Carvana’s Tale of Debt and Losses Looks a Lot Like Old Hertz

(Bloomberg) — Shares of Carvana Co. more than doubled in the month leading up to Thursday’s awful fourth-quarter earnings report.

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By the time the numbers hit shortly after the US market close, it was clear that optimism had been gravely misplaced. The online used-car dealer had lost almost $7,400 on every vehicle it sold in the quarter. Sales tumbled 23%, and it had burned through $1.8 billion in cash.

The reality of those numbers sunk in Friday as the stock plummeted almost 21% to $8.01 on Friday, the most since December. JPMorgan analyst Rajat Gupta gave up trying to figure out a price target for the shares, saying that with Carvana’s massive debt — currently at $7 billion including leases — there is no value to the stock.

The whipsaw was reminiscent of what happened to Hertz Global Holdings Inc., a Carvana partner that saw retail traders spike its share prices even as it drove toward bankruptcy.

“As Hertz was approaching bankruptcy, it was a meme stock,” said Bloomberg Intelligence analyst Joel Levington. “Carvana is similar because the short interest is so high, but things aren’t getting better from an operating standpoint. First quarter could get worse than fourth quarter in terms of performance.”

There are other similarities. Both companies loaded up on far too much debt and both had been buying up cars before prices tumbled. Hertz was worse off with $1 billion in cash and $24.4 billion in debt before filing for bankruptcy in 2020. Carvana has $434 million in cash, about $1.5 billion in committed facilities and $7.1 billion in long-term debt and leases.

Right before the pandemic, Hertz had been turning over its fleet. The company was selling off older cars that didn’t hold value and had less appeal at the rental counter. Former Chief Executive Officer Kathy Marinello was replacing the aging fleet with new SUVs that renters liked and that would have better resale value.

Carvana wanted to capitalize on soaring used-vehicle prices in 2021 and early 2022 and bought up cars, amassing and inventory of about 90,000 vehicles between March and June, right at the market’s peak, said John Tomlinson, research director at M Science. Then prices began to fall.

Arizona-based Carvana has been trying to curb losses on its inventory by keeping prices up and buying fewer vehicles, but the result has been cars sitting on lots for an average of 100 days, which is five times longer than in May when the semiconductor shortage left dealers with a death of cars, Tomlinson said.

“They were trying to sell a bunch of stuff at higher prices so it’s sitting on the lot,” Tomlinson said. “Dealers will take pain on margin to clear out old inventory. Carvana is in a spot where they are trying to manage profitability so they want to be careful not to discount too much.”

All that inventory is expensive to carry in interest and maintenance and is burdening the company as it tries to reduce costs to match lower sales volume, Tomlinson said. Still, Carvana said it will cut costs by $100 million a quarter this year.

Ironically, Carvana’s success is important to Hertz and its controlling shareholder Knighthead Capital Management, which bought Hertz out of bankruptcy in 2021. Carvana lists the rental company’s used cars for sale on its platform.

Knighthead is also among the leaders of a group holding more than $4 billion of Carvana’s debt. That group, which includes other credit market heavyweights like Apollo Global Management Inc. and Pacific Investment Management Co., banded together late last year to form a united front as Carvana’s outlook worsened.

Management isn’t yet talking bankruptcy or a restructuring. Chief Executive Officer Ernie Garcia said the company wants to avoid needing to borrow or raise more money. He insists that investments in new markets will pay off and that Carvana’s gross profit per vehicle of $2,219 — half of what it was a year ago — hit a trough in the fourth quarter and should recover.

“We’ve got a real shot at not requiring additional capital,” Garcia said, citing the company’s $2 billion real estate portfolio as one potential source of funds. “If we’re wrong, then we have lots of ways to go out and get additional capital.”