The stock market has soared this year, but Carvana (CVNA 8.79%) and Wayfair (W 2.08%) have rocketed past the major indexes on their way to enormous gains. Investors are betting that turnarounds are in the cards. Here's why they're likely to be wrong.
Carvana
Shares of online used car retailer Carvana are up around 800% this year. While the stock has been rising for the past few months, the most recent development that sent shares rocketing higher was a debt restructuring deal announced in July.
Carvana's core problem is that it has too much debt. Sales volumes have been tumbling due to rising interest rates and a tough economic environment. Retail units sold crashed 35% year over year in the second quarter, and revenue tumbled 24 %.
Carvana has made some progress in cutting costs and reducing losses, but the debt situation was untenable. Unfortunately, while the deal with creditors buys the company time, it ultimately just kicks the can down the road.
Carvana is swapping out a big chunk of its existing debt for new debt. Along with selling additional shares, the net result will be a $1.2 billion reduction in the company's total debt. And because this new debt waives cash interest payments for two years, Carvana will drastically slash its cash interest payments in the near term.
The bad news is that this new debt carries much higher interest rates than the debt it's replacing, and that interest will be paid in the form of additional debt for the first two years. Once interest payments revert to cash after two years, Carvana may very well be in a worse position regarding interest and debt. And the new debt is secured by Carvana's assets whereas the old debt was not. For shareholders, that's a raw deal.
Even if Carvana pulls off a miracle, the upside looks limited. Larger rival CarMax has a market capitalization just 50% higher than Carvana while generating about 2.5 times the revenue over the past year. And CarMax is solidly profitable, while Carvana has never turned a meaningful GAAP profit.
Long story short, Carvana stock looks like a disaster waiting to happen.
Wayfair
Shares of online furniture and home goods retailer Wayfair have soared about 150% in 2023. While the company is still suffering from post-pandemic sales declines, those declines are starting to slow.
Revenue was down just 3.4% year over year in the second quarter, and that decline was mostly due to its international segment. In the U.S., revenue was down just 0.4%. Active customers slipped 7.6%, but Wayfair delivered about 3% more orders compared to the prior-year period. Demand seems to finally be bottoming out after a rough couple of years.
Cost-cutting has helped improve the bottom line, but Wayfair is still not a profitable company. Management believes otherwise -- the company has decided to use adjusted earnings before interest, taxes, depreciation, and amortization, or EBITDA, as its preferred measure of profitability. While adjusted EBITDA was positive in the second quarter, operating income was a loss of $142 million.
Wayfair turned a real profit during the pandemic when demand was soaring, but that was the only time in its history the bottom was in the black. And even then, profitability wasn't all that strong. Net income was just $185 million in 2020, a year when revenue soared 55%. Wayfair is valued at about $9.4 billion today. That puts the price-to-earnings ratio based on pandemic-era earnings at 50.
Wayfair has yet to prove that it can turn a sustainable profit outside of a global pandemic, and the stock is expensive even if you assume pandemic-era profits could be the norm. While Wayfair stock isn't nearly as risky as Carvana stock, it still looks like one to avoid.
