Carvana Co. (CVNA) Earnings Call Transcript & Summary

Great. Thanks, everyone. My name is Rajat Gupta. I'm a member of the Automotive Equity Research. Very pleased to have with us CFO of Carvana, Morgan Jenkins. And thanks, Mark, for being here.

Yes. It's great to be here. I think Rajat mentioned that it's our sixth consecutive year at the conference. So always great to be here and happy to be speaking with you all. Okay. So I thought today, I would start with just a few slides about what's happening in the business today? Where are we from a growth perspective? And what are some of the key drivers of that growth. It will be a relatively short discussion, then we'll hand it over to Rajat for Q&A. So we had -- and that's the typical safe harbor on the first slide. Okay. So we're having a very strong growth year so far. I think there's a few different ways to look at our growth performance. And I think I can start just by comparing our growth within our industry. So we're now at the scale where we're selling around 800,000 used vehicles per year, just under that run rate in Q2, and we're growing at 38% year-over-year. So that's very significant growth at very significant scale within our industry. And moreover, we achieved that growth in Q2 of 38% retail units sold growth year-over-year in an industry that was down low to mid-single digits year-over-year. So we're really making very significant share gains. We have a model that's built to scale, and we're growing very, very quickly. I think taking a look outside our industry, we're also performing very well. Our offering is resonating with customers, and we're growing very, very quickly even if you look across multiple industries. So I called out in my prepared remarks on our earnings call, based on organic growth in the most recent quarter, we're in the top 5% of companies within the S&P 500 index. So we're growing very, very quickly looking across a broad base of companies and industries. Finally, adding a little bit more context for that. We think at this scale, the $20 billion revenue scale, we got here very quickly. One of the faster companies to achieve the $20 million revenue scale when we look out across similar e-commerce or other disruptors. And now today, growing at the $20 billion moving to $30 billion revenue scale, continuing to grow at very strong rates. So most important message, I think, so far this year is this offering that we have buying and selling used cars online, it's really resonating with customers. We have a model that is built to scale and can scale very effectively even at very significant unit and revenue levels, and we're growing very, very quickly. Now a natural question from that might be, okay, what is driving this outsized growth, 40 points faster than industry, one of the leading growth companies in S&P 500 index and performing well against some very meaningful historical benchmarks. While I think it starts with the customer experience. And so we have a truly online customer experience for buying and selling the used car. It starts with the shopping experience. These are mobile images up here because you can do all this from the palm of your hand, but it starts with searching through many tens of thousands of cars from the palm of your hand. You can pick 1 and do further research on it, taking advantage of our proprietary 360-degree photobooth technology to really get to know the car before you order it and have it shipped to you. You can do all aspects of the used car transaction, whether it's getting a trade-in, attaching financing or ancillary products, completing the entire transaction all the way through signing contracts with your thumb on your phone. You can do this all in a true e-commerce experience while sitting in your living room, watching TV. That's a great experience. After you order the car, we deliver it to you using our proprietary logistics network. It's a first-party logistics network that's back with our own first-party technology to ensure that we can get the car at your door quickly, cost effectively and reliably. And then finally, we'll provide great customer care, whether you want a phone and chat or text with us will provide great customer care to make sure that purchase is exactly what you're looking for. So this is a full soup to nuts e-commerce experience and 1 that is resonating very, very strongly with customers. So that's the first part of the story on where this growth is coming from. The second part of the story is our operational chain. And so I think in Q2, I think 1 of the things that I really appreciate about the data in Q2 is that it's showing very strong evidence that where we scale the business, we see the strongest growth. So I think this chart on the left, this bar chart shows production growth and production is basically where are we growing the process of inspecting reconditioning and putting cars up on the website. And in the region, the top 2 regions making up around 1/3 of the country, where we grew production the most, we also grew sales of both. So almost 55% growth in the Midwest and Northeast regions where we grew production. And I think that what that illustrates is, hey, the model is really working. We scale the operational chain that creates sources of positive feedback that drive very strong growth. And so the fact that in 1/3 of the country, we were growing at 55% because we grew production around 55% or just over in that region. I think it's a very powerful testament to the fact that there is very significant positive feedback and the model is performing very well from an operational and demand fulfillment perspective. Just say a little word about that, how does that positive feedback actually work functionally. I think there's a few key drivers. So one, when we add more production, we have more selection on the site. That increases conversion. When we add selection in more locations, that puts more cars closer to customers, which lowers the delivery time to those customers, which also increases conversion. Both of those things increase conversion to sales but in addition to that, as conversion increases, our marketing efficiency increases, we can spend more on marketing in an efficient way that further drive sales, which, in turn, gives us more incentive to further add production lines and increase production. And so this positive feedback cycle is something that we've seen over the life of the business, but I think it was particularly evident in Q2, just with the really strong outsized growth that we saw in the regions, the Midwest and Northeast, where we grew production the most and saw the most powerful effects of this positive feedback cycle. So a natural follow-on from that then is if production is demonstrating itself to be a key driver of sales growth, and again, this is sales growth that's happening at very high rates and at a very large scale. A natural question might be, okay, so how are you scaling production capacity. And we are executing a 3-part plan today to scale production capacity. Part 1 is to increase the number of lines by -- so basically, you could think of our production facilities as like factories where the traditional footprint facility has 8 different lines that we can run cars through at any given time. 4 lines wide by 2 ships deep. And so staffing existing facilities to add more production lines in existing facilities is lever #1 for production growth. A second is integrating ADESA locations ADESA is a large national wholesale auction business that we acquired in 2022. And 1 of the advantages of that ADESA business is that it has great real estate and the ability to add retail reconditioning capacity to the ADESA auction locations, that's something that we started doing in mid-2024. Since mid-2024, we've integrated 19 ADESA locations into the Carvana retail reconditioning network, integrating those locations primarily means adding software and Carvana management processes to deliver Cavernoso retail reconditioning. That has successfully helped us grow production and as a strategy we'll continue to pursue. And then finally is full build-out of Adesa locations. So again, when we acquired Adesa in 2022, it came with 56 nationwide sites that have a significant real estate footprint and capacity for us to build more retail reconditioning facilities. We kicked off construction of the first full build-out of the Adesa facility in the second quarter. That will be a third component of our overall production growth plan. So 3-part plan for continuing to grow production. Production in turn is a key driver of our sales growth, as I pointed to on the previous slides. But it's not the only driver as we scale production, we also need to scale the other 3 key parts of our operational chain, which is long-haul logistics, which connects our inspection and reconditioning centers out to customers' markets. Second, we need to scale our last-mile delivery network, which allows us to take those cars to the customer's door. And finally, we need to central -- we need to continue to scale our centralized customer care and transaction processing functions, which are based in Tempe. And so scaling this operational chain is the key strategic focus for us at the moment. We're seeing strong evidence that when we scale the operational chain, we support very strong growth and differentiated customer experiences. So the last point that I'll make on this is I think we're very excited about where the business is today, but we view ourselves in a very early in the overall story of selling cars online. And then just 1 data point on that, that we've talked about in past years and this year is the economy as a whole, the retail sector within the economy as a whole, now has around a 20% e-commerce penetration. And think of that as you can buy the good online and have it delivered to your door in a seamless integrated experience. Auto Retail is far earlier than that in, call it, the low single digits of e-commerce penetration with Carvana being the primary experience where customers can get a true e-commerce experience. And so we view ourselves as just very, very early in the overall story with a long runway for growth, and we plan to pursue that growth by focusing on strong execution across the operations of the business and driving a very strong customer experience that I pointed to on the second slide. And that's our main story, main takeaway today, growing incredibly strongly, going to continue to focus on execution. And we're really in the early days of seeing this all play out. So thank you for that, and I'm happy to take questions.

Thanks, Mark. Maybe I'll start off with like just the most recent quarter. You were pretty fired up on the call. Was it the aftermarket reaction that led that? And was it something that you felt like was not being appreciated in the results that you put out?

So I do think this was a great quarter. I don't know if this can go backwards. I only see forwards on this. But if I could, I would click back to that regional bar chart that I showed. So the thing that energizes me , the thing that energizes me about the quarter is just the fact that at today's scale, and what does today's scale mean? Our run rate revenue in the second quarter was around the $30 billion level, our run rate adjusted EBITDA in the second quarter was around the $3 billion level. So we're operating now at very significant scale. And the fact that at that scale, we actually have a large portion of the country where we are growing by 55%. To me, it's just a very exciting staff. And I think because it's very rare. I think everyone in this room has studied more companies than we have time to study. But based on what we know, these levels of growth rates at the $30 billion revenue scale, it's just -- it's very rare and I think points to the strength of our customer offering as well as the scalability of our business model. And so the fact that -- and then if you zoom in further and within certain regions, that growth rate was 55% and that 55% was just really tightly correlated with how much were we able to increased production capacity year-over-year in the quarter. To me, that's a very powerful story, and again, just speaks to the strength of the customer offering and the scalability of the business model.

Got it. That makes sense. Maybe let's go back to December when the reconditioning issues had surfaced. I'm curious like if you can help us visualize what that looked like inside the organization? How do those issues impact just the broader system, more the machine? And where are you with those constraints today?

Sure. Yes. So I think on the topic of production growth, you're pointing to in late 2025, early 2026, we faced some production headwinds that caused production costs to rise and caused production throughput to be below our targeted production throughput. I think the primary driver of that was between mid-'24 and late 2025, we added 16 new facilities. That was on a base -- starting base of 18 facilities. So we saw over an 18-month period very significant growth in the number of facilities that we were managing. And I think that, in turn, gave us some catching up to do on just making sure that all facilities were operating at the target level of efficiency. I think so far this year, we've made great strides. So on the cost front, labor hours per unit produced have really normalized, and we saw some of our best ever levels in the second quarter on that metric. In addition, we're starting to see the year-over-year growth rate in production across the company as a whole, the move off of its lows, from earlier this year. And so I think the -- I think there have been some really good trends after expansive growth in the number of locations we are managing, which caused some cost to rise and throughput to all relative to target. I think we've seen some really nice trends recently on that rounding. One of those driven by really operational intensity, better processes. And we're also in the early phases of rolling out a second phase of major software improvements across the centers that are really focused on helping managers simplify the job of managing these complex reconditioning centers.

Got it. And when you talked about like those 3 phases on the earnings call, the Phase I is done, like on the cost side, Phase II is production ramping up Phase III is like just the mix realigning? Are you like close to the end of Phase II? Or are you in the middle of Phase 2 as Phase III started in some ways. Where are we in that trajectory?

I think, yes, the 3 phases are normalized labor efficiencies to get costs in line. Two is increased total throughput. And then 3 is increased total throughput with the sort of normalized mix of cars. And so there, I would say we still have room to further increase production growth and further normalize mix going through the infection are conditioning centers but we're -- the trends are positive there, and we're moving in the right direction on both increasing year-over-year growth in production as well as starting formalize back. But that will all be a continual process where we'll look to make further gains on that over time.

Got it. And maybe like going double-clicking a little deeper into the second quarter. Can you help us understand like what were the sacrifices or, I would say, unit economics like decisions you had to make in that quarter. There were a lot of things moving around. You had your own constraints that you were working through. We had the FTC guidelines where dealers had to add back all their fees and the advertised pricing. You were already entering the year with cuts to your prime -- just help us understand like all the different aspects of the business that you had to flex in the second quarter to put out the results you did?

Sure. Yes. So I think the second quarter was a very strong quarter from a profitability perspective, over $70 million of $150 million of adjusted EBITDA over $500 million of net income, record profitability levels, excluding onetime in the case of net income that we've seen as a company. So we're growing those profitability metrics very, very quickly as well as we're growing units. I think the -- from a different driver perspective. There's a number of different things going on in the quarter. So one, fuel prices are up we estimate that had a roughly $75 per car impact on our bottom line economics in the second quarter. In addition, benchmark rates are going up. That also had an impact on our bottom line economics in the quarter because we are impacted when rates are moving quickly, when they're moving quickly up has a negative impact on they're moving quickly down has a positive impact, other things being equal. And so there are a couple of external drivers in the quarter that impacted profit per unit. But overall, we had a very strong profitability quarter. In terms of different levers we're managing, we have lots of different levers to manage in the business to drive our targeted balance of volume and profitability, a really powerful 1 we talked about, growing production is a power very powerful lever, but also we have levers that we can adjust, whether it's the sticker prices of cars that we're listening on the site, interest rates, trade and offers, shipping fees, we have lots of different levers that we can adjust marketing is another one. And we'll adjust those from quarter-to-quarter just based on the dynamics we're seeing. But overall, I think those things are less important than the overall results, which are very strong unit revenue growth and very strong growth in bottom line profitability metrics.

Got it. And following up on the FTC dynamic. I mean if you did like a like-for-like comparison of what this meant for the industry, or the 96% of independent dealers out there. On average, they would have to raise their prices or advertise prices by $400 to $500, which would mean your prices look that much more attractive. Help us think through like the decision of not maybe taking more advantage of that. Is it a deliberate decision or you just didn't want to show a big increase on your website and we could see small increments of this come through the P&L, which seems like should be a direct benefit to at least retail GPU.

Some people in this room, maybe everyone in this room is aware in really starting in the second quarter. The FTC started to really communicate stronger enforcement of the idea that dealers, if they have dock or dealer fees that they are charging at the tail end of a transaction they really need to start including those fees and their headline price that they list online. And so over the course of the second quarter, we saw more based on our data, more and more dealers comply with that FTC commentary. And as a result, we saw appreciation in retail sticker prices, those headlines, sticker prices that you see if you're shopping for a car online. We saw those drift up more than they typically would in the second quarter. So in the second quarter, you can either see appreciation or depreciation, depending on the year. Last year, we saw a little bit of appreciation. This year, we saw stronger appreciation, which we link to dealers' efforts to comply with this. Now a notable fact is Carvana has never charged docker dealer fees. And so directionally, we would expect that as dealers have to incorporate those more into headline prices, we would expect that to be a long-term benefit to our offering, which never had Docker dealer fees. How big of the benefit, I think it's hard to say. At 1 end of the spectrum, customers always perfectly understood docking dealer fees. And so there's no real change in the economics that customers are evaluating when they're shopping online at the other end of the spectrum. Customers really didn't incorporate doctor dealer fees that are early shopping decisions. Likely the truth is somewhere in between. And I think it's hard for us to say exactly where, but at least conceptually, we think this change should have a long-term benefit for us as a dealer that has never charged do dealer fees.

And both like from demand and profitability, I would imagine right?

So conceptually, you can -- yes, you can always do 1 or the other or some mix of both.