Here's a brain twister for you: How do you turn a year-over-year earnings drop and lackluster sales growth into one of those happy mornings that yield a 10% jump? Simple. You beat expectations. How do you beat expectations? Simpler yet, you lower them yourself and give the Street a few moments to forget about it. That's what happened over the past couple of weeks at CarMax (NYSE:KMX), which warned investors earlier in the month that sales weren't so swift as many might have hoped.
Today, the firm's third-quarter earnings report didn't have a lot of new news, except that earnings of $0.17 per share beat the $0.16 management predicted earlier in the month. It was a drop from the $0.18 in the prior-year quarter, which might prompt some of us -- the Fools not participating in today's big bid-up -- to wonder why. How do you turn a 13.5% revenue increase into decreasing earnings?
Gross margins weren't the problem: They actually ticked up 0.2%. Financing wing? No problem there, as that segment's contribution was also up. If you said SG&A, you win today's prize. As a percentage of revenues, that little line item jumped 0.6% over last year. It gets worse. Eyeballing the nine-month results shows that CarMax is losing ground in several key areas, with gross, operating, and net margins all contracting compared to the same period last year.
I have to admit, I have a hard time understanding the enthusiastic response to the single-digit comps predictions and in-line earnings guidance for Q4. What I see is mediocre performance amid a downward trend in profitability in a company that's getting all its growth through heavy investment in new locations. As my colleague Rich Smith pointed out in a quick comparison to competition such as United Auto Group (NYSE:UAG), America's Car-Mart (NASDAQ:CRMT), Sonic Automotive (NYSE:SAH), and AutoNation (NYSE:AN), CarMax isn't the cheapest of the bunch. It's not the biggest, and it doesn't have the best margins.
So what, exactly, is the big deal? That's something to ponder, at the very least, before getting in on this next rally.
For related Foolishness:
- You can never tell whether CarMax will gun it or stall out.
- See why it's no holiday season for the automakers.
- Meanwhile, the competition's getting faster.
- Get advice on buying and maintaining a car from helpful Fools. (Free trial required.)
Seth Jayson enjoys asking impertinent questions like "How come the King's goodies are showing?" At the time of publication, he had positions in no company mentioned. View his stock holdings and Fool profile here. Fool rules are here.
