Stock update: Carvana

In this video update, Paul Moore, Chief Investment Officer and Portfolio Manager, Global Strategies, and Kevin Bertoli, Portfolio Manager, Australian and Asian Strategies, discuss one of PM Capital's short positions, Carvana.

What is it?

  • Online used car dealer operating in the US.

  • Buys vehicles from individual sellers or through wholesale channel and takes direct inventory risk.

  • Provides end to end car buying solution for consumer. Importantly for a large percentage of the transactions completed on its platform Carvana provides financing to the buyers, many of whom are sub-prime. Delivers vehicle to consumer.

  • Loans originated are moved off balance sheet, primarily through securitization.

What attracted us to Carvana?

  • Made substantial investments globally in online classifieds and marketplace businesses and Carvana overlaps a lot with the auto classified businesses we’ve covered so came across the business through this process and understand the ecosystem.

  • Rapid share price appreciation through Covid-19 and valuation stood out as an anomaly relative to the lower capital intensive, higher returning marketplace businesses as well as the traditional auto dealers, like Carmax (PM Capital also has a short position in Carmax).

  • A posterchild of today’s easy money environment.

  1. How investors approach valuation.
  2. Tailwind for auto financing and securitisation.

  • A lot of hype around TAM stocks and the ability of businesses like Carvana to disrupt the incumbent used car sales model by moving online. The term ‘Amazon of used cars’ has been widely used and when we see these headlines they always attracts our attention.

PM Capital thesis?

  • At a minimum we view the business as an overhyped and overvalued used car sales channel.

  • Extent of the online disruption questionable and model is proving to be repeatable by others (Vroom, Shift, Carmax, GM etc etc...).

  • Ultimately a subprime financier leveraged to availability of cheap credit masquerading as an internet disrupter. More than anything else, aggressive financing has been central driving volume growth. Ability to continue this will drive operational success or failure.

  • Eventual unwinding of strong used car market in US and the environment of ultra accommodative credit should provide a reality check for TAM investors. We've witnessed the strongest used car market ever in US and still remains unprofitable.

  • Will need to raise capital to continue growing top line.

  • Management's very aggressive long-term targets are well beyond metrics of a traditional used car dealer. Many investors are taking these unproven long-term assumptions and discounting at artificially low discount rates. Highly likely these are too optimistic.

  • Material governance and accounting red flags which should not be overlooked. Increase downside opportunity.

  1. Questionable background of founding shareholders
  2. Questionable accounting treatment of securitisations
  3. Operational issues arising i.e. title transfer delays.

PM Capital closed out the Carvana position on Friday 4 March 2022 at $103.74.