If you've shopped for a used car in the past three years, you've undoubtedly noticed that prices are elevated. While it's true prices are up, the good news for would-be buyers is that they are starting to fall. And this price drop may also be good news for vehicle auction leader Copart (CPRT -1.14%).
Copart is an under-the-radar company that also happens to be a market-crushing stock over the long term. Its price is up 195% over the past five years and 704% over the last 10. That's why I'm particularly interested in what could be in store for it, considering the recent shifts in the used car market.
Copart's business and used car prices
When a car is in an accident or damaged during a natural disaster, insurance companies have a choice to make: Pay to repair it, or declare it "totaled." If a vehicle is totaled, insurance companies then need to get rid of it, and they look to Copart for help. Copart sells vehicles via auctions to people who either want to fix them or dismantle them for parts. According to the company's filings, in 2022, 80% of the vehicles sold through Copart's online vehicle auctions in the U.S. came from insurance companies.
When used car prices are high, it can sometimes make more sense for insurance companies to pay to fix them rather than replace them. To be clear, Copart is somewhat insulated from this risk because higher used car prices can translate into higher purchase prices in its auctions. However, management lists high used-vehicle prices as a potential hindrance to its revenue growth.
This seems to have manifested in Copart's recent financial results. Its quarterly revenue growth rate has fallen below its 10-year average, as the chart below shows.
CPRT Revenue (Quarterly YoY Growth) data by YCharts.
The good news is that used car prices are coming down. According to the Manheim Used Vehicle Value Index, prices hit an all-time high in January 2022. But as of mid-January 2023, prices are down by about 14% from that peak.
Moreover, it's possible that this plunge is just getting started. Historically, the value of the Manheim Index has been around 130 to 140. But right now, it's over 220. This suggests that prices could drop another 40% or so, assuming that they're going to come back in line with historical levels.
If used car prices keep falling, it could help to reaccelerate Copart's revenue growth rate in the coming year.
Why Copart is a great business
The vast majority of Copart's business involves selling vehicles on behalf of insurance companies, not vehicles Copart owns itself. Just 18.5% of the company's revenue during its fiscal 2022 (which ended in June) came from the sale of vehicles it owned outright. The rest was service revenue.
This is consistent with Copart's financial results in the first quarter of 2023, during which only 18.6% of revenue came from its vehicle sales.
Copart is able to mostly avoid the less-attractive business of selling vehicles, and focus on the more-attractive business of charging service fees to sell other businesses' vehicles. And its service revenue is far more than just taking a cut when a car sells at auction -- Copart offers around 20 services, including vehicle transport and getting paperwork from the DMV. These higher-margin services support an enviable operating profit margin well north of 30%.
CPRT Operating Margin (Quarterly) data by YCharts.
To defend its stellar margins, Copart has for many years used its cash to strengthen its competitive advantages. It has grown from a single lot in 1982 to over 200 locations in 11 countries today. This gives Copart the scale to source vehicles wherever they may be (particularly in the U.S., where most of its locations are).
An operation of this size attracts quite a few buyers. Copart calls its registered buyers "members," and it now has over 750,000 of them. This is another component of Copart's competitive advantage: Its insurance-company customers want to ensure quick sales and top prices, which a company of Copart's size can consistently offer.
There's clearly a lot to like about Copart stock, and I believe it could be a good long-term investment. And there's more to this company than what's covered here. However, I do want to leave you with one final thing to consider.
Copart earns impressive profits and does a good job of using those profits to grow its business. And repurchasing shares or paying a dividend is rarely the best use of capital. Therefore, it didn't repurchase any shares in 2020, 2021, or 2022. But it is authorized to repurchase over 81 million shares -- 17% of shares outstanding -- whenever it sees fit.
It's comforting to think that Copart's management is committed to using cash to grow shareholder value in the most efficient way. And if the stock falls to a level where the company views it as having become undervalued, management will likely take advantage of the opportunity, giving shareholders a big boost.
