Last year was a huge wake-up call for many businesses, especially Carvana (CVNA -0.76%). It leaned heavily on ultra-loose monetary policy to fund its unprofitable growth over much of the past decade. Elevated inflation forced the Federal Reserve to rapidly hike interest rates, and it has created a softer macro environment that completely changed the company's prospects in a short amount of time. Shares have plummeted as a result.
But just because Carvana's stock is down a whopping 97% since the start of 2022, it doesn't mean that shareholders who are sitting on unrealized (or realized) losses right now can't still learn from a potential mistake. In fact, here is one important thing that Carvana's impressive rise and now pronounced struggles can teach investors.
Carvana's growth prior to 2022 was absolutely dizzying. In 2014, the e-commerce used car retailer posted revenue of $42 million and sold 2,105 cars. In 2021, Carvana was able to generate revenue of $12.8 billion, with 425,237 retail units sold. And these ridiculous gains attracted investors to the company that was disrupting the massive $1.2 trillion U.S. used car industry.
Then 2022 came, and it was a different story. While sales were up 6% year over year, higher costs resulted in a net loss of $2.9 billion, compared to a $287 million net loss in 2021. Rising interest rates also called into question the company's survival, prompting Carvana's major creditors to agree to work together in a possible financial restructuring.
To its credit, the management team probably made the right moves from a strategic perspective if we look backward. Investing in its recognizable vending machines and huge reconditioning centers, as well as acquiring ADESA for $2.2 billion, were moves made for Carvana to penetrate more markets and expand across the country. After all, Carvana's pitch to shareholders was that at a certain level of scale, the company would be firmly profitable, so it made sense to try and get there as fast as possible.
What if the leadership team took a more cautious approach? While this situation protects against the unpredictable, like a recession, it could have paved the way for a competitor to be more aggressive and take the market share that Carvana was going after.
What Carvana executives should've done a better job of was planning for an adverse economic scenario, particularly since this company is so capital-intensive. In fact, all management teams should adopt this approach, preparing for the worst, even a recession. The good times don't last forever, and Carvana found this out firsthand.
For past and present Carvana shareholders, the takeaway from this mess is that you should be much more cautious about companies that rely so much on robust macro conditions for their success. Another way to think about it is to be a bit more skeptical when looking at businesses that depend on factors largely outside of their control. The benefit of this perspective is that unpredictable events, like high inflation and the rising interest rates put in place to slow it down, won't be as damaging.
To be fair, this argument can apply to even the soundest and most profitable enterprises, like Alphabet and Mastercard, for example. The former relies on a strong economy so the digital ad market can grow. And the latter also doesn't like recessions, as this means consumer spending and travel will be under pressure. But the key is that they have proven their ability to weather any storm that comes their way, thanks in large part to their competitive advantages and sound financial positions.
Carvana, on the other hand, isn't in this same boat. Just look at the variables this company needs working in its favor to grow and succeed. Carvana needs low interest rates to make purchasing used cars affordable for consumers, but it has zero control over market interest rates. What's more, the business needs used car prices to not decline as they did in 2022 so its inventory doesn't depreciate too quickly, forcing Carvana to sell at lower gross margins than anticipated. And these problems are exacerbated by the fact that the business has a massive debt burden and doesn't consistently produce positive net income.
Although I maintain a small position in Carvana today, as I hope the company can successfully navigate the current rough seas and eventually expand its market share as I had originally thought, I will try and direct my investment focus going forward to businesses that have more control over their own fates. Maybe you should follow this path, too.