From the Up to Speed blog:

In any industry, top-performing management measures, tracks and makes decisions based on key performance indicators and metrics. In the auto industry we tend to focus on market share, unit volume, gross per unit, net profit as a percentage of gross, and so on. Typically auto industry metrics and key performance indicators are focused on volume and profitability efficiencies.

Over the last six to seven years, as technology has advanced and influenced a shift in consumer behavior, there has been a shift in dealer focus to measuring and tracking return on investment. Dale Pollak, the founder and CEO of vAuto, has been consistently bringing a different perspective to the used car business. This perspective is to measure and track your used car operation’s return on investment as opposed to volume and net profit.

So you might be asking what does this have to do with the price earnings ratio of my management team?

Well, as anyone in the industry well knows, the cost of entry and capitalizing an auto dealership today is enormous. We now have publicly-traded companies in the retail automobile business and if you’ve read any financial reports on those companies, they track and measure return on investment in most of their profit centers. They have brought a different perspective to the auto industry.

When you’re considering investing in a publicly-traded company, a key metric that is always quoted is the price-to-earnings ratio. If you are in the merger and acquisition business, you’d be looking at an earnings multiple to establish a business enterprise value. The inverse of that would be to look at the return on investment per year.

Let’s take a look at the price-to-earnings ratio, or the return on investment per year of a department manager in your dealership. For sake of discussion, let’s assume that a department in your dealership generated an annual departmental net profit of $500,000. Let’s further assume that the manager’s annual compensation for that department amounted to $150,000. From a return on investment or “multiple,” the manager generated a 3.3 return on investment ($500,000 divided by $150,000 equals of 3.3 multiple). You invested $150,000 in compensation and generated a return of $500,000.

Let’s take another example. Just for comparison, we’ll assume an annual departmental net profit of $1,000,000 and annual manager’s compensation of $200,000, and we’ll use the same formula ($1,000,000 divided by $200,000 equals a 5 x multiple). In this case, you invested $200,000 in compensation and generated a return of $1,000,000.  Obviously from an ROI multiple perspective, the $200,000 manager is a better investment than the lower-priced $150,000 manager.

The question is, if you evaluated each one of your departments and managers from a return on investment perspective, what level of multiples is your management compensation generating for you?

Written by Joe Basil of NCM Associates.

Read the original article on the Up to Speed blog, here.