TrueCar Deal Makes Waves Against E-commerce Used Car Companies

1 Thessalonians Chapter 5 verse 11 states, "Therefore encourage one another and build each other up, just as in fact you are doing."

This Bible verse is very straight forward and yet so easy to mess up. I personally find myself constantly working on letting go of the typical negative reaction to a lot of information, especially on social media. As a Christian, I am accountable to God's word and if I am doing anything opposite of encouragement, then I am in direct conflict with God's will. This is important to imbue, especially as it unlocks a lot to be thankful for, leading to a virtuous cycle of finding ways to encourage others.

For investing, I find this to be extremely important. It is very difficult nowadays to engage in productive investing discussions, especially on social media. To this point, I try to offer objective information and data that is useful, while also contributing through my experience and knowledge. My primary goal is to create a platform for engaging investment topics, exclusive of tit-for-tat dynamics.


News came out yesterday that TrueCar, Inc. (TRUE) acquired Irvine, California based Digital Motors. All leading e-commerce used car sales companies were down hard including Carvana Co. (CVNA), Shift Technologies, Inc. (SFT), and Vroom, Inc. (VRM), while legacy leaders like AutoNation, Inc. (AN) and CarMax, Inc. (KMX) were unaffected. Today was mixed with traders playing trends.

CVNA is still a $10 billion EV-valued company versus the likes of TRUE's $62 million EV valuation. With companies like CVNA, SFT, and VRM being completely dependent upon debt to sustain their business, it's not surprising to see yesterday's SP action. It's also not surprising to see TRUE's action muted despite the news, as the market is suggesting that TRUE isn't anything special, but that it's moves are more concerning for e-commerce used car sales companies.

Key Takeaways

In one word, the primary key takeaway is Debt. Companies like CVNA, SFT, and VRM are all facing perpetual Debt challenges as each company continues to scale its business. This doesn't mean traditional peers like AN or KMX are in far better positions, especially KMX, but TRUE's move is interesting as TRUE is one of the few companies competing with a more pristine B/S.

Clearly legacy peers are driven by a dependence on Debt, and E-commerce focused plays are following suite. It should be noted that CVNA's information assumes the updated capital raises that have occurred post Q1 2022, placing the company as the largest Debt holder.

The other important factor is the increasing dependence on Debt for E-commerce plays. Both VRM and CVNA have witnessed this trend. In VRM's case, the company touted an asset-light approach that has begun to morph into a more asset-intensive need, thus the inverse relationship of Cash to Debt performance. CVNA has been on a spending spree since the beginning with substantial ramping of late.

The other critical component is Adjusted Free Cash Flow. Both companies continue to struggle with respect to ROI. With CVNA approaching $16 billion in Revenue, it is definitely a concern for much smaller peers like VRM and SFT as they will likely need to continue to invest heavily to compete. We are already seeing the issues of this as CVNA is still expected to see stable robust growth for units delivered as VRM has stumbled substantially with declines anticipated for 2022 and muted expectations for 2023.

Growing Debt and continued Cash Burn with no end in site is not the best confidence builder for investors. But the industry should be expected to be challenging as even KMX has struggled of late and only AN has proven that its model can consistently provide an ROI.

CVNA is still poised to take substantial market share if the company can continue to execute. But with today's move by TRUE, the concern is that other competitors like AN and KMX may look to pivot towards e-commerce more aggressively with even automotive OEMs like Ford Motor Company (F) or General Motors Company (GM) following this transition. Today's trading for these companies gives me the sense that the market isn't excited either for this possible transition as it may mean greater Debt needs as well.

Why it Matters

CVNA is currently trading with a premium to its peer group at 0.7 times EV/Sales, followed by KMX. This makes sense as KMX is the market leader, but CVNA is projected as the stronger growth candidate and future leader over time. However, in the end, CVNA will inevitably be doing what has always been done and if the company cannot offer superior margins versus the legacy business model, today's premium is at risk of fading later.

TRUE provides an asset-light model and as such has GMs near 90%, while AN's GMs are currently near 20% as the company's exposure to new vehicles are higher margin sales. CVNA is the clear e-commerce used vehicle leader with GMS north of 13%, even besting KMX, while SFT and VRM with GMs towards 7%.

As an aggressive growth investor, I'm not interested in companies like TRUE, AN, or KMX because they are no longer innovative leaders. VRM has already cracked and is in a weak position. SFT likely will need to spend more to grow. And it remains to be seen whether CVNA's Cash infusion will truly lead to positive Adjusted FCF over time, or whether further capital will be required.

Paying attention to these trends and opportunities is important for the sole reason that if CVNA can win over the next five years, the company will be a potentially massive investment opportunity from today's prices - keeping to the current EV/Sales multiple, this could translate to a 45% annualized return over the mid-term.

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