These are the best of times for car buyers. Statistics on all aspects of performance and reliability are easily available, along with tools that suggest what a car is “really” worth relative to the manufacturers’ suggested retail price. Yet one key piece of information is usually overlooked, even though it affects the discounts that car companies offer.
The plant where a vehicle is built can play a key role in the final price, according to research by Antonio Moreno, assistant professor of managerial economics and decision sciences at the Kellogg School of Management, and Christian Terwiesch, professor of operations and information management at the Wharton School.
The reason has to do with a transformation in auto manufacturing over the past several decades. For much of the twentieth century, U.S. companies built cars in plants that were “inflexible”—that is, they were dedicated to building a single car. Beginning in the 1960s, though, Japanese manufacturers introduced “flexible” assembly plants, meaning that multiple models could be built in them.
U.S. companies have gradually adopted the same strategy over the past few decades. The great benefit is that it allows them to respond rapidly to shifts in consumer demand. When gas prices rise, for example, they can immediately decrease production of gas guzzlers and increase production of more fuel-efficient cars.
Using flexible plants, “you’re going to be able to follow the market much more closely,” said Moreno. “So you’re not going to have to produce things that the market doesn’t want.”
For car buyers, the key point is that the shift to flexible manufacturing is far from complete. New, state-of-the-art factories—like the Lansing Delta Township Assembly plant opened by General Motors in Michigan in 2006—are flexible. It encompasses nearly 3.5 million square feet, and three different models are built there.
But many of the plants still in use, especially in the U.S., were built many decades ago. Some date back to the early twentieth century. When cars built in these inflexible plants fall out of fashion, price discounts are the main tool for closing the gap between supply and demand.
Vehicles made in flexible plants, on the other hand, requires less discounting. Moreno and Terwiesch found that flexible manufacturing allowed companies reduce their discounting by about 10 percent compared with the industry average.
All of which means that a car buyer who is mainly interested in getting a good deal should look for one made in an inflexible assembly plant. She should also be aware that other factors influence how good that deal might be.
The variables
Timing is crucial. The effect on discounting is greatest when there is a high level of volatility in the market—meaning that consumer tastes are shifting rapidly. The negatives of inflexible production are most acute during those periods, and the advantages of flexible production are magnified. Companies that move swiftly to meet the rising demand profit from their nimbleness.
But not all flexibility is equal. The actual mix of cars built in a plant matters. If one is fuel efficient while the other is a gas guzzler, for example, the company can quickly respond to movements in demand in either direction. But if both cars are gas guzzlers, it means little that they are built in a flexible plant if demand shifts toward fuel-efficiency. Price discounts will still be needed to sell them, most likely.
The competitiveness of local markets makes a difference, too. When there is a high level of competition in a market, dealers can be forced to offer incentives even on cars that are in high demand and are built in a flexible plant. In that context, buyers expect incentives. The easy access to other options gives them the upper hand, which “limit[s] the ability of manufacturers to use flexibility to sustain higher prices,” Moreno and Terwiesch write.
In brief, the ideal scenario from the perspective of a buyer mainly interested in price is a car that has fallen out of fashion and was built in an inflexible assembly plant. For auto companies, the ideal scenario is to build cars in flexible plants, with each plant producing models that respond to very different market preferences—though the best-case scenario for sellers can be undercut by a high level of competition in the marketplace.
Why, then, do some manufacturers still use inflexible plants? The answer has to do mainly with the costs of upgrading factories or building new ones.
“Some firms are better off not being flexible,” Moreno said, “because the investment they would have to make is tremendous. So they prefer to live with giving discounts.”
Knowledge is power
The car industry is of special interest to scholars because it is simultaneously vast and narrow. It relies on a dense network of suppliers, but it produces a relatively small number of products that lend themselves well to analysis and comparison. It is also a major influence on the U.S. economy, accounting for about 3 million jobs and 5 percent of gross domestic product.
But a lack of information about selling prices has long prevented the kind of analysis that Moreno and Terwiesch have done, because there is often a gap between the manufacturers’ recommended price and the actual selling price. Until recently, no one had good data on the latter.
To fill that gap, Moreno and Terwiesch collaborated with a market-research firm that collects numbers on manufacturers’ incentives, TrueCar.com. Combining that data with sales, production, and plant data, they analyzed the effects of changing market conditions on production and price levels. The starting point for their analysis is 2002. Since the car industry was (and still is) undergoing a transition from inflexible to flexible manufacturing, they were able to track the before-and-after effects of flexible manufacturing on specific models.
Though information about assembly plants and the cars they produce may seem obscure, Moreno said that it is easily available. With a bit of online searching, any consumer can learn where a car is built and what other vehicles, if any, are built in that plant. The Wikipedia page for a specific model, for example, lists the plant where it is built.
For anyone more interested in getting a good deal than owning the most fashionable car, that small investment of time may be well worth the payoff at the dealership.
(prepared using contributions from Theo Anderson, the Kellogg Insight team, and the authors)
Reference:
Moreno S, Terwiesch C, (2015) “Pricing and Production Flexibility: An Empirical Analysis of the U.S. Automotive Industry”, Manufacturing & Service Operations Management. Permalink: http://dx.doi.org/10.1287/msom.2015.0534
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