Carvana(NYSE: CVNA) started out with the ambitious goal of revolutionizing the way people buy used cars. It was looking to do this by using the power of the internet. For a long time, the company grew at a rapid clip. But in 2022, things took a turn for the worse. Management is currently executing on a three-step plan to get back on the growth track. But one key detail seems to be missing from that plan.
Carvana's business takes off
To give credit where credit is due, Carvana did grow its business at a shocking clip. In the first quarter of 2014, it sold roughly 300,000 used vehicles. By Q2 2022, it had boosted that quarterly figure to a peak of 117.6 million. In roughly six years, the used car retailer went from a pipsqueak to an industry giant competing with long-tenured peers such as Carmax(NYSE: KMX). That's impressive.
CVNA EPS Diluted (Annual) data by YCharts.
There's only one problem. While Carmax was a solidly profitable business, Carvana wasn't turning a profit at all. To be fair, growing a company requires spending money. So some red ink is understandable. However, Carvana's losses got really ugly in 2022 as it was forced to take one-time write-offs. The problem boiled down to a management team that had focused too heavily on growth and perhaps lost sight of the big picture. Pursuing growth at any cost can lead to bad outcomes. The stock is still down by more than 50% from its high-water mark.
Chastened by a run-in with large debt holders that were getting worried about Carvana's future, management decided to pull back. From a broad perspective, that meant rightsizing the business. In 2023's second quarter, the company sold 76.5 million used cars, well below the peak level it hit in 2022. But that was a part of the company's three-step plan.
There's something missing at Carvana
So far, management is hitting its goals. Step one was to get to positive adjusted EBITDA (earnings before interest, taxes, deprecation, and amortization). It did that in the second quarter, and expects to repeat the feat in the third quarter.
The second step of the plan is to "drive the business to significant positive unit economics." Basically, management wants to improve the average profit it earns on every used vehicle it sells. In the second quarter, gross profit per unit was $6,520, up from $3,368 a year earlier. So it looks like there's good progress being made here, as well.
The last step in the plan is, "after completing steps 1 and 2, return to growth." That sounds great, at first. Basically, steps one and two are about getting back to basics to create a strong foundation. Step three is about returning to the long-term goal of growth.
But wait a second: Significant positive unit economics is not the same thing as generating earnings. It is, basically, just gross profit per vehicle sold. The math on that is effectively taking sales and subtracting the cost of goods sold (which is the cost of the used cars it buys) and dividing by the number of cars sold. After that point, there are still a lot of costs to running a business, including selling, general, and administrative expenses and interest costs. At the end of the day, the goal of generating positive earnings is missing from Carvana's turnaround plan.
Going in the right direction, but perhaps not going far enough
Pulling back and working on the core business was clearly the proper decision for Carvana. Management had pushed a little too hard on the accelerator pedal before. Now, it appears to be making admirable progress toward its stated goals as well. But for investors pondering Carvana stock, there's still one big question that needs to be asked: When will the company be profitable?
At this point, that's not even a stated goal. That should make more conservative investors a little bit worried about the plan to return to growth, since last time, its period of growth without earnings ended with huge stock price declines.
10 stocks we like better than Carvana
When our analyst team has a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*
They just revealed what they believe are the ten best stocks for investors to buy right now... and Carvana wasn't one of them! That's right -- they think these 10 stocks are even better buys.
*Stock Advisor returns as of October 2, 2023
Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends CarMax. The Motley Fool has a disclosure policy.
