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Is Carvana a Buy After Falling 93% From Its All-Time High?

Many growth stocks and story stocks have experienced sharp declines during the current market sell-off, but few have endured as spectacular a fall from grace as Carvana (NYSE: CVNA). Shares have fallen all the way from a 52-week high of $376 last summer to just $24.27 today. That is a long way to fall — and keep in mind that the $24.27 price includes a 13% jump last Friday. So why is Carvana down so much, and is it a buy now?

Image source: Getty Images

What is Carvana and why are shares down? 

The Tempe, Arizona-based company is seeking to disrupt the used car industry with its online platform, which facilitates buying and selling vehicles online. I have personally used the platform and found it to be very convenient and a notable improvement on the traditional process of buying or selling a vehicle, which can often be a frustrating process. The company sends a truck to pick up your vehicle (if you’re selling to them), and delivers your vehicle right to your driveway as well. In my experience, it is easy to buy or sell from Carvana, and there is no haggling — the price for each vehicle is right on the website.

Carvana’s growth has been impressive, as it has become the second-largest seller of used vehicles in the U.S. in just eight years of existence. The company increased revenue by an eye-popping 129% from 2020 to 2021, from $5.58 billion to $12.81 billion, while also increasing the number of units sold by 74%, from 244,111 in 2020 to 425,237 in 2021. With an innovative approach that can disrupt and improve upon the status quo in a massive and fragmented market, combined with the supercharged growth it has achieved so far, it is easy to see why investors were enthusiastic about Carvana before market conditions changed.

Carvana shares have been down because the company is not profitable. The capital-intensive nature of its business plus its lack of profitability is not the ideal combination for this market environment. Carvana’s losses increased six-fold during the most recent quarter when compared to the year before. The situation was exacerbated when the company, which already had a considerable amount of debt, took on additional debt to buy ADESA’s physical car auction business. The debt raised for that deal comes with a high price tag in terms of interest payments, which spooked many investors. Some in the investment community are concerned that the company may eventually go bankrupt if it cannot improve its unit economics, eventually generating positive cash flow and paying down this debt.

What is Carvana doing to turn things around? 

The good thing is that Carvana management seems to be working to address the issues it is facing. As the capital-intensive business has burned through a lot of cash, management has not only raised more funds (through the aforementioned debt raise) but also projects that it will slow its cash burn considerably over the next several quarters. For example, while the company poured $220 million into capital expenses for the first quarter of 2022, it projects this expense will narrow to $150 million in the second quarter, $100 million in the third quarter, and just $50 million in the fourth quarter. 

As Carvana grows and gains scale, its unit economics on each vehicle are also improving. In 2015, Caravana made just $205 in gross profit on each vehicle. By 2021 this number had increased to $4,537. This large increase shows that the company has significant leverage and opportunity to improve its unit economics, especially as it grows. 

In May the company released an updated operating plan to investors which said it is shifting its focus to reducing SG&A, increasing profitability, and achieving positive free cash flow. These are all smart priorities for the company that should help to assuage investor fears as they are achieved.

Insiders are buying

While the stock is embattled, one green flag is that insiders look like they still believe in the company. Ernest Garcia II, an insider who owns over 10% of the company and the father of current CEO Ernest Garcia III, recently purchased nearly 2 million shares at an average price of $21.18 per share for about $42 million. Garcia already owns over 2.5 million Carvana shares, so he has significant exposure to the price of Carvana’s stock, and is clearly heavily invested in the company succeeding. This can be viewed as an encouraging sign that the people who know the company best believe it is undervalued and are confident in its long-term future. And it’s not just Garcia — multiple other members of the company’s executive management team have been buying as well.

Is Carvana a buy? 

It is always risky to try to catch a falling knife, but there is reason to believe that Carvana can turn things around and that the stock could be a good buy here with a positive risk-reward profile.

The company has accrued a lot of debt and is also burning money as it is not yet profitable, but the significant revenue growth that Carvana has achieved, and management’s new focus on making sure more of this revenue flows through to the free cash flow metric, make me optimistic that they can solve these issues as the company gains more scale and operating leverage. Carvana has demonstrated enviable revenue growth and volume growth thus far, indicating that its model seems to be working and appealing to consumers. With this type of growth and its innovative approach toward disrupting and improving upon such a large market, Carvana has the potential to be a good investment for risk-tolerant investors.

Michael Byrne has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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