Weak Store Traffic Dings CarMax
Deep discounting on new vehicles has driven consumers to dealerships instead of a CarMax store--a trend that could last a few more quarters.
We are not changing our fair value estimate on CarMax (KMX) after the company reported fourth-quarter fiscal 2018 results that showed considerable weakness in store traffic. We don't think our thesis is impaired nor do we think CarMax’s ability to generate a midcycle operating margin of 6% is at risk because of these results. The company’s comparable store unit growth was horrible at negative 8%. This rate was the worst since first quarter of fiscal 2010 and the first negative comparable since third quarter of fiscal 2016. We are encouraged that conversion into a sale remained flat despite the weak comp. Store traffic likely fell due to deep discounting on new vehicles driving consumers to dealerships instead of a CarMax store. We do not think that trend is sustainable, but it could last a few more quarters. We expect the continued surge in off-lease vehicles, nearly 4 million this year alone, will eventually bring too many attractive used vehicles into the market for consumers to ignore. Furthermore, we do not believe automakers can overly discount new vehicles forever because of the harm it brings to residual values.
We see the biggest risk in the midterm for CarMax being macroeconomic risk. Recent trade war talk is rattling the stock market which could scare consumers off from buying a vehicle or lead to actual U.S. economic slowdown if companies curb investment due to fear over trade policy. Still, the U.S. vehicle fleet is on average nearly 12 years old, and tech and safety content in the typical vehicle on the road is primitive relative to used vehicles only a few years old. CarMax has the largest selection of any used vehicle retailer with nearly 50,000 units for sale, and is over twice as large as AutoNation, the largest franchise dealer, and has more than triple the selection of startup used vehicle retailer Carvana. This size brings scale and allows CarMax to invest in digital services to remain competitive and flexible to undercut competition if needed.
Morningstar Premium Members gain exclusive access to our full analyst reports, including fair value estimates, bull and bear breakdowns, and risk analyses. Not a Premium Member? Get this and other reports immediately when you try Morningstar Premium free for 14 days.
David Whiston does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.