better, but confusion over fees and trade-ins still matters.