Investors have become incredibly enthusiastic toward this enterprise.
When its market cap was at just $400 million in December 2022, shares of this online used car retailer were down 99% from their peak price. It looked like the pessimism and doubt couldn’t get any higher.
But things have turned around in a major way. The business in question, Carvana (CVNA -0.36%), now sports a market cap of $14 billion. And the growth stock has surged a whopping 945% just in the past 12 months.
Even though shares are still 68% below their all-time high (as of May 15), is Carvana now a missed opportunity for prospective investors who didn’t gain from the monster rally?
Improving market sentiment
Perhaps there’s no other company that has outperformed Carvana stock in the last year. In such a short period of time, I think changes in market sentiment have an outsized impact on the share price.
In Carvana’s case, at least part of the reason shareholders reaped huge rewards was because the business averted bankruptcy last summer when it was able to restructure its debt.
As the financial situation stabilized, investor enthusiasm soared. It also didn’t hurt that both the S&P 500 and the Nasdaq Composite Index have been on incredible runs since their lows in late 2022, creating a very favorable market backdrop.
Huge upside
It’s difficult to consider buying a stock that you missed out on — one that has had such a phenomenal rally in recent times. It’s reasonable to have FOMO (fear of missing out) and wonder if forward returns will still be strong.
We must view things from today’s vantage point with a fresh perspective. Can Carvana produce market-beating returns over the next five or 10 years? There are some key factors to consider.
First, Carvana’s valuation isn’t nearly as attractive as it was a year ago. The stock trades at a price-to-sales ratio of just under 2. That’s almost double its historical average, so it looks like the situation is overvalued today.
The business did return to revenue and unit growth in Q1, so there is reason to believe that the bad times are now a thing of the past. Investors should only consider buying shares if they have confidence that Carvana can gain market share in the massive domestic used car market.
Assuming Carvana one day gets to 5% market share in terms of the roughly 40 million used vehicles sold per year in the U.S., it would amount to about 2 million units. At the current average selling price of $28,000, the company could be raking in $56 billion in yearly revenue (Carvana did $11 billion in sales in 2023). The business’s value would certainly be higher in this scenario.
This depends on successful execution by the executive team, which is far from a sure thing. Competition is intense. And Carvana depends heavily on having favorable industry conditions, like healthy used car prices and smooth supply chains, as well as robust macro conditions, like low interest rates, for its long-term success.
Buying a lemon?
While I don’t necessarily doubt Carvana’s superior user experience and its tech-forward approach to disrupting the industry, a strategy that certainly has long-term potential, I’m staying away from the stock. The current financial situation is still troubling.
Consider the balance sheet. As of March 31, Carvana had $242 million of cash and cash equivalents compared to $5.7 billion of long-term debt. I don’t know if anyone can say with confidence whether the company will no longer have to access capital markets at some point in the future.
Moreover, it’s anyone’s guess if this business will ever start producing consistent and steadily rising net income. In the meantime, investors have to constantly be worried about whether Carvana can service its debt and make its interest payments, which are already a painful burden.
The stock’s monumental ascent has been nothing short of remarkable. But it tells me that Carvana is now a missed opportunity.
Neil Patel and his clients have no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
