Penske Automotive: Far from Virtual Saturn

| About: Penske Automotive (PAG)

Roger Penske is no lightweight; a former champion race car driver and now CEO of the Penske Automotive Group (NYSE:PAG). PAG is the second largest publicly traded automotive retailer with 310 showrooms divided almost equally between the US and UK, along with 25 collision centers and the exclusive Daimler Smart car distributorship in the US. The $11B+ revenue company specializes in foreign and luxury nameplates. Penske is also the driving force behind several non-publicly traded businesses including Penske Racing and Penske Truck Leasing.

USA Today interviewed Roger Penske for “Roger Penske: 'We're going to build a Saturn team'”. PAG’s purchase of General Motor’s Saturn brand is expected to close in October. PAG will be buying the brand, the 350 dealer distribution network and the parts inventory; but no manufacturing. GM has committed to supply the Aura sedan and Vue and Outlook SUVs for 2 years. Other Saturn models will be dropped. The PAG press release gave no details as to how many of GM’s Saturn employees and which GM assets will travel with the brand.

Buying the Saturn brand is very much more complex and risky than being the national distributor for Diamler’s Smart or JM Family Enterprise’s Southeast Toyota. JM Family, a private company, is the sole remaining independent Toyota distributor in the US. Owning the Saturn brand means that PAG will theoretically have to design and subcontract the assembly of vehicles in addition to distribution and dealer support.

Penske talks optimistically about being freed from manufacturing and the ability to source models worldwide, giving PAG a distinct cost advantage. But just like the semiconductor foundry business, customers must cover the fixed costs when they commit to a production volume. Also it is likely that PAG will have to finance the parts inventory for its manufacturing subcontractors and commit to certain volumes, like Dell (NASDAQ:DELL) and Hewlett-Packard (NYSE:HPQ). PAG will have to purchase or lease any equipment, dies and fittings required to customize other manufacturers’ vehicles for the Saturn brand.

While the new Saturn’s capital outlays and long-term labor commitments are less constraining than fully integrated manufacturers, they are far from nonexistent. The operation is not quite as virtual as it first appears and is highly dependent on continued overcapacity in automobile manufacturing. Advanced Micro Devices (NASDAQ:AMD) similarly trying to run a virtual operation might find the cost of committing manufacturing an impediment to competing with its rival. Though completely different industries, there are many parallels between the AMD and PAG business plans.

I believe PAG’s greatest difficulties will go beyond financing manufacturing and getting commitments to the highest quality plants. First, can PAG design vehicles with a consistent theme or message that instantly distinguishes them as Saturns? Will contract manufacturers be willing to build cars with the plastic shells that make Saturns distinctive? Will manufacturers be willing to rebadge their best products for Saturn?

If the new Saturn can shop the global parts bins to build high quality unique vehicles, they could be successful. But the vibes I’m getting is that Penske wants to shop the world market to rebadge the lowest cost products for Saturn’s high customer satisfaction dealerships. This is an explosive combination and not very value adding. As the number of vehicle sources proliferate, so will the dealership parts and service complexities. And customer satisfaction will soon fade if quality is not consistently high.

This case study is just beginning and it is difficult to know how PAG will balance the design vs. rebadge question. But the migration toward electric cars speaks well for the new Saturn’s ability to be a nimble designer and distributor in the future. PAG must be very careful not to reach for the bottom of the barrel in the last few years of the gasoline age. Doing so will kill it before the Saturn brand can truly prosper in the easy to assemble electronic age.

Disclosures: None

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