We're nearly halfway through this year and Carvana (CVNA 8.79%) has outperformed nearly every other stock on the market so far.
The online used car dealer is up 434% through June 16. That's mostly a function of the e-commerce stock entering the year with rock-bottom expectations, as a number of analysts had written the company off for dead. Indeed, Carvana's formerly soaring growth ground to a halt last year. The stock plunged as much as 99% as losses mounted and bankruptcy seemed imminent. However, Carvana's business now seems to be stabilizing.
With the stock up more than fivefold this year, it's only natural to ask if Carvana is still worth buying. Let's take a look at the buy, sell, and hold arguments.
Image source: Carvana.
Buy Carvana
Carvana's resurgence this year hasn't been underserved. Management took decisive action to slash costs, sharply reducing inventory and issuing three rounds of layoffs. As a result, the company's adjusted earnings before interest taxes depreciation and amortization (EBITDA), approached break-even, and the company surprised Wall Street by forecasting adjusted EBITDA of at least $50 million in the second quarter.
That expected profit was helped by a one-time sale of receivables, but it's nonetheless a clear step in the right direction for the struggling used car dealer. Additionally, used car prices are rising, up 4.4% in both April and May according to the Consumer Price Index report, which follows a sustained decline in 2022. The rebound should also strengthen Carvana's business as the company holds billions in auto inventory.
Additionally, Carvana shares have been propelled this year by a short squeeze as 69% of the float was sold short as of the end of May, a sign plenty of investors are still bearish on the stock. However, if the business continues to recover, the stock could continue to pop as short sellers are forced to buy back the stock.
Overall, Carvana is still down more than 90% from its peak, and the stock has more room to run if its performance improves.
Sell Carvana
Carvana has no shortage of naysayers on the stock market and it's easy to see why. Escaping bankruptcy is a far cry from operating a healthy business. Carvana is trying to unburden itself of nearly $7 billion in debt that the company added to when it acquired the ADESA wholesale auto auction business.
With a heavy debt load and about $600 million in annualized interest payments based on the first quarter results, Carvana will need to generate significant operating cash flow to overcome the debt headwinds.
Additionally, selling used cars online hasn't yet proved to be a particularly good business. Carvana had never been profitable on a generally accepted accounting principles (GAAP) basis as it chose to invest in growth rather than profitability, but peers like Vroom have also flatlined on the stock market, indicating tough challenges in the highly competitive used car market.
Carvana had a reputation for paying above-market prices for used cars, and the company may be changing that, but it clearly needs to sharpen its focus on profitability to build a sustainable business.
Hold Carvana
The company faces a ton of uncertainty ahead both within its control and outside of it. Management has shown it's capable of reining in costs, but the company is still at the mercy of used car prices and interest rates. If rates keep rising, used car prices fall, or a recession hits, Carvana could be in serious trouble.
Though the stock still has considerable upside potential, it will also be more difficult for it to deliver multi-bagger gains as the share price is no longer in the single digits when its market cap was down around $1 billion. Getting back to its previous heights is an unrealistic expectation at this point.
What's the right call?
I'd rate Carvana a hold right now. The company is building momentum in its recovery, but its comeback could easily be derailed by macroeconomic factors, and getting to consistent free cash flow generation won't be easy.
However, it's clear that there is an upside for the stock, and the company does have a well-known brand in a massive market. If it can translate that into profits, the stock is sure to respond.
After a 434% gain for Carvana, there's still plenty of uncertainty ahead. Expect the stock to continue to be volatile as the business battles back toward stability.
