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The Future of Car-Buying is Here

You can’t trust a used-car salesman. Everybody knows that.

But how about a publicly traded used-car stock?

Should you trust your money with one of those?

Today, I’m going to take a look at two of them.

One stock is a hot, new stock market darling… while the other is worth buying.

This Popular Used-Car Stock is a Lemon

Carvana (CVNA) has revolutionized the used-car business with its online business model.

It is a red-hot stock too — having raced from $10 in May 2017 to $65 today.

Vroom-Vroom!

Here is how the business works…

Founded in 2012, the intention of Carvana was to change the way that people buy used cars.

With its online business model, a customer does not have to drive to the used-car lot and doesn’t have to haggle with a shady used-car salesman.

Sounds good to me.

Through the website, Carvana.com, customers can peruse through a selection of more than 15,000 different vehicles and make a purchase any hour of the day.

With purchase, next-day delivery or pick-up can be scheduled, with the pickup taking place at one of Carvana’s eye-popping “Car Vending Machines.”

Carvana

This business makes sense. Eliminating the physical dealership cuts costs which allows Carvana to pass those savings onto the customer.

Those poor used-car salesman now have a major competitive disadvantage.

Customers obviously love the savings and not having to deal with those used-car salesmen.

Customers also love the fact that Carvana provides a 100-day/4,189 mile “Worry Free Guarantee” and allows for a no-questions asked 7-day immediate return.

Trade-ins aren’t a problem either.

An appraisal process can be completed online by the customer for their existing car and the value of which comes off the purchase price.

I like the Carvana business a lot.

But there are a couple of things that I really don’t like.

The first is the sticker price.

At a $65 stock price, the market is effectively valuing the Carvana business as being worth $10 billion. Cleary a very big number, but especially big for a company that has yet to post an annual profit.

Call me old fashioned, but I like my $10 billion companies to make money!

But I get it, this is a growth story. Sometimes young, fast-growing businesses don’t make any money during the first rapid-growth phase…

Which brings me to the second thing that I don’t like: there is really no barrier for a competitor to enter the online used-car business.

And whoops… a much stronger competitor just did exactly that.

CarMax Has Six Times the Car Sales – But Almost the Same Valuation

CarMax (KMX) is the 800-pound gorilla of the used-car business.

CarMax operates 200 used-car dealerships across the country and makes good money doing it — a claim Carvana can’t yet make.

The scale of the CarMax business has serious advantages.

CarMax offers customers by far the largest selection of cars. Because the business is so large, the company gets much better pricing when stocking that used-car inventory.

In 2018, CarMax grew earnings by 28% to $850 million which was a continuation of a long line of rapid, profitable growth.

At the recent share price of $88, CarMax has a market valuation of just under $15 billion.

That is just 50% higher than the $10 billion valuation that the stock market values Carvana at.

Now here is where things don’t quite add up for me.

For that 50% higher stock market valuation, CarMax offers investors:

  • A business that sells 6 times as many cars per year
  • A business that actually makes money — $850 million last year alone (Carvana lost $70 million)
  • A newly launched online business that can offer customers everything Carvana’s business model does

Number three is a big problem for Carvana.

CarMax has successfully rolled out its own online used-car business called Omnichannel, which means everything that investors like about Carvana’s online model is now available with CarMax.

The only difference is that CarMax is a much stronger, much more profitable, and much more attractively valued stock.

At current market valuations, Carvana is the lemon…

At 16 times earnings and growing at over 20 percent per year, CarMax is the only used-car model that investors should be taking out for a test ride.

Here’s to looking through the windshield,

Jody Chudley

Jody Chudley
Financial Analyst, The Daily Edge
EdgeFeedback@StPaulResearch.com

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Jody Chudley

Jody Chudley is a contributing analyst to Lifetime Income Report and Contract Income Alert. Jody is a qualified accountant with a degree in Finance from Brandon University. After spending fifteen years in various finance and planning roles with an international financial institution, Jody set out to manage his portfolio on a full-time basis.

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