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CarMax Grows, but at Too High a Price

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Used-auto behemoth CarMax (NYSE: KMX  ) released earnings this week that came in above expectations and sent the stock to a new 52-week high. Given the high average auto-age in the United States, coupled with continued macroeconomic trepidation, used-car sales appear to have a strong future. Yet, at 19 times forward earnings, the company known for its no-nonsense auto pricing has a stock price that looks mighty rich. Here's what you need to know about CarMax going forward.

This past week, CarMax released its fourth-quarter and year-end results. From the look of things, 2012 was marked by more vehicle sales and higher average selling prices. Retail used-vehicle sales boosted up more than 10% for the year to 447,000 cars -- aiding a record revenue figure of nearly $11 billion. By the company's own estimates, CarMax represents 6% of the used-vehicle market with cars aged zero to six years. For the year, net earnings rose 5% to $434 million.

Part of this year-over-year growth is attributed to the 10 new stores opened throughout the year -- the most since 2008. As part of this growth, SG&A costs rose more than 10% to $1 billion. Marketing campaigns are incredibly important for the company to stay competitive with peers such as AutoNation (NYSE: AN  ) , but investors need to keep an eye on these SG&A increases to make sure they are yielding an appropriate return on the sales front.

Store openings will continue to ramp up, with the company projecting 13 new stores for fiscal 2014.

Financing business
A big part of CarMax's business is in customer financing, unsurprisingly. With interest rates remaining very low, and a multiyear trend toward tighter spreads, I believe it will be hard for the company to enhance profitability from this segment, regardless of volume increases. Once the tide changes and interest rates begin to rise, we will likely see the increased scale from store openings leverage the profit potential of the financing business -- but again, this is not on the horizon yet. In the company's conference call, management acknowledged this scenario.

CarMax is on an encouraging growth trend, and management reports that the new stores are meeting their internal expectations, and in some cases surpassing them. For the growth investor compelled by the recovering economy and aging auto figures, CarMax could be a good medium-term investment. However, when compared to its closest peer, AutoNation, the stock's growth may already be priced in.

AutoNation trades at a forward P/E of just under 14 times, compared to CarMax's nearly 19 times forward one-year earnings. CarMax is a much bigger company than AutoNation, and its growth runway might not be appealing enough to warrant the higher valuation. Both companies, unsurprisingly, sit on large amounts of debt.

Although CarMax looks to be on the right track for the coming months and years, the stock is just too expensive for my taste. Investors can find more appealingly priced stocks that play on similar trends in the industry.

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  • Report this Comment On April 17, 2013, at 10:18 PM, prginww wrote:

    Bought some of this stock after evaluating comments of other Fool analysis who have been steadily recommending it. Now this article that contradicts these recommendations comes along. Who do you trust?

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Related Tickers

9/27/2016 10:06 AM
KMX $54.00 Up +0.41 +0.77%
CarMax CAPS Rating: ****
AN $47.90 Up +0.08 +0.17%
AutoNation CAPS Rating: ***