Automobile manufacturers rely on an extensive network of approximately 20,000 independently owned dealers for sales and service of their vehicles. Dealers provide the local connection between manufacturers and car buyers, and the dealership system is one of several linchpins in the complex web of relationships that make up the U.S. automobile industry. Automakers and dealers alike agree on the importance of this relationship. At a June 2009 congressional hearing, Fritz Henderson, then-President and CEO of General Motors Corporation (GM), said, Simply put, a strong dealer body is vital to GM's success. Indeed, for many customers, our dealers are the "face of GM"—so this effort [dealer network restructuring] is critically important to the successful reinvention of General Motors. At the same hearing, the chairman of the National Automobile Dealers Association (NADA) quoted from a commissioned report which states, … the automobile dealers support the manufacturers' efforts by providing a vast distribution channel that allows for efficient flow of the manufacturer's product to the public at virtually no cost to the manufacturer. While there is a consensus about the overall role and value of the dealer network, manufacturers and dealers have demonstrated that there is a wide gulf between them on the appropriate size of that network, the flexibility of the dealerships in running their business, and the GM and Chrysler visions of how the dealer network should perform going forward. In June 2009, Chrysler eliminated 789 dealers, 25% of its dealer network. GM has announced it will reduce its dealer network from 6,000 to approximately 3,600, to take effect in October 2010 when its contracts with dealers around the country are up for renewal. According to the NADA, the GM and Chrysler dealerships slated for elimination had more than 100,000 employees. Dealers are not alone in facing a tough realignment. The highest level of new-vehicle sales this decade, including domestically-produced and imported autos, was recorded in 2000, with new vehicle sales of 17.3 million, while sales in 2009 were 10.4 million units. All parts of the auto supply chain have had to make what are seen as wrenching changes. In addition to closing multiple plants, cutting thousands of union and white-collar jobs, and curtailing many supplier relationships, both Chrysler and GM made reducing and reshaping dealerships a key component in their restructuring. At issue for Congress are the decisions made by the Bush and Obama Administrations in aiding GM and Chrysler and the impact of their bankruptcies on dealers, retirees, bondholders, and other stakeholders. This report examines the size and scope of the U.S. automobile dealer network, its origins, and its economic contributions. It also examines the role of states in franchising, as well as federal legislation and actions in the development of the present auto dealership business model. It presents the arguments put forward by GM and Chrysler, on one hand, and dealers on the other, regarding the large scale termination of dealers as part of these two manufacturers' bankruptcy cases. The report concludes with a summary of recent Congressional interest and actions with regard to the U.S. auto dealer network. CRS Report R40736, Mandating Dealership Agreements for Automakers Receiving Federal Funds: Constitutional Analysis , by [author name scrubbed], [author name scrubbed], and [author name scrubbed], examines several of these legislative proposals. In the early 1900s, automakers often sold their vehicles directly to consumers. However, that system did not work well because the manufacturers were often far away from their ultimate customers and they found the expense of setting up a nationwide network of company-owned stores to be prohibitive. In their book on the auto supplier industry, Thomas Klier and James Rubenstein describe Ford's early experience with selling cars: Ford did set up company-owned stores called branch houses during the first decade of the twentieth century. Located in major cities, branch houses were staffed by Ford employees who received a salary plus a bonus based on sales. By the 1910s, though, Ford had abandoned direct selling. Ford could not open branch houses fast enough to meet demand, nor could it find enough qualified people to staff the branches. More crucially, Ford officials concluded that salaried employees were not sufficiently motivated to sell cars. According to an industry analyst writing in the 1920s, "If a dealer has a financial interest in his own company, he is found to be much more satisfactory than a branch manager, who has practically no financial interest in the branch." As discussed in more detail later in this report, the dealer franchise system emerged as a way for the automakers to market, finance, and service motor vehicles. Dealers are independent businesses that enter into contracts with the manufacturers to represent those manufacturers, selling and servicing their cars locally. Most of the investments and capital risk of providing these services are borne by the dealer. Over time, state legislatures in every state passed franchise laws to govern the relationship between dealers and manufacturers. The goal of these laws, which are not uniform, is—in the eyes of the dealers—to equalize the relationship between small businesses (i.e., the dealers) and large companies (i.e., the manufacturers). According to James Surowiecki, the laws have had their desired effect: These laws do things like restrict G.M. 's freedom to open a new Cadillac dealership a few miles away from an old one. More important, they also make it nearly impossible for an auto manufacturer to simply shut down a dealership. If G.M. decided to get rid of Pontiac and Buick, it couldn't just go to those dealers and say, "Nice doing business with you." It would have to get them to agree to close up shop, which in practice would mean buying them out. When, a few years ago, G.M. actually did eliminate one of its brands, Oldsmobile, it had to shell out around a billion dollars to pay dealers off—and it still ended up defending itself in court against myriad lawsuits. As a result, dropping a brand may very well cost more than it saves, since it's the dealers who end up with a hefty chunk of the intended savings. Under the franchise system, the manufacturers and dealers have found different ways to make money. All dealers are not the same; some have one or more large stores selling one or more brands in one or more metropolitan areas, while others operate smaller dealerships in towns or rural areas. Some dealers focus more on selling new cars and others put more attention on service and selling used cars. … G.M. makes money (when it does) on new cars and on the financing of loans. Dealers, by contrast, make most of their money on servicing old cars and selling used ones. So dealers can thrive even when the automaker languishes. And at the state level they often have more political influence than automakers do. In the late nineties, for instance, local dealers were challenged by companies that wanted to sell cars over the Internet. In response, some states, including Texas, actually passed laws making it illegal to have a business selling cars online (unless you already owned a local dealership), and regulators told Internet companies to cease and desist. When Ford itself started experimenting with online sales, dealers' vigorous objections (along with legal challenges) caused the manufacturers to quickly retreat. More than 57% of dealer sales stemmed from new vehicles, nearly 29% from used-car sales, and more than 14% from service and parts sales in 2008. New-vehicle sales, however, are becoming an increasingly less profitable segment of the dealer business. Dealer profits in new-car sales have evaporated and, since 2005, dealers have generally not made a profit on their new-car departments, "slipping below breakeven." Used-car sales and service work result in greater profits. According to the NADA, dealers make an average of more than $100,000 on used-car sales and as much as $350,000 through their service and parts departments. In 2007, U.S. new-car auto dealers sold more than $758 billion in motor vehicles, directly employed over 1 million men and women, and supported an annual payroll of over $54 billion. New-car dealerships have a substantial presence in their communities, with an average of 54 employees, receiving wages of $48,339 a year per employee, for an average dealer payroll of $2.6 million. There is a wide variance in dealer size and performance in different states. For example, the average sales per new-car dealership range from $71 million in Arizona to less than $16 million in Vermont. California has nearly 1,500 new-car dealers, and Alaska has 35. Total U.S. auto industry sales have been on a downward trajectory for nearly a decade. As shown in Table 1 , in 2006 and 2007 there were over 16 million new cars and light trucks sold in the United States, but only 13.2 million units were sold in 2008 and 10.4 million units in 2009, the lowest annual sales since 10.35 million were sold in 1982, also a recession year. Although the seasonally adjusted annual sales rate in the first six months of 2009 was only 9.5 million new vehicles, the cash for clunkers program in July and August and a rise in sales in December helped boost the annual sales of new vehicles for the full year. According to some analysts, U.S. auto sales may not return to more than 12 million units per year until 2012 or later. U.S. auto dealers, automotive manufacturers, suppliers, and workers have all been directly affected by the national recession, credit crisis, and the deteriorating economic situation in the United States. The result has been the worst consumer-spending slump since the 1940s and the worst market for automobile sales since 1982.