The Carvana Case Study

Together with Cognitive Credit:

Welcome back!

Today we’re going to talk about Carvana - its rise, its fall, what everyone got wrong, and why the stock has traded so strongly. There’s a lot of information about Carvana online but this is one of the more important credit stories an investor can learn about. Why? Because so many people got it wrong (including myself) and left money on the table. 

I posted this the other day on Instagram - if you didn’t buy something, and it outperformed, then you were wrong. Every time you pass on a Company that outperforms, you are wrong, and you need to think about why you were wrong so you can improve going forward. If you get the timing wrong on a catalyst or event, then you were wrong. There’s only so many companies someone can buy, and some would rather just invest passively, but if you’re comparing your returns to a passive index and underperforming because you didn’t buy a name or two then you need to fundamentally examine why this is the case. This is hard for people who carry an overly bearish tone, or who think inside a box, to swallow but do you want to make money or do you want to win useless hypothetical brownie points? 

The biggest rule in Credit is that everything has a price. Carvana eventually hit a “screaming buy” price that not many investors hit because it didn’t meet their typical criteria of what constitutes a good investment. So let’s remove that type of blockage from your mind and get into this deep-dive of Carvana.

What was initially an ugly duckling, hasn’t looked back since its Sept. 2023 restructuring - the company quickly saw significant margin expansion, improved unit economics and solid FCF.

Now obviously this isn’t financial advice, and not to say Carvana is a “Buy” “Sell” or anything else today - it’s to say, similar to Tesla, “Hey look there was a massive inflection point and the stock shot higher - you can be a Bear today, but if you were a cranky bear on the way up, you need to evaluate your process because you missed something.”

History:

Based in Tempe, Arizona, Carvana was started in 2012 by Ernest Garcia III, Ryan Keeton, and Ben Huston. The idea came to Garcia III at a wholesale car auction, where he noticed people were deciding on cars after looking at them for just 30 seconds. That’s when he realized the whole process could be done online. But the company’s roots start all the way back in 1990 with his father, Ernest Garcia II. In 1990, Garcia II was found guilty of bank fraud regarding his role in the Lincoln Savings Bankruptcy, having hidden ~$30mm in risky investments; he was sentenced to 3 years of probation and forced to cooperate with the prosecuting attorney in the landmark national case of the failure of Lincoln Savings (chairman Keating was charged with 73 counts of fraud, racketeering and conspiracy and sentenced to 12 and half years). However, Garcia II also built an automotive empire in Drivetime, which started with the purchase of Ugly Duckling’s assets in 1991. At that time, he merged his own financing company with the newly acquired used car retailer to create a company targeting subprime borrowers with poor credit histories. In 1996, the business flourished and ultimately went public. However, shortly after, in 2002, the company’s CEO and Ernest Garcia decided to take the company private once more and operate it independently. Today, Drivetime (newly named) is known for its proprietary credit scoring model and large operations, with annual revenues of ~$750mm.

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