Why is selling direct a bad thing?


One of the most interesting games in the capitalist town is the notion of vertical integration or direct selling. If we start very small scale, one shop may operate as a bakery, and sell its bread and cakes to the local population. So the cost to the buyer is the cost of raw materials, labor, general overheads and a profit margin. Now let’s make this a larger operation. The bakery expands its production capacity and can make enough bread and cakes to supply five shops in the city. Although there’s a transport cost added, the customers are still getting a good deal. But once the manufacturer introduces independent distributors, the cost to the public rises substantially. The manufacturer has its costs and makes a profit. It’s the same for the wholesaler and for the shops that buy the products. So the customer is now support three sets of operating costs and profit margins. You may have noticed the big dispute between Amazon and Hachette. The publisher wants the right to control the prices at which its product is sold. The distributor is claiming the right to set the retail price. Just think how much cheaper ebooks would be if all the publishers sold direct to their readers.

So here comes Tesla and it’s claiming the right to sell its very environmentally friendly electric cars directly to its willing customers. This should not be a problem except that, over the decades, the car-dealerships in all the major states banded together into trade associations and spent some heavy lobbying money on having local lawmakers put laws in place to protect them. Most of these laws were designed to prevent manufacturers from abusing their dominant positions. Remember dealers have to buy their inventory from the manufacturers. That’s a large cash outlay and, if manufacturers could use that debt as leverage, they could force the dealers to do their bidding or lose the businesses.

When Tesla began opening its own retail outlets, the trade associations went angrily to the state district attorneys and had the courts issue injunctions. Now the Supreme Court of Massachusetts has set aside the injunctions in that state. Tesla can now sell its luxury cars directly. Needless to say, the local dealerships are outraged, but the court gives a clear win to Tesla. It says the law was not designed to cover this situation. It only prevents manufacturers in existing relationships with dealers from abusing their position. It does not apply to direct selling. Indeed, the state’s laws are designed to prevent limits on competition. If Tesla sells directly, that’s good for competition and the market benefits. This is great news for Tesla because similarly drafted laws have been applied in other states like New Jersey. With Massachusetts now giving a pro-competition ruling, it’s hoped other courts will take the same view of their local laws. This could mean one of the safest cars gets cheaper to sell. If volume production increases through the new factory, everyone should benefit.

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