Luxury Automobile Industry Luka Jankovic, Alexa Davis, Laila Judeh Spring 2015 AEM 4160: Strategic...

Luxury Automobile Industry

Luka Jankovic, Alexa Davis, Laila Judeh Spring 2015 AEM 4160: Strategic Pricing

Executive Summary

2

INDUSTRY BACKGROUND

2

Value/Premium Pricing1st and 2nd Degree Price

DiscriminationSecondary Market

Pricing

PRICING STRATEGIES

RAW DATA ANALYSIS

• The overall US automobile industry will see weakened growth throughout the rest of decade, but demand for luxury vehicles will be buoyed by an improving macro economy

• The average price of standard and luxury vehicles continues to rise• The luxury and sports car industry comprises of 17% of the market

• Luxury automobile manufacturers utilize several pricing strategies to extract the maximum surplus from consumers

• The secondary market pricing is heavily linked to high rates of depreciation

• Our analysis does not show any discernable relationship between the average price paid for a luxury automobile and median income, level of education, population, or geography

• There are several unobserved factors that may affect pricing strategies

Industry Background

Industry at a GlanceCar & Automobile Manufacturing in 2015

Revenue

Profit

Annual Growth 10-15Exports

Annual Growth 15-20Businesses

$107bn

$4.5bn

5.4%$57.3bn

2.5%203

| INDUSTRY BACKGROUND | | COMPETITIVE LANDSCAPE | | PRICING STRATEGIES | | RAW DATA ANALYSIS |

Consumer Confidence

Index

Demand from new

car dealers

World price of crude oil

World price of steel

Greater demand at the retail level, which is represented by car dealers, generates greater demand at the manufacturing level.

As gas prices decrease, consumers will be less sensitive to fuel-efficient vehicles, which are often from International brands.

Steel prices can be a major cost pressure, which can’t be passed onto customers. Prices are expected to decrease.

The 10-Year Treasury note is tied to interest rates. As interest rates rise, demand for cars rise due to lower financing costs.

Yield on 10-Year

Treasury note

Spending behavior on large purchases, like automobiles, have a positive relationship with consumer confidence.

Auto industry is international so appreciation of USD lowers export rates and industry revenues.

Trade-weighted

index

Key External DriversThe automobile industry is sensitive to macroeconomic pressures


Supply ChainThe automobile industry is heavily dependent on its suppliers

The public or car rental

leasing companies

New car dealers

• Paint manufacturing

• Steel manufacturing

• Battery manufacturing

• Parts manufacturing

Automobile Wholesalers

Buying Industri

es

• Electronics manufacturing

• Steering manufacturing

• Brakes manufacturing

• Interior manufacturing

Selling Industri

es


Cost StructureAuto manufacturers are cutting costs to bounce back from bankruptcy


Value0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

4%5%

77%

3%3%2%6%

Industry Costs (2015)

OtherRent & Util-itiesMarketingDepreciationPurchasesWagesProfit

‣ Largest percentage of costs are inputs, including engines, transmissions, etc.

‣ Wages falling, but still large due to labor contracts and inflated salaries

‣ Manufacturers that work with UAW Union will struggle to compete with mass-market, lower priced cars

‣ Renewed profitability due to:

‣ Lower labor expenses

‣ Improved retail sales

‣ Greater credit access

‣ Increasing consumer confidence

International TradeNAFTA inflated trade statistics between US, Mexico and Canada


Exports ($57.3bn) Imports ($159.8bn)Germany;

10%Saudi

Arabia; 7%

All Oth-ers; 43%

Canada; 25%

China; 15%

Germany15%

Mexico12%

Canada29%

Japan27%

All Others17%

‣ HIGH and INCREASING

‣ High rate of exports to Canada due to NAFTA restrictions and location of manufacturing plants near Great Lakes

‣ China’s growth as export market due to rising affluence and standard of living

‣ HIGH and INCREASING

‣ High rate of imports from Canada and Mexico due to NAFTA restrictions

‣ International automakers moving assembly plants to Mexico to lower labor costs

Products & Market SegmentationLuxury and sports cars only comprise 17% of the market

Spor

ts C

ars

Luxu

ry C

ars

Compa

ct a

nd S

ubco

mpa

ct C

ars

Midsiz

e an

d Fu

ll-Size

Sed

ans

0%5%

10%15%20%25%30%35%40%45%

5%

12%

41% 43%

Product Segmentation (2015)

Renta

l Com

panies

Gover

nmen

t

Expo

rts

Dealers

Who

lesa

lers

0%

10%

20%

30%

40%

50%

60%

11%

5%

54%

20%

12%

Market Segmentation (2015)

17%


Competitive Landscape

Luxury Car IndustryHighly fragmented industry driven by consumer spending and interest rates


‣ Industry is highly fragmented with independently owned dealerships

‣ Luxury car dealers sell new and used vehicles, provide routine maintenance, repair and warranty services

‣ Price is secondary to customer service, staff training programs, single-point service, low-pressure experiences

‣ Market split between large and small companies

‣ Large companies: offer greater vehicle variety and well-stocked lots

‣ Small companies: offer boutique experience and individualized customer service

‣ Product segments

‣ Price: lower, middle, upper

‣ Type: sedan, SUV, sport luxury, super luxury

Luxury car = vehicle costing over $30,000

Barriers to EntryThe automotive industry has high and steady barriers to entry

Competition

MEDIUM

Technology Change

HIGH

Regulation & Policy

MEDIUM

Industry Assistance

HIGH

Concentration

MEDIUM

Life Cycle Stage

MATURE

Capital Intensity

HIGH


Internal Basis of CompetitionCompetition in automotive industry is medium and increasing

PriceFuel

EconomyStyling Reliability

‣ Each car class (compact, mid-size, etc.) has range of prices

‣ Similar vehicles, which are marketed to different customers will be priced differently

‣ Price varies according to personalization and higher add-ons

‣ Automakers redesign vehicle’s styling every five years

‣ Recently redesigned cars sell in higher volumes than other cars

‣ Redesigning a vehicle is not always a profitable venture if customers prefer the outgoing model

‣ Reliability concerns are lesser since domestic auto makers caught up to international auto makers, like Toyota and Honda

‣ Quality control procedures and manufacturing equipment have improved among domestic companies

‣ Consumers have shifted away from cars with low fuel economy (SUVs & trucks) towards compact and mid-size cars

‣ Manufacturers offer environmentally friendly options, like hybrid-electric, electric & clean diesel engines

‣ Shift from naturally aspirated engines to forced-induction engines


Leading Luxury Car BrandsIndustry is becoming dominated by Japanese and German brands


• German-owned, manufactures premium cars under BMW, MINI and Rolls-Royce names

• 17 global production facilities with external partners in emerging markets (e.g. India, Thailand)

• 2014 unit sales = 339,738; 9.8% annual change(50% revenue from Europe, 50% from US & China)• Subsidiary of Volkswagen, manufactures premium automobiles and armor-plated security vehicles

• Entering small, high-powered motor industry to acquire Ducati and launching diesel technology in N.A.

• Financial services offers financing, Audi Visa Signature credit card, Liberty Mutual insurance

• 2014 unit sales 182,011; 15% annual change (75% revenue from Europe, 50% from US & China)

• Division of Japanese-based Toyota, manufactures passenger cars, utility vehicles and sports cars

• Distinguishes itself from competitors with early-adoption of hybrid technology, quality and reliability

• 2014 unit sales = 311,389; 13.7% annual change • German company, which symbolizes status, success and good taste; celebrated by

popular culture• First mover in luxury autos in early 1900’s; differentiates with variety, luxury

features & safety measures• 2014 unit sales = 356,136; 6.5% annual change

• Launched during 1980’s under Japanese company Honda with only two models• Differentiated with low ownership costs but struggled to expand product line and

lacks niche market• 2014 unit sales = 167,843; 1.5% annual change

Luxury Car Market ShareCar & Automobile Manufacturing in 2015


BMW (BMW)

Mercedes-Benz* (Daimler)

Lexus (Toyota)

Audi (VW)

Cadillac (GM)

Acura (Honda)

Infiniti (Nissan)

Lincoln (Ford)

Volvo (Volvo)

Land Rover (Tata)

Porsche (VW)

Jaguar (Tata)

Maserati (Fiat)

Bentley (VW)

Other**

0 2 4 6 8 10 12 14 16 18 20

17.6

17.1

16.1

9.4

8.8

8.7

6.1

4.9

2.9

2.7

2.4

0.8

0.7

0.2

1.6

Luxury vehicles: United States premium vehicle market share 2014 U.S.

HHI =

1189

Pricing Strategies

Pricing StrategiesLuxury car manufacturers employ several pricing strategies

1 Value/Premium Pricing

32nd Degree Price Discrimination

1st Degree Price Discrimination2

• Options• Leasing• Secondary Market• Inter-temporal

• Willingness to Pay• Income• Bargaining Skills

43rd Degree Price Discrimination• Military Discounts


Value/ Premium PricingPremium pricing is the primary strategy employed

Companies use value-based pricing to set prices on the customers’ perceived value instead of the cost or production or historical prices.Only a small population can afford to purchase luxury automobiles, which furthers its perception of luxury and exclusivity.


$263,200Rolls Royce Ghost

$16,950Toyota Corolla

• Cost of manufacturing for luxury cars is not necessarily higher than economy vehicles

• Profit margins for luxury vehicles are significantly higher because of boosted revenues

• Advertising focuses on brand and image rather than cost savings and efficiency

Luxury Car ProfitsManufacturers with luxury cars have higher profits

BMW Volkswagen Mercedes Honda Nissan GM Ford Chrysler0%

1%

2%

3%

4%

5%

6%

7%

8%

Pro

fit

Marg

in (

%)

Predominantly EconomyLuxury or Major Luxury Lines


Communications Manager James Warren

“Rolls Royce is the ultimate expression that you have made it.”

1st Degree Price DiscriminationLuxury car manufacturers attempt to gather all consumer surplus

Charging a different price to each consumer based on their perceived WTP

Elements

Income (Credit Check)

Willingness to Pay

Bargaining/Negotiation

2

3

1P

P’

P’’

A

B

C

Pricing down the demand curve this

captures all

CONSUMER SURPLUS


2nd Degree Price DiscriminationLuxury car manufacturers utilize several 2nd degree strategies

Designing a menu of alternatives to allow consumers to self-select based on different willingness to pay

1 Options

3 Secondary Market

Buying vs. Leasing2

4 Inter-temporal Pricing


OptionsLuxury features provide additional surplus extraction

Rear Wheel DriveAll Wheel DriveMSRP starting at

$54,275MSRP starting at

$56,775


+$5,640• Premium Package

1• Sport Package• Radio: Command

w/ Navigation & Voice

+$9,305• Premium Package

1• Lighting Package• Sport Package

+$15,895• Redline Package• Premium 1

Package• Drive Assistance

Package

Mercedes e350 2015

$25,965 $24,565Toyota RAV4 2015

--

==

$2,500$1,400

Difference

Mercedes e350 2015 Packages

Secondary Market PricingSecondary luxury vehicles sell for significantly less than new cars

FACTORS

Age

Mileage

Repairs

Information Asymmetry4

2

3

1

Quality Uncertainty5


Vehicle DepreciationLuxury vehicles tend to depreciate more in value

0 2 4 6 8 10 12 140%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Standard (15% per year) Luxury (20% per year)

Years

Valu

e o

f C

ar

Left

Source: Based on data from Kelly Blue Book (Assumes 15% dep./yr and 20% dep./yr for standard and luxury automobiles, respectively


1 2 3 4 5 6 7 8 9 10 11 12 13 14 15$0.00

$10,000.00

$20,000.00

$30,000.00

$40,000.00

$50,000.00

$60,000.00Standard Luxury

Years

Cum

ula

tive D

epre

cia

tion

Cumulative DepreciationCumulative depreciation losses from luxury cars are nearly double

Source: Based on data from Kelly Blue Book (Assumes 15% dep./yr and 20% dep./yr for standard and luxury automobiles, respectively

Avg Price: $55,763

Avg Price: $32,086


25%of all new car transactions are leases

Inter-temporal PricingThe innovation adoption lifecycle illustrates inter-temporal pricing


INNOVATORS EARLY ADOPTERS EARLY MAJORITY LATE MAJORITY LAGGARDS

Willingness to Pay Economies of ScalePatience

INNOVATION ADOPTION LIFECYCLE

3rd Degree Price DiscriminationAutomakers charge different prices to certain demographics


Seller charges different prices to two or more different buying groups with different demand elasticities.

These groups can then be differentiated based on characteristics such as, age, location, or sex.

United Services Automobile Association (USAA)* Members Receive Up to $7,000 in Member Discounts

BMW ChevroletMercedes-Benz

*USAA is a member-owned Fortune 500 company that serves members of the military and their families with insurance, banking, investment and financial service products

Raw Data Analysis

Raw Data Component

GoalsWe intend to analyze several factors that may have an effect on the average price paid for a luxury vehicle.

Raw data analysis can provide insight into key pricing strategies


2 Education

4Dealership Effects

Population3

5Regional Differences

Analysis Points

Income1

Hypothesis

Higher education will lower price with better bargaining

More competition will lower price paid

Higher population lowers information asymmetry

Sparsely populated regions will have higher prices

Higher incomes will be more susceptible to premium

6Extrema Comparison

Price insensitivity with high income individuals

DataOur sources provide us with adequate tools for our analysis

BMW 5 Series StatisticsMedian $50,553.00Average $51,170.32Standard Deviation $1,559.02Maximum $54,161.00Minimum $48,843.00

Elements

50 random zip codes

Car prices from truecar.com

Consistent model (BMW 5 Series Base)

Demographic data from zipwho.com

4

2

3

1

Dealership data from Kelly Blue Book

5


Median IncomeMedian income does not seem to have an effect on final price paid

$10,000.00 $20,000.00 $30,000.00 $40,000.00 $50,000.00 $60,000.00 $70,000.00 $80,000.00 $90,000.00 $100,000.00$46,000.00

$47,000.00

$48,000.00

$49,000.00

$50,000.00

$51,000.00

$52,000.00

$53,000.00

$54,000.00

$55,000.00

f(x) = − 0.0202773311400721 x + 52205.0417920812R² = 0.0456452017690829

Median Income

Ave

rag

e P

rice

Pai

d


Education

0.0% 10.0% 20.0% 30.0% 40.0% 50.0% 60.0% 70.0%$46,000.00

$47,000.00

$48,000.00

$49,000.00

$50,000.00

$51,000.00

$52,000.00

$53,000.00

$54,000.00

$55,000.00

f(x) = − 437.382097346232 x + 51292.0521853334R² = 0.00140005964849987

College Degree (%)

Ave

rag

e P

rice

Pai

d

Education does not seem to have an effect on final price paid


PopulationPopulation does not seem to have an effect on final price paid

0 10,000 20,000 30,000 40,000 50,000 60,000 70,000$46,000.00

$47,000.00

$48,000.00

$49,000.00

$50,000.00

$51,000.00

$52,000.00

$53,000.00

$54,000.00

$55,000.00

f(x) = 0.0300052659126422 x + 50173.1513972933R² = 0.0289500109228333

Population

Ave

rag

e P

rice

Pai

d


26%of surveyed luxury dealerships were BMW

Market Space: BMW, Mercedes, Audi, Acura, & Lexus

Luxury Dealership FrequencyHigher income areas tend to have more luxury dealerships

$20,000.00 $30,000.00 $40,000.00 $50,000.00 $60,000.00 $70,000.00 $80,000.00 $90,000.000

2

4

6

8

10

12

f(x) = 9.92290288454978E-05 x + 0.246039534107695R² = 0.270645863473438

Median Income

Lu

xury

Dea

lers

hip

s


BMW DealershipsMore BMW dealerships in the area do not seem to alter the price

0 1 2 3 4 5 6 7 8$46,000.00

$47,000.00

$48,000.00

$49,000.00

$50,000.00

$51,000.00

$52,000.00

$53,000.00

$54,000.00

$55,000.00

f(x) = 37.8077969174977 x + 50984.3230583258R² = 0.00116641521319272

Number of BMW Dealerships

Ave

rag

e P

rice

Pai

d


BMW Dealerships/CapitaBMW Dealership/Capita does not affect prices

0 0.00005 0.0001 0.00015 0.0002 0.00025 0.0003 0.00035$46,000.00

$47,000.00

$48,000.00

$49,000.00

$50,000.00

$51,000.00

$52,000.00

$53,000.00

$54,000.00

$55,000.00

f(x) = 884929.294650944 x + 50984.3230583258R² = 0.00116641521319305

Number of BMW Dealerships/Capita

Ave

rag

e P

rice

Pai

d


Luxury DealershipsMore luxury dealerships in the area does not seem to affect price

0 2 4 6 8 10 12 14 16 18 20$46,000.00

$47,000.00

$48,000.00

$49,000.00

$50,000.00

$51,000.00

$52,000.00

$53,000.00

$54,000.00

$55,000.00

f(x) = − 22.726079825041 x + 51227.6836939259R² = 0.00489187916598122

Number of Luxury Dealerships

Ave

rag

e P

rice

Pai

d


Luxury Dealerships/CapitaLuxury dealerships/capita does not seem to affect price

0 0.0001 0.0002 0.0003 0.0004 0.0005 0.0006 0.0007 0.0008 0.0009$46,000.00

$47,000.00

$48,000.00

$49,000.00

$50,000.00

$51,000.00

$52,000.00

$53,000.00

$54,000.00

$55,000.00

f(x) = − 531926.624384911 x + 51227.6836939259R² = 0.00489187916598122

Number of Luxury Dealerships/Capita

Ave

rag

e P

rice

Pai

d


GeographyGeography does not seem to have an effect on final price paid

$51,086.33

$50,980.00

$51,087.17

$51,729.63WEST

MIDWEST

SOUTHEAST

NORTHEAST


Significance TestThere are no statistically significant differences across regions

Statistic Valuen 50σ $1,559.02

μ$51,170.3

2α 5.0%

Region Value Z-ScoreProbabili

tySignifican

t?

Northeast$51,086.

33 -0.38 35.2% No

Southeast$50,980.

00 -0.86 19.4% No

Midwest$51,087.

17 -0.38 35.3% No

West$51,729.

63 2.54 99.4% No| INDUSTRY BACKGROUND | | COMPETITIVE LANDSCAPE | | PRICING STRATEGIES | | RAW DATA ANALYSIS |

Average Price PaidLower income areas may pay more for luxury cars

Mahopac, NY Beverly Hills, CA$49,000.00

$50,000.00

$51,000.00

Avera

ge

Tacoma, WA Oakland, CA$49,000.00

$50,000.00

$51,000.00

Avera

ge

Top Two Income Bottom Two Income


Price SpreadLower income areas experience greater price spreads


Mahopac, NY Beverly Hills, CA$0.00

$500.00

$1,000.00

$1,500.00

$2,000.00

$2,500.00

Sta

ndard

Devia

tion

Tacoma, WA Oakland, CA$0.00

$500.00

$1,000.00

$1,500.00

$2,000.00

$2,500.00

Sta

ndard

Devia

tion


SkewHigh income areas have a lower price sensitivity


Mahopac, NY Beverly Hills, CA0

0.5

1

Skew

Tacoma, WA Oakland, CA0

0.5

1

Skew


Unobserved FactorsDespite our results, pricing strategies could still be in play

Potential Unobserved Factors

Negotiating Ability: Individuals who understand the value of money may be better negotiators

Heterogeneous Demographics: Areas with a wide range of demographics can lead to higher spreads

Perceived Value of Money: Some individuals may more be frugal no matter income levels

Geography: Individuals may require different vehicles depending on the terrain/climate

4

2

3

1

Information Asymmetry: Knowledge of automobiles is not homogenous among consumers

5


Raw Data ConclusionsOur analyses do not seem to yield any distinguishable relationshipsThe data reveals that the initial hypotheses are not supported by the data.

Dealership frequency does not seem to impact luxury car prices

The correlation coefficients are not strong enough to support any relationship.

The differences in prices paid for a BMW 5 Series across geographic regions is not statistically significant.


More granular data points and more accurate data is required to determine the actual relationships.

Questions/Comments?

Appendixhttp://www.goodcarbadcar.net/2015/01/usa-auto-sales-brand-sales-results-2014-year-end.html

http://www.edmunds.com/lexus/?mktcat=lexus-type&kw=new+lexus&mktid=ms17110224

http://www.edmunds.com/mercedes-benz/

http://clients1.ibisworld.com/reports/us/industry/default.aspx?entid=816,

https://johnson.library.cornell.edu/databases

http://subscriber.hoovers.com/H/industry360/overview.html?industryId=1910,

https://johnson.library.cornell.edu/databases

http://images.forbes.com/forbesinsights/StudyPDFs/automotive-outlook_report.pdf

http://www.statista.com/statistics/281574/size-of-the-luxury-car-market/

http://truecar.com/

http://kellybluebook.com/

http://zipwho.com/

Luxury Automobile Industry Luka Jankovic, Alexa Davis, Laila Judeh Spring 2015 AEM 4160: Strategic...

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