What CarMax's Recent Report Tells Us About the Car-Buying Industry

In this podcast, Motley Fool senior analyst Bill Mann discusses:

• CarMax ending its fiscal year on a positive note.
• The "tell" within CarMax's earnings report.
• Why he's paying close attention to inventory levels.

Motley Fool personal finance expert Robert Brokamp and Motley Fool host Alison Southwick examine the tax filing process and how it could be easier.

To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our quick-start guide to investing in stocks. A full transcript follows the video.

This video was recorded on April 11, 2023.

Chris Hill: Don't look now, but the wheat and the chaff are about to get separated. Details in a bit. Motley Fool Money starts now. I'm Chris Hill, joining me in studio Motley Fool Senior Analyst, Bill Mann. Thanks for being here.

Bill Mann: What's up pal? How you doing?

Chris Hill: I'm doing well. I'd be doing better if I was a CarMax shareholder because that is the stock of the day, shares of CarMax are up more than 10% after fourth-quarter profits were nearly double what Wall Street was expecting. This a good day for shareholders. It has not been a great, let's call it 12 months or even five years. Let's start with the profits. Was this low expectations or was this something to be proud of? This is wrapping up the fiscal year on a positive note.

Bill Mann: So hard to say because I don't think that you come to an earnings report that's down 25% and revenues that are down sharply and say it was good, but it was not as bad as people believed it was going to be. Sometimes that's the game in investing. The shares were up 11% today. Their financial arm actually did, OK. There was some compression there, but not as bad as you think it might be in a world in which people are defaulting on car loans and interest rates are going up. Not all that bad, it's sometimes pretty good when it comes to investing and CarMax is a story of that today.

Chris Hill: I'm glad you mentioned the environment that all of this is happening in because this is an environment of rising interest rates. We are starting to see more of the stories that we started to see at the end of 2022 in terms of personal savings rates, rising personal debt, that thing. Is CarMax and for that matter, anyone whose business is selling cars, are they entering into a rough stretch here? Because it seems like an environment where if you have the cash and your credit is good and you don't need a car immediately, the second half of this year is setting up for some nicer prices for you.

Bill Mann: Yeah. I think that that's part of the issue. Keep in mind when companies report financing earnings, they're guessing in a lot of ways. One of the things they're literally extrapolating what debts they have out there. Which ones are bad? Which ones did the payment just not show up in the mail? There is some guesswork there. When I saw the revenues down at CarMax, I went back to a little anecdotal. Was last year trying to buy a car for my daughter and going and looking at a three year old Subaru Outback and having it be $3,000 less than a brand new Subaru Outback. The revenues at a company like CarMax they are a function of the nature out there what the pricing is. Pricing for used car last year was bonkers across the board, maybe especially for Subaru. But like across the board, it was bonkers. The fact that their revenues are down in a much more normalized market is no surprise to me at all.

Chris Hill: Do you take any solace in the fact that you are nowhere near the only person who went through that? Recently bought a car, was looking in 2022 and previously the last vehicle I purchased was from CarMax, had a good experience. You and I were talking before we started recording.

Bill Mann: Yeah.

Chris Hill: It's generally a good experience if you're at CarMax, particularly if you've done a little bit of research on your own, you go and you know what you want. They're kind of no-nonsense about that and that's great, but last year I was looking at the same thing you saw. I'm looking at cars that are 2, 3, 4 years old and it's basically the same cost as a brand-new car. I thought that's not the used [laughs] car environment I'm used to and comfortable with and I don't need the car immediately, so I'm going to wait.

Bill Mann: Yeah, we did deed the car immediately, but we ended up doing something else also with CarMax. The tell for CarMax is actually, I'm going to do a little bit of accounting geekery here, but so they have three areas of revenues. One is the used car sales that we understand, they do wholesale sales. The third is a line item called other sales and revenue and that is mainly their protection plans. You can actually see the change in the pricing of the cars as they compare to the steady state because that other sales and revenue line item is bigger this year than it was last year as a percentage of sales. That's where you can see where that pricing comes in. As far as CarMax is concerned, they're just selling cars. They don't actually care that much. I think they're probably happier now with pricing for cars at a more normalized rate than they were in 2022, but that's the tell that they actually did OK, because a number that tends to be more stable is a larger percentage of revenues than it was last year.

Chris Hill: The flip side for the current environment, the rising interest rates and the low expectations is we're heading into the high season for people who are in the business of selling cars. When you think about memorial day, for it is just all of the sales and promotions that are going to get pushed out. Do you think that might be a little bit of why we're seeing the stock pop the way it is today because you can argue it's being down. It's not a particularly cheap stock relative to the overall market, it's basically where the overall market is. Is part of what we're seeing an expectation like, we weren't expecting so much from you over the past three months.

Bill Mann: It's low season, so.

Chris Hill: But next six months, yeah CarMax, we're expecting more.

Bill Mann: Maybe. I know that's an awful answer, but maybe next question. I wonder how much of this has still been messed up and distorted by the pandemic. So much from the pandemic, I think we could say that a lot of those cycles got at least disrupted. Then we had the supply chain issues, which went directly into the insane pricing for used cars last year. Maybe that's as good a theory is. I didn't come up with anything quite that interesting, but I'm also not sure that we are back to a normal yearly cycle based on what we've experienced over the last three years.

Chris Hill: Let's move off of CarMax into the earning season that kicks off this Friday. What are you going to be watching, whether it's a company or a broader theme?

Bill Mann: It's actually exactly what we were just talking about with CarMax. If you think about what we went through in 2020, basically China shut down and China, primarily one of the primary factories for the world. 2021, 2022, we had shipping distortions, we had supply chain issues, had all areas where pricing got out of whack. You can think of almost any industry that happened, where companies were unable to get anything as simple as number 5, red dye and anything as complicated as superconducting chips. All of it was distorted. Then you come into the last quarter and a lot of companies ended up with a lot of inventory. Why did they take on that inventory? Why wouldn't you, during a supply chain crisis? You would rather have that in and sit on it, but I think this is going to be the first quarter in which we tend to see an unwinding of that. We're going to start to see companies that have actually shown a little bit of weakness over the last nine months, who are going to show us something because they're going to be getting back to a much more normal state and their financials and a lot of their structure will demonstrate it. That's what I think we're going to see.

Chris Hill: To the extent that we see surprises from different companies this earnings season. It sounds like you think some of those surprises will come in the form of inventory levels. Not so much, wow, the revenue was much higher or lower than expected. It's more like holy cow, look at their inventory levels.

Bill Mann: Exactly. It's going to show up not maybe so much in revenue, but show up in the cash dynamics of the company because that's where you see inventories going up and down and that's where they get reflected the most. We've already seen that for example with Lululemon, which reported last week, which had inventory issues and they are now coming back down to earth. You're starting to see the smarter managements out there, really start to build in a little bit of a return to normal by virtue of not being so fearful about the next shipment not coming in. They don't have to worry about that as much anymore.

Chris Hill: In terms of commentary from different companies on earnings calls, do you think we are entering into a period where the companies that aren't performing as well, particularly on inventory levels, are running out of places to hide? Because no longer in an environment where it's like boy, everyone is getting hit by this. Do you think we're going to see a separation of some companies are going to show real improvement in inventory levels and lesser performers are like, everyone is seeing this. It's like, no, not everyone.

Bill Mann: Not everybody anymore. I think that's exactly right. In business there are cycles. At the top and the bottom of the cycle, there is almost no way to tell the difference between a well-run company and a poorly run company. I think you're going to start to see a lot of dispersion now that we haven't seen in the last couple of months.

Chris Hill: Bill Mann great to see you. Thanks for being here.

Bill Mann: Thank you, Chris. 

Chris Hill: Why do you need to do your taxes when the IRS most likely knows what you already owe them? Robert Brokamp and Alison Southwick take a closer look at the uniquely American tax filing process and one company that's happy to keep it that way. 

Alison Southwick: There's something uniquely American about complaining about taxes, not just complaining about having to pay them. But the active having to sit down, rifle through W-2s, 1099, 1098s and more, and then enter all those numbers into the interwebs just to tell the government a bunch of information it already knows. Is this what T.S. Elliot meant about April being the cruelest month? Filing tax is so boring, so complicated. For a large percentage of Americans, so unnecessary.

Robert Brokamp: Yes indeed every year we Americans receive several forms that have documented all or most of the important tax-related information that we need. In most cases, the IRS has received the same info, which means it has everything it needs to fill out their turns for millions of Americans, for example, how much were you paid by your employer last year and how much did you contribute to your 401(k)? Well, it's all right there and your W-2. What about interests from your bank? Check out your 1099-INT. What about your broker, the 1099-B. How much did you get from Social Security? It's right there on the SSA-1099. Most of the documents that get sent to you are also sent to Uncle Sam. Yet we're required to look at these forums, enter all this info into some software or something, or pay someone else to do it and then calculate whether we're due a refund or if we owe money and if we get it wrong, we'll get a notice from the IRS because they knew the answer all along.

Alison Southwick: According to the IRS, add it all up and we're talking 6 billion collective hours lost to the drudgery of filing taxes. That could be better spent playing pickleball. Couldn't the government just crunch the numbers, send a check or a bill and call it a day? Doesn't that sound so much easier?

Robert Brokamp: It does, and it's called return-free filing. It's actually already done in more than 30 countries, including Germany and Japan, and the United Kingdom. The way it works varies from country to country. But here in America, you could easily imagine a system in which you just receive an already completed return from the IRS with the amount of your bill or your refund, you check it over, check if it's accurate, and if you agree, you just accept it. That accurate part is important, if you have some form of income that wasn't reported then you would have to do your return the old-fashioned way. 

This wouldn't be a license to cheat. You can certainly see how this wouldn't work for many Americans like business owners, independent contractors, the government probably doesn't have enough to do their returns. The option to do your own return or hire a CPA to do it for you would still be available, perhaps because you're eligible for deductions or credits the IRS doesn't know about. But even that's less likely these days because the standard of deduction is so high, only a little more than 10% of households itemize their deductions. Most Americans don't get a tax benefit from things like charitable donations or mortgage interest and stuff like that. The bottom line is, for the majority of Americans who receive a paycheck from an employer or who are retired, the IRS has all the info it needs, plus some form of pre-completed return would cut down on two of the most common tax mistakes. People accidentally inputting the wrong numbers or people forgetting about some item they were supposed to report.

Alison Southwick: There had been attempts to make it easier for Americans to pay their taxes, but those attempts have been thwarted. Who could possibly benefit from unnecessary complexity in our tax system? Well, what about the tax prep industrial complex? It sounds so evil when you put it that way. What's a friendlier name for these folks, bro?

Robert Brokamp: I'm fine with the tax prep industrial complex because it is big business. Costs Americans more than $30 billion a year to do their taxes. The companies making those billions don't want Uncle Sam doing some of the work for people. Let's talk about one notable effort to help at least some people with their taxes. I'm going to give the abridged version here, but you can read some excellent reporting on this in a series of ProPublica articles. Back in 2002, there was a proposal for the IRS to develop a free tax preparation tool. The industry, particularly Intuit, the maker of Turbo Tax wasn't too keen on that. Thanks to its lobbying efforts, it got congress people to agree that the IRS shouldn't create something that competes with private companies. They struck a bargain. The IRS wouldn't create a tool and a coalition of software companies agreed to provide free filing for a percentage of Americans, generally those with lower incomes. 

At the time it was lauded as the excellent public private partnership, and it still exists today. You could do an online search for IRS free file and you'll find the page on the IRS website. In many ways the participating companies really are providing an excellent service for free but here's the catch. While the federal return is free, you may have to pay for the state return or you may be marketed other services such as things like audit insurance or loans. In some instances, people thought they would be able to file for free but once they got to the end of the return and they're ready to hit that submit button there was a charge because they had to incorporate some tax form or something like that. In fact, last year into it agreed to pay $141 million to people who were charged for their returns when they should have been free.

Alison Southwick: If the act of filing taxes is a bummer. We'll should we all be thankful that we can pay someone else to do it for us. Just throw money at that problem, OK sure, but this also creates an opportunity for low-income people to be taken advantage of and we're not talking necessarily about Intuit or the big tax prep industrial complex. According to The New York Times, for millions of low-income Americans, tax season means the biggest one-time influx of money all year. Thanks largely because of the earned income tax credit. We're talking billions of dollars in total goes from Uncle Sam to working low-income Americans. The degree of scruples by tax preparers in these neighborhoods varies. Prices are often not disclosed upfront. They're often opaquely deducted from the refund. In fact The New York Times talks to one person who has charged $400 or roughly a quarter of a refund. How about a little tax fraud? Don't mind if I do. Another person they talked to learned that his tax had been claiming a full-time college credit on his returns, inflating his refund and taking half for herself.

Robert Brokamp: Since we're talking about how the current system can be challenging and particularly for poorer people, I'll mention another program sponsored by the IRS, but operated by local organizations as well as AARP. It's called the Volunteer Income Tax Assistance Program or VITA. Trained volunteers prepare tax returns for free for people who meet certain criteria, such as their income is below a certain level and the criteria varies from organization to organization. One of those volunteers is yours truly and is a great program that helps a lot of people but what I've seen as I've prepared these returns, is that the way the U.S. does withholdings could be really confusing, particularly because with some forms of income, especially for those who have gig work or they're independent contractors, no taxes are withheld unless you request it. I've done returns for people and then have to tell them they owe $1,000, $2,000 or more dollars. 

Part of that is the taxes that they should have paid and part of it is from penalties because you're expected to pay taxes out the year. These are often not people who have that type of money just lying around and the looks on their faces when I tell them what they owe, it just breaks your heart. There's some level of personal responsibility here. They should have requested to have money withheld or they should have paid their estimated quarterly taxes. But the default should be to have something withheld from all forms of income and allowing people to opt out rather than the other way around. In some countries that have return free taxes, the government actually estimates or withholding for you rather than you trying to figure out for yourself.

Alison Southwick: If this has you bummed out and angry, we do have a glimmer of hope. As part of the Inflation Reduction Act, money is being devoted to help the IRS modernize its technology and investigate the feasibility of creating its own tool. So now is a good time to let your Congresspeople know how you feel about the current state of tax preparation and whether you'd like anything changed.

Robert Brokamp: We will close by pointing out that this episode is going out on April 11, which is one week before the federal tax deadline. If you have not yet done your taxes and you made $73,000 or less in 2022, visit the IRS's free file page to see if you qualify and you want to go to the IRS's page first, not the ads that pop up in the search and if you've done your taxes and you're way off on the amount you owed, now's the time to adjust your withholdings so you don't pay a big bill next year or get a big refund, which I know everyone loves, but it's better to have use of that money now to enjoy it, to invest it, or spend it on pickleball.

Finally, just point out that next week's episode is our mailbag so if you have questions for us, send them our way by emailing podcasts at fool.com. That's a podcast with an S or tweet us at Motley Fool Money. 

Chris Hill: As always people on the program may have interest in the stocks they talk about. The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. I'm Chris Hill, thanks for listening. We'll see you tomorrow.