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CarMax Hits the Brakes as Used-Car Comps and Net Income Fall

By Dan Caplinger - Dec 20, 2015 at 7:49AM

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The car retail specialist missed estimates for revenue and earnings per share.

Image source: CarMax.

The auto industry has been extremely strong in 2015, with automakers on track to report what might be their best sales figures ever. Yet coming into its fiscal third-quarter report on Friday, used-car specialist CarMax (KMX -0.11%) hadn't enjoyed the same success that the new-car segment had shown, and investors wondered whether the company's high-growth phase might have come to an end. Even as new-car nationwide chain counterpart AutoNation (AN 0.70%) struggles with its own internal challenges, CarMax's latest quarterly report showed signs of further deterioration in the used-car arena. Let's look more closely at how CarMax did this quarter and what some shareholders are more nervous than ever about the company's future prospects.

CarMax stalls out again
CarMax's fiscal third-quarter results were unexpectedly weak. Revenue climbed just 4.1% to $3.54 billion, falling well short of the 6% growth rate that most investors had hoped to see from the car seller. Net income fell 1.4% to $128.2 million, and that worked out to earnings of $0.63 per share, which was a nickel per share less than the consensus forecast among investors.

Looking more closely at what CarMax said about the quarter, the slowdown that investors have seen during much of 2015 continued. Total used-vehicle unit sales rose 3.2%, but comparable-store sales of used cars fell 0.8%. The company said that store traffic fell during the quarter, and the improvement in getting sales completed wasn't enough to offset that downward pressure. The downward impact from third-party finance fees eased by more than 10%, but sales of extended protection plans were essentially flat. Wholesale vehicle sales were up nearly 7%, but CarMax's tiny new-car sales figures fell by more than a fifth, showing some of the same trends that AutoNation has seen pop up recently.

Various sales metrics were relatively flat. Average selling prices for used cars inched up less than 1%, while wholesale vehicle prices rose just over 2%. A rise in overhead costs was primarily responsible for the weakness in net income, with the company saying that the increase in its store count and a shift in advertising expenses in support of CarMax's new marketing campaign helped contribute to the need for greater spending.

CEO Tom Folliard was clearly disappointed with the results. "We had a challenging sales quarter," Folliard said, "[but] we continued to grow both total revenues and EPS, reflecting the contributions form new stores and continued share repurchase activity."

Can CarMax rev up next year?
CarMax continues to rely on store-network expansion to help support its overall growth. The company said it opened stores in Houston and Minneapolis during the quarter and relocated one store in the Baltimore and D.C. area. After the fourth quarter began, CarMax entered the Boston-area market with two stores.

On the financial front, CarMax is also boosting its bets on its own stock. The company bought back 7.7 million shares during the quarter, spending more than $445 million. CarMax still has $1.55 billion available in its buyback program, but the money for the purchase activity has come from its revolving credit facility, which has just under half of its $1.2 billion capacity outstanding. Investors like the buybacks, but taking on debt to do so is a bit risky.

One interesting issue involving CarMax involves whether the company could take on AutoNation more directly by getting more heavily into new-car sales. New cars have never been a priority for CarMax, and doing so would require fostering more of the relationships with automakers that AutoNation already has. If the new-vehicle arena is where the growth is, though, CarMax will need to consider whether a strategic shift makes sense.

CarMax shareholders weren't entirely pleased with the report, with the stock falling more than 6% following the announcement. With car shoppers apparently able to afford new vehicles, the big question facing CarMax is whether it can continue to appeal to those who need the high-quality used vehicles it offers. If that demand drops off, then CarMax could see even further troubles in 2016 and beyond.

Dan Caplinger has no position in any stocks mentioned. The Motley Fool owns shares of and recommends CarMax. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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AutoNation, Inc. Stock Quote
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CarMax Inc.
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