Q3 2023 Carvana Co Earnings Call
Good day and welcome to be covering our third quarter 2023 earnings conference call.
<unk> will be in a listen only mode should you need assistance. Please take note of a conference specialist by pressing Star then zero.
After todays presentation, there will be an opportunity to ask questions.
The question you May Press Star then one on attached on term withdraw your question. Please press Star then two.
Note. This event is being recorded I would now like to turn the conference over to Investor Relations. Please go ahead.
Thank you Bob good afternoon, ladies and gentlemen, and thank you for joining us on Carvana third quarter 2023 earnings conference call.
Please note that this call will be simultaneously webcast on the Investor Relations section of the company's corporate website at investors Carvana Dot com.
The third quarter shareholder letter is also posted to our website. Additionally, we posted two sets of supplemental financial tables for Q3, which can be found on the events and presentations page of our IR website.
Joining me on the call today are Ernie Garcia, Chief Executive Officer, and Mark Jenkins, Chief Financial Officer.
Before we start I would like to remind you that the following discussion contains forward looking statements within the meaning of the federal securities laws, including but not limited to carvana as market opportunities and future financial results that involve risks and uncertainties that may cause actual results to differ materially from those discussed here.
A detailed discussion of the material factors that cause actual results to differ from forward looking statements can be found in the risk factors section of Carvana. Its most recent Form 10-K and Form 10-Q.
The forward looking statements and risks in this conference call are based on current expectations as of today and Carvana assumes no obligation to update or revise them, whether as a result of new developments or otherwise.
Our commentary today will include non-GAAP financial metrics, unless otherwise specified all references to GPU and SG&A will be to the non-GAAP metrics and all references to EBITDA will be to adjusted EBITDA reconciliations between GAAP and non-GAAP metrics for our reported results can be found in our shareholder letter issued today, a copy of which can be found on our IR website.
With that said I'd like to turn the call over to Ernie Garcia Ernie.
Thanks, Meg and thanks, everyone for joining the call.
Third quarter was another great quarter for Carvana. The continued the clear momentum we've had as we rolled out our plan in 18 months ago over.
Over that period of time, we have cut $1.2 billion in annualized SG&A expenses out of the business, which has dramatically improved our efficiency, while also reducing annualized inbound transport and reconditioning cause expenses by about $250 million annualized which has driven up our GPU.
These efforts have combined to powerful effect over the last two quarters, we've generated $300 million of adjusted EBITDA with about 200 million of that excluding nonrecurring items.
These are important numbers they send a clear message that the plan our team laid out 18 months ago was the right one they send a clear message that our team is executing at a very high level and most importantly, they send a clear message about the long term power of our business model.
Since we went public in 2017, we've been clear about our goal to sell millions of cars and to become the largest and most profitable automotive retailer two years ago. There was a general belief in our ability to become the largest but questions remain about our ability to be the most profitable while those two questions won't be definitively answered until we actually cross both milestones the last two quarters provide.
A lot of support for our belief that we will ultimately be the most profitable automotive retailer as well.
In today's shareholder letter, we are providing clear evidence of this with our breakouts of our overhead and operational expenses over time the takeaway from the data are the following one in step one we successfully right sized the operational components of the business and began making significant progress in reducing our operational expenses per unit.
To our efficiency gains are continuing in step two with our unit economics are rapidly becoming a significant competitive advantage.
And three our current fixed cost utilization is low providing a very clear path to both significant scale and significant cost leverage when we turned to step three of our plan.
Our plan is working and we're going to see it through well it is unquestionably tempting to turn our attention back to growth. We believe it is a better long term decision to remain disciplined to continue harvesting the efficiency gains we see in front of us before shifting our organizational focus and moving on to step three.
In the fourth quarter, we expect to continue making fundamental gains through various projects. The comprised up too. We also expect volumes to reduce relative to Q3 due to normal seasonal seasonality and potential industry softening observed over the last four weeks. Despite this we continue to operate in our target unit range to step to the some of these dynamics leads us to expect to produce another great quarter.
<unk>.
It hasn't passed Q4, as we expect lower industry wide volume, coupled with higher industry wide depreciation rates.
Because of lower adjusted EBITDA than we have achieved in the past two quarters looking forward we are excited.
Difficulty of 2022 wasn't how we imagined our patent the beginning but that doesn't mean it wasn't good for us through it we have come together to do our best work. We have learned the power of focus we have gained a new appreciation for discipline, we've learned an even greater sense of urgency and now as a result, we've competitively differentiated unit economics.
2022 was added to our Arsenal. It has made us better and while that is a change there is a lot. There remains exactly the same we are still an ambitious group of people who care, we're still willing to roll up our sleeves and do the hard work to achieve our goals. We are still delivering new experiences people buying and selling cars that they look we still have a business model that is incredibly difficult to replicate and the mckee.
Panicky gets better as it gets bigger we're still just a small player and the largest retail market in the world and we are still on the path to selling millions of cars and becoming the largest and most profitable automotive retailer. The March continues mark.
Thank you Ernie and thank you all for joining us today.
Our third quarter highlighted the significant and sustainable progress we've made on our path to profitability.
We said third quarter Company Records for total GPU and adjusted EBITDA, both with and without nonrecurring benefits.
As part of our earnings materials, we provide a detailed look into our Q3 results our three step plan and the components of our cost structure.
I'll start by summarizing three key takeaways.
First in the last few quarters, we have clearly demonstrated the profitability of our online business model in Q2, and Q3, we generated more than $300 million of adjusted EBITDA, which includes approximately $110 million of nonrecurring items.
We did this despite carrying costs of an infrastructure that supports three acts retail unit growth and despite a difficult used vehicle industry backdrop.
Second our focus on driving fundamental operating efficiency and step two is generating significant unit economics games.
A particular note we've reduced non vehicle retail cost of sales and operations expenses by $1000 per retail unit in just the last two quarters and we see opportunities for further gains from here.
Third we have significant excess capacity in our existing infrastructure to support multiples of profitable growth. We expect this growth to be paired with significant operating leverage as we leverage our underutilized overhead costs.
Moving to our third quarter results.
In the third quarter retail units sold totaled 80987, a decrease of 21% year over year, and an increase of 6% sequentially.
Total revenue was 2.7 hundred 73 billion, a decrease of 18% year over year and a decrease of 7% sequentially.
As we've previously discussed our long term financial goal is to generate significant GAAP net income and free cash flow in.
In service of this goal in the near term our management team remains focused on driving progress on a set of key non-GAAP financial metrics that are inputs into this long term goal, including non-GAAP gross profit non-GAAP SG&A expense and adjusted EBITDA.
Due to the dynamic nature of the current environment, we will focus our remaining remarks on sequential changes in these metrics.
In the third quarter non-GAAP total GPU was $63 96, a sequential decrease of 634, driven primarily by smaller benefits from nonrecurring items.
Total GPU in Q3 was positively impacted by approximately $500 of nonrecurring benefits, which we describe in more detail below compared to approximately 900 of benefits in Q2.
non-GAAP retail GPU was 28 77 versus 28 62 in Q2.
Sequential changes in retail GPU were positively impacted by a 250 dollar reduction in non vehicle retail cost of sales.
And a 25 day reduction in retail average days to sale bolt at the favorable end of our previous outlook range as well as wider spreads between retail and wholesale market prices, partially offset by higher retail depreciation rates and a smaller inventory allowance adjustment benefit compared to Q2.
Notably our strength in retail GPU continues to be driven by several fundamental improvements in our business compared to our previous high watermark of FY, 'twenty, 'twenty, one, including lower reconditioning and inbound transport costs, a higher customer sourcing rate and higher revenue from additional services.
non-GAAP wholesale GPU was $951 in line with our outlook versus $228 in Q2.
Sequential changes in wholesale GPU were primarily driven by higher wholesale market depreciation rates in Q3, compared to Q2, which negatively impacted wholesale vehicle volume and gross profit per wholesale units sold as well as seasonal changes in wholesale marketplace volume.
non-GAAP other GPU was $25 68 versus $29 40 in Q2.
We estimate that a higher than normalized volume of loans held in sold in Q3 increased other GPU by approximately $400 other things being equal compared to a 650 dollar benefit in Q2.
In addition, other GPU in Q3 was primarily impacted by lower origination rates relative to benchmark interest rates, partially offset by lower credit spreads.
In Q3.
We continue to make progress lowering SG&A expenses, reducing non-GAAP SG&A expense by $13 million sequentially.
Notably, we reduced non-GAAP SG&A expense per retail unit by more than $400 sequentially, while growing retail units sold by 6%.
In our shareholder letter and accompanying materials, we provide additional details on the components of our SG&A expense, including a breakdown of operations expenses, which are more variable in nature and overhead expenses, which are more fixed in nature.
Our significant sequential operating leverage in Q3 was driven by both continued improvement in operational expenses as well as leverage in the fixed component of our cost structure.
Adjusted EBITDA in Q3 was positive 148 million or five 3% of revenue.
The aggregate the aggregate impact to adjusted EBITDA of the previously described nonrecurring items was approximately $40 million.
On September <unk> 2023, we closed the previously announced corporate debt exchange.
Offer with 96, 4% of Noteholders agreed to exchange 5.52 billion of our unsecured notes for cash and new secured notes, reducing total debt by over 1.325 billion, extending maturities and decreasing required cash interest payments by more than $455 million per.
Year for the next two years.
On September 30th we had approximately $3 2 billion in total liquidity resources, including $1 6 billion in cash and availability under revolving facilities and 1.6 billion in secured debt capacity and unpledged beneficial interests.
Turning now to our fourth quarter outlook.
While the macro economic and industry environment continues to be uncertain looking toward the fourth quarter of 2023, we expect the following as long as the environment remains stable.
A sequential decline in retail units sold driven primarily by industry and seasonal patterns.
non-GAAP total GPU above 5000 for the third consecutive quarter.
And positive adjusted EBITDA for the third consecutive quarter.
Looking towards 'twenty 'twenty four we expect to drive significant total GPU and adjusted EBITDA for the second consecutive year.
We are excited about the path, we're on and we look forward to making continued progress toward our goal of becoming the largest and most profitable auto retailer.
Thank you for your attention, we'll now take questions.
Yes.
Yeah.
Okay.
We will now begin the question and answer session.
I'll ask a question.
And then one on your Touchtone phone, if you're using a speakerphone please pick up.
Okay.
Please ask your question.
Would like to withdraw your question please.
Thank you.
And it just took time please limit yourself to one question at a time.
Follow up questions you may reenter the queue.
Finally, we will pause momentarily.
Our first question comes from Chris.
Please go ahead.
Hey, How're you doing non-GAAP.
non-GAAP SG&A per unit case.
Can it continue to go down in Q4 on the lower number of units you are guiding for and if it can't would that be a signal entirely to turn on growth.
Sure I would say or you can see that we've pushed down our dollar spend pretty consistently over over the last several quarters. I think you were extremely happy with the dollar reduction as last quarter that we saw that they came in the form of basically a 200 dollar operational expense saving per unit.
And kind of that being offset by roughly 5000 additional units quarter over quarter. So we're clearly, making a pretty significant gains there I think that we absolutely believe that through step two we have additional gains to be made we expect those gains to be across the board both in our corporate expenses and an operational expenses, but I think as far as kind of that detailed.
Closure, we're going to stick with the guidance we provided.
Okay, and then just just broadly what are they turning angry with me because you have to get the cars to sell the car. So like is that something old turning our growth be increasing advertising to sell more cars in different geographies at a higher rate or would it be sourcing a greater number of cars from consumers and just kind of curious how you would go about it to the extent you've had this conversation.
Yeah.
Sure. So let me start with I think well, let me start with where we are I think roughly we kicked off this plan, we internally call that our project catapult and.
Basically everyone across the business had a series of goals in every operational group that they were aiming to hit many of them are bumpy towards most of them weekly targets that we were marching to basically through Q2 of this year. We also then kicked off all we call operation 100, which is the next series of all of our goals across ever used in one of our <unk>.
Groups, but also has very clear targets.
We had most of them weekly.
Next year.
I think that has clearly led to tremendous gains that that level of focus of the discipline that we've had of making sure that we are maintaining.
And last one for that all the patients and the company will perform at the best level of any locations across the company. I think is clearly led to tremendous benefits and I think <unk> been very very valuable. So I think the most important thing that we will do and as high returns you do grow them separate.
Okay.
Reset the entire company focused on growth goals. So I think instead of everyone being focused on you know how am I going to drive additional efficiency in all of those targets are being focused on how are we going to get more efficient as a business. They will instead be focused on how can we be customer experiences even better how do we drive growth how do we position the company to grow there and so I think that that is the number one thing that we will switch.
When we moved to step three from step two I think the gains that we're seeing.
Our still very significant and so we believe it makes sense to stick in step two for a bit longer.
I think when it is time to grow I think advertising inventory are absolutely two very big parts of that equation.
We grew from 2018 Q1 through 21, Q1, and approximately 70% CAGR.
During that entire time, we were clearly growing inventory pretty quickly that that would lead to increased conversion, we are growing advertising pretty quickly I.
I think that was partially because those customers converted even more efficiently as a result of that extra inventory in our brand was building.
And so we benefited from positive feedback about that entire period of over the last 18 months you know the opposite has been true over the last 12 months, we've shrunk inventory by 50% and we shrunk advertising by 50% and that's clearly pushed a bit in the opposite direction, but when it's time to grow we expect to again grow inventory, we expect to again grow advertising I think there are other elements of positive feedback that.
We expect to kick off as well and we think that that will drive a big part of that growth.
Okay. Thank you.
The next question comes from Michael Baker with D. A Davidson. Please go ahead.
Hi, Thanks, So you said a lower cost structure is a competitive advantage how does that show up to me that means that it means you can get aggressive in price to win back shares is that the right way to think about it or is there. Another way, we should interpret a lower cost structure being a competitive advantage.
And maybe just as a second question my follow up is unrelated I also heard you say the last four weeks have been weaker if you could just talk about the you know the trends through the quarter and really into the fourth quarter. Thanks.
Sure. So let me start with I think unit economics, we view as a competitive advantage sorry, I think I would extend that not just the cost structure was a hit in a moment, but also to GPU.
I think a huge advantage of our business model.
Across all the time as has been our vertical integration, we're able to give customers a very high quality very simple experience and we're able to monetize a much more of that experience then than many others in the industry. As a result of that vertical integration and I think those benefits are showing up very clearly in our GPU.
We just had record Q3 GPU.
On the order of $6000, we had record Q2, GPU as well so the unit economics start there and and you were able to achieve those those gpus, despite giving our customers significant discounts versus many of the largest players in this industry. So I think that's the starting point I think of the power of our model.
I think that we have all of that into expenses you can see the gains that we've made in operational expenses were extremely proud of that that that's obviously not a super thing to a super easy thing to do especially while holding volumes flat we've dropped our operational expenses by $200 Oh from Q2 to Q3, we dropped by $200 from Q1 to Q2 before that.
And we're now at a place where.
Those operational expenses were actually lower than where they were in Q1 'twenty one.
And lower by about $100 give or take versus Q1, 'twenty one that that's good but it doesn't sound like it's a incredible progress, but I think it's much better when you take into account. The fact, theres clearly been quite a bit of inflation over that time I think based on Bureau of Labor Statistics data Oh, you're a waiver on average has been up by approximately 11% over that.
Period what.
What do we do the best job, we can to compare.
Our progress to that of other automotive retailers generally speaking, we're seeing several hundred dollars of increases in SG&A per unit over that time period, and so I think that the gains that we've made are pretty significant and then the some of those things I think you know ultimately adds up to our unit economics and then we do think that puts us in an incredibly powerful.
<unk> Oh that that gives us a lot of options in the future I'm not sure that we are exactly sure the ways in which we will express those options, but undoubtedly gives us a lot of options.
On your second question I would just say the last several years has been had been very unique I think there's been a ton of distortions in the market that have made things a little bit harder to to to kind of precisely forecast you know last year, we saw rates going up quite a bit in.
'twenty one we saw in the fourth quarter and in 'twenty. One we saw prices going up quite a bit. So I think it's a little bit hard to know exactly what to expect out of seasonality I do think over the last four weeks.
And given all the data sources that we have a we can see a kind of industry wide data. It looks like things have probably been a bit softer not to a degree that I think.
Is unique or merits a ton of attention, but definitely that's been the direction.
And so we'll see where that goes I like I said I think it's a little bit hard even figure out exactly what seasonality should be right now given all the changes we've seen over last couple of years.
Alright, Thank you fair enough appreciate the color.
Our next question comes true.
Okay.
Thanks, a lot and good afternoon, and so my question is when you pivot to growth for the first couple of quarters that you do that you think that year.
Leverage associated your excess capacity will more than offset the cost to support that growth and parents of advertising staffing vehicle acquisition and operational inefficiencies that could result.
Sure. So let me start with I think let me start with just pointing to history, a well let me start with our expectations. Our expectations are are that we expect our operational expenses to go down from here.
Overtime.
And we think they can go down despite growing over time, and we expect our corporate expenses per unit to absolutely go down as we grow.
So those are our expectations well in the data. We provided we gave a we provided a chart that kind of breaks out our operational expenses per unit going back in time, all the way to Q1 2018 and I do think looking at the period from Q1 2018 through Q1 'twenty one is somewhat useful.
During that period, we were supporting 70% annualized growth continually we were adding many many markets. We were adding many many inspection centers. We were building the machine of Carvana as we were going and we did not have excess capacity to grow into and we were able to hold those expenses roughly flat I think if you look at them Youll see variation to the tune of a couple of hundred.
Dollars Theres kind of an outlier data point as Covid hit but in general they were relatively flat and then you'll also see that there was even some gains as we headed into the better seasonal parts of the year as well.
So I think that's pretty clear evidence that we've done this before we've supported very high rates of growth and we've we've grown in a way that is more difficult because we werent growing into existing infrastructure. We were building infrastructure as we went.
We don't think that it's obvious that there needs to be meaningful expenses our expense increases in these line items as we turn to growth and overall, we absolutely expect there to be significant leverage I think that's very clear.
And our Gpus and very clear in our operational expenses. When you look at the gap between those two things there's a lot of room for growth to be extremely beneficial financially.
If that's the case then I respect the decision to continue focusing operational efficiency, but you're leaving a lot of opportunity on the table. So why not to say that the growth sooner rather than later.
Sure I think that I think financially in the near term that that would likely be the right choice I I think that the the scale of the unit economic benefits that would come from growth I think that likely would be the right choice over the next.
Yeah, a couple of quarters, however, kind of a long kind of heading into that.
I think when you look at it over a longer period of time, there is a fixed cost to reorienting. The entire business you know I I walked you through project catapult, which we kicked off you know 18 months ago and and in operation 100 would be kicked off approximately seven months ago.
Those are those are long term projects with many underlying goals, where the entire company is focused on driving different metrics in the right direction and that focus has been tremendously beneficial and we believe there are gains yet to be had and so I think that point to the direction of a disciplined suggest let's keep getting those those gains I mean.
I don't mean to be defensive on this one but I think if we go back in time, even nine months ago. I think the average expectation consensus was was on the order of $500 million of negative EBITDA. This year was kind of the expectation that that people had for us and over the last two quarters. It's been positive 300 million. That's obviously a tremendous difference.
And I think that demonstrates the kind of value that discipline of setting clear goals and a marching toward them.
But again I I think basically on map I think the answer is clear we should turn to grow are we just think that on math over a longer period of time, we should harvest the gains were in a position to get and then we should turn to growth and when we do we'll be even more efficient than we would be today are with even lower cost.
Thank you.
Okay.
Okay.
Our next question comes from.
Please go ahead.
For taking the question guys always always good to hear from you I wanted to ask two please mark in the presentation of Investor letter the per unit insights were Super helpful. As we think about you know staying in step two or when do we move to step three I wanted to ask just about specifically I think we saw inboard inbound transport costs declined $900 over the last.
12 month on a per unit basis, so we'd love to hear what drove those gains and how far away do you think we are to getting to that like you know peak efficiency, maybe not just with just inbound transport cost, but just overall I assume there's there's more ways to go but would love your thoughts there and then Ernie as we think about you know preparing ourselves.
For whenever the next step is same day delivery something that that's Super interesting would love to hear just early results for now and I think two or three states and cities would love to hear any insights on how that might be driving greater conversion rates and really just how the network is positioned to support same day delivery. Thank you.
Sure Ron Let me start with your first question. So I think I think what you're referring to is.
In the last 12 months, we have reduced our reconditioning plus inbound transport costs by about $900 I think that's a very significant win in one of the progress points that we're very excited about when we're thinking about the progress that we're making in step two.
What were some of the drivers of that so I think if we start focusing on reconditioning in sourcing was probably the single biggest driver. So basically taking services that had previously been provided by third parties in the inspection and reconditioning centers and taking them in house and doing them ourselves and that obviously saves costs and allows us to have better control of the process up.
I think that's been a big win in addition, I think we've gotten better at.
<unk> processes, making sure we're properly normalize that our staffing levels. We've made some big gains in proprietary inspection and reconditioning center software, including a fully in sourcing our inventory management system I think that's a big win and a big improvement that allows us much better control over the process and it allows us.
To really have.
Yeah again.
Clear standards and processes that are executed on every single car that drove the grid. The facilities. We've also made games automating parts procurement.
It used to be a highly manual process.
In a highly more variable process than it is today and so I think we've made big wins there in.
The proprietary software software development Department. So those are a few of the places where we've made real gains in reconditioning I would note that we do see opportunities for further gains and those areas that I just pointed to in recall and we don't think we're done we do see opportunities for further gains in and reconditioning costs per unit.
Moving to inbound transport I think a couple of sources of gains there are.
Yeah.
Getting better at.
Logistics network utilization as well as having lower inbound miles and so both of those things I think have also led to declines in inbound transport costs now one thing I did want to call out is there's actually two 900 dollar improvements that are of note I just talked about and I think your question was focused on the $900.
Gains in our retail cost of sales. However, we also have an additional $900 of significant gains in.
Our operational selling general and administrative expenses and that's we broken out some detail on that.
Our shareholder letter as well as the accompanying materials and so in total that's $1800 of total gains of those more variable cost components.
Say, a few words about the gains.
That second $900 of cost gains I think you know that has also been very broad based so that would include cost improvements for example in our customer care centers. It would include cost improvements in our market operations, which is our last mile delivery network.
Include.
Cost gains and our logistics and transportation departments.
Which you know hows, the logistics network that moves cars around for us.
Made very significant gains in some of those operational areas as well those have been driven by process automation improved staffing and scheduling better proprietary.
Logistics route management and activity pairing software, we've made some real improvements both in terms of processes and technology that have driven that second $900 of unit economics improvements and that one being since Q4 2022. So I think obviously, we're very excited about all of that.
$1800 in reductions on a per unit basis, and the more variable components of the cost structure I think it's something we feel really great about and as part of the reason that we're so excited about what we're doing here at step two before we transition to take advantage of our excess capacity and return to profitable growth.
Yeah, and then I'm going to jump on that for a second as well before before having the same day delivery. What I would also say is those gains are very high quality gains those arent cutting corner gains. During this period. We've seen warranty claims for example go down so we've seen frequency of warranty claims go down while we've been driving down our reconditioning expenses of a lot of the cost save.
The Mark is talking about are actually making the customer experience better scheduling benefits in logistics means that we're delivering cars faster we have fewer pushes when customers are calling advocates calls per sale are down approximately a third year over year.
We've seen calls per advocate or sorry sales per advocate have doubled year over year, we're seeing benefits across the board and title and registration we've seen very significant.
As well 75% increase.
In inefficiency per hour of work and time registration year over year, 15% increase quarter over quarter. So a lot of these things are also just making the customer experience better and during that period, we've seen N. P. S go up as a result so.
I think these are these are deep fundamental real gains are theyre not tradeoff gains and so we're extremely excited about.
Having same day delivery I think same day delivery is a very good example of one of these projects internally that we've been working on that as sort of I'm a little fuzzy in terms of what does it ultimately go ultimate goal at Sep two are separate.
And clearly it can play a role in both of the way that we've been executing that to date first of all as you said, it's in a small subset of markets. So I don't want to get everyone to too excited at this one just yet but the way we've been executing and to date has more been aimed at efficiency gains there are times when customers change their their delivery date or they cancel a spot that they've.
Did they previously booked and were not able to book that further customer by adding same day delivery, we can kind of fill in those empty slots and so we can offer faster delivery to our customers and we also can do it more efficiently because we fill in time that would've otherwise been wasted.
And so that's generally how we've rolled that out we're also just beginning to test.
Sandeep purchasing from customers as well, where they can go into our website. They can get value for their car. They can bring the car to us.
Actually had customers complete that process in in on the order of one hour from from kind of being on website too to getting a check from us as they as they dropped off their car at one of our vending machines. So we are working on those things I think those are exciting things today, they're aimed at efficiency tomorrow. They certainly could be aimed at growth in order to do that I think we just have some.
Some implications for our SaaS models, I think whenever you're trying to offer very rapid delivery times. The fundamental trade off there is always just between sort of efficiency.
And kind of excess capacity in time, but.
But we don't expect those costs to be Super high, but they will require focus and and we'll decide how to use those fundamental gains as we head into separate.
Thank you Mark Thank you Ernie.
Thank you.
The next question comes from brackets.
J P. Morgan. Please go ahead.
Oh, great. Thanks for taking the questions. The third quarter unit saw a bigger pick up I guess, what you had guided to.
We were expecting.
It seems it was a little better than normal seasonality in the industry experiences. So curious like what drove the pick up there.
Or was it just aided by the industry or anything you were experimenting internally.
As you think about moving from step two step three.
And why is that and why is why is that we're seeing here in the fourth quarter.
Is it again like a refocus on the operation or is it just more broadly just industry pressures.
And I have a quick follow up thanks.
I think the simplest way to think about step two is that during step two.
We're effectively setting up the company to be kind of neutral too.
Industry volume changes, what that seasonality or otherwise and.
And so I think you know Q3 was was great from a from a unit perspective, I think that was largely driven by seasonality I don't think there was a ton of specific stuff that we were doing that was aimed at growth in the quarter. There may have been some benefits from some of the other projects. We have that there werent there weren't gains that were aimed at growth.
Heading into Q4, we again expect to do kind of roughly move with industry. Because we are remaining in step two and we're keeping the settings of the business are fairly neutral.
So I think normally theres theres seasonal decrease in Q4, we expect that to occur again.
Again, I think most importantly kind of the the unit range that we expect is very much in line with what we've seen over the last several quarters and we think that that's a reasonable unit range for us to continue to make gains as we power through step two and get ready for step three.
Understood. That's helpful and just a quick one on just the financing in the ABS market.
We have seen spreads widen a bad benchmark rates have gone up.
How does that change your thinking around monetization and before.
Quarter.
I believe you still have a bit of a backlog from earlier this year that needs to be cleared.
You talked about holding onto more recent deals going forward I mean is that something we should expect to start seeing this quarter already.
And just maybe like just broader thoughts on how we should think about you know the finance GPU.
From triggered a four tier.
Yeah.
Sure I think there is certainly all of the changes you pointed to our reasonable there there's been some some kind of choppiness I think across all financial markets over the last many months and I think that that's shown up in benchmarks shown up and spreads.
As we have in the past, we would expect others to be passing that on.
Consumers, we would expect to do the same.
So generally speaking I don't think that we have a tremendously different expectations. There I think in terms of our general monetization plan I think that first order or our plans remain the same at the plan that we've had in place has been a very good for a very long period of time you know even in this last quarter, we we had four securitizations.
We were we were pretty happy with I think we still have room to improve our effective cost of funds those securitizations and I think if we if we were kind of achieving industry best cost of funds. There there would be a another kind of.
Area, where we would have significant improvements in our unit economics.
And over time, we absolutely expect that to be the case I think we also are clearly in a in a different capital position than we've been in quite a while most importantly.
The improvement in our capital position is led by the gains that we're seeing across the business that led to $300 million of the EBITDA over the last two quarters.
And then we're in a good liquidity position with the business operating the way that it is so I think that we we are now communicating that we will be more open to maintaining residuals in the future we.
We'll see exactly what form that that takes over time I think there are lots of forms that can take but we view that as an opportunity as well in general are there, they're very high quality assets. These auto loans, we generate.
And the residuals offer pretty significant returns that are very robust you on it.
Increases in expected losses, and I think it's a it's a tried and true strategy for many in the industry to to maintain those those residuals in and get paid pretty handsomely for it. So we think that's an interesting opportunity we will start to explore.
We would like to maintain the right to do that flexibly overtime, so that may be a change.
Okay, great. Thanks for the color and good luck.
Thank you.
Our next question comes from Chris.
BNP.
Please go ahead.
Yeah.
Sure.
So just wanted to kind of clarify that had exposure disclosure on that they've ever had.
If you're a supplemental deck shows us $141 million, excluding D&A of $45 million is this largely the same bucket expenses as the 172 other expenses in the core P&L and then I guess the way you're framing it it sounds like the vast majority of the 141 plus the D&A are fixed.
You need growth to scale is that correct.
Is that the correct way to frame it like how much of that is actually fixed versus variable because when I look at the way you define other expenses in the Q and just commentary in the past its I T corporate occupancy it's professional services insurance. It's limited work he its credit losses customer slag, except what other stuff sounds variable and some of it sounds like you could cut it restructured.
So kind of a sense of how you're thinking that that bucket I'm, a fixed versus variable perspective going forward.
Sure I'll take that one so I think the to hit the question very simply the overhead expenses of 141 million are not the same as other SG&A expenses that we've historically reported.
They are that that new slide on overhead expenses per unit and also in dollar terms is intended to capture the more fixed components of both compensation and benefits as well as the more fixed components of other SG&A expenses.
So just to give some sense of what that is in compensation and benefits that would be your corporate teams accounting legal some of the more general and administrative oriented it's corporate teams. It would also be your technology teams so things there.
You know our product engineering data science, those those compensation and benefits.
<unk> expenses would be included in that that new overhead slide that we provided when you move to the other SG&A component.
Some of the.
Some of the expenses that underlie our historical other SG&A expense that would then be included in this new overhead expense measure would include facilities expenses it.
It would include some technology expenses and then it would also include some non payroll.
Other general and administrative expenses and so that's just to give give a sense at all and most importantly.
With respect to the set up your question clarify that that is not the the new overhead expense measure is not a parallel or a proxy for that other SG&A now in terms of the question.
What component of overhead expenses are fixed and what component of variable. So you know.
Those expenses we.
View as primarily fixed there are.
Some semi variable components.
For example, as you know a few corporate departments.
They vary somewhat with units certain technology expenses may vary somewhat with units, but for the most part that those expenses are heavily fixed and we think we have the ability to lever those expenses very significantly.
Over time, and just to give a little bit more color on that last 0.1 of the reasons why we.
We are really excited about the leverage opportunity that we see in front of US is the our existing capacity utilization and so as you probably saw it in the shareholder letter or the accompanying materials.
We have built.
And currently one significantly more capacity, whether it's in our inspection and reconditioning centers or our logistics network, even our corporate office are not even corporate but more so a customer care center office space, we own significantly more capacity than we are utilizing today, we think that.
Gives us an opportunity to.
Increased retail unit volume significantly.
While leveraging those overhead expenses meaningfully in the process.
Got you Okay. That's all I have.
Sounds like it's pretty much kurth dependent I mean kind of leaves me like a related follow up.
I know you're not willing to give guidance at this point for growth, but from our shoes, how do we think about growth I mean, the market's a little bit depressed call. It 10 to 12 points that I think theres, probably some supply scarcity. That's caused you to lose market share that gets better over the next year.
234 years.
But beyond that like what are the you have your tangible growth drivers like <unk>.
Prime now like delivery, but but how do you get to this $40, 50% to 200% unit growth that you need to lever the fixed costs like what gets you cover that you can get there in <unk>.
She was academy, how do we model that like what does that mean for an investor.
So let me say that one let me start I think.
Until we really start to grow these are all conceptual arguments that one has to decide kind of what they believe and what their expectation is but I'll start with with ours, we expect to sell millions of cars, but that is our that's been our goals at the beginning that is our absolute expectation and I think I think a question to ask across time is what has really changed versus.
The first eight years of our life, where we grew very very quickly.
Because I I think that it's as hard to answer that question as it as it is or harder to answer that question than it is to answer on how are we going to grow from here.
During the early parts of our lives we grew at triple digit rates for a very long time and you know that took many forms it took but I think the most exciting forms where basically a migration of people's preferences toward ecommerce. It was a building of the Corona brand.
It was a positive feedback inherent in our business model. We are a business model that gets better as it gets bigger and so it is true that when we grow inventory selection goes up conversion goes up when conversion goes up your advertising hospital you spend more on advertising you sell more cars that that allows you to carry more inventory and there's several other examples of that as well so.
I think those persistent drivers of growth led us to grow by multiples over an eight year period of time, and then I think you know over the last year and a half.
<unk> clearly been in a highly distorted environment.
That makes it a little bit harder to kind of read through and take the current trend lines and figure out exactly how to extend them.
But we don't think anything fundamental has changed and we think that we put a lot pressure ourselves over the last 18 months as we focused on getting more efficient and you know that the just to use those same terms of the primary endpoint that's taken as we drop our inventory by 50%, meaning that our selection of customers has gone down and we pulled back on marketing spend by 50%.
Those things that fed back negatively so I think when it's time to restart the engine we expect that.
Our offering will be received the same way that it wasn't before we expect the positive feedback will once again show up and we expect that some of those things to lead to a selling millions of cars again in the future.
I think we've spoken in the past about the distortions of the market that we're in today and I think that that can sound a bit conceptual and kind of.
Clear, but I think a statistic that I think is useful to think about as it relates to you how things changed over the last 18 months and this is the last 18 months really the timeframe, we should be looking at to extrapolate the long term potential of Carvana should we looking at the earlier periods.
Pre pandemic the average car that we sold was approximately a three year old car that car was for sale for approximately $19500 more recently the average car that we've sold has been 5.7 years old and it's been sold for $25000. That's a dramatically different situation and I think there is many many reasons for that.
One is there was obviously a huge supply chain disruption those fundamental as it was a huge supply chain disruption that led to car prices going up relative to other goods. It remains the case today that for consumers buying cars theyre spending approximately 50% more per month by the same car than they were pre pandemic.
Our spending on the order of 10% more on everything else, they're buying so cars have gotten relatively less affordable and that of course has a very large impact our expectation would be that at some point in the not just in future as supply chains get resolved cars will probably have a similar cost relative to other goods as they had for a very long period of time before.
And that's a very big difference.
We would expect I think it's also useful to note that one of the other reasons why the average car that we're selling today is five seven years old versus three years old is because and entire portion of supply.
That we used to have ready access to which was added maybe two portions of supply off lease and off rental that we used to have ready access to have largely evaporated because of the distortions that are driven by the price increases over the last.
Year, and a half give or take.
And the reason for that is that you know all.
All the cars that are coming back off lease today those releases that roughly if we assume the average lease is 36 months. They were leases that were written three years ago three years ago car prices, we're in a completely different spot and so the expected value of cars being returned within a completely different spot and as those cars are being returned today.
Every dealer where those cars are landing is very smartly, you'll picking those cars up and and benefiting handsomely to the tune of thousands of dollars per unit.
From all of those cars that are showing up on their lot and so youll basically off lease cars are just not flowing through auction today.
And because of the Oems have been constrained there are very few rental cars that have been flowing through auction. Today. So those are big big distortions that lead to a meaningful change in the portion of the market that we are accessing but I don't think that there are strong arguments that we should expect that to persist over any meaningful period of time and I think there have already been early signs of some norm.
<unk>, we've seen depreciation pick up a little bit more recently, we would love to see that continue I think there is nothing that will lead to the normalization of the market more quickly than car prices coming back into line with where they historically were or even close to where they historically were.
And so I think we very much look forward to that.
But as those resources unwind I think the more likely scenario or at least our belief and everyone can make up their own mind is that we're back in the world that we were for eight years before and in that World. We have an offering customers love. We have a highly differentiated model we have a ton of infrastructure that we can grow into we have a business that gets better as it gets bigger we have a team that is hustling fast and as always.
Hustled fast and has changed the direction of that hustle over the last 18 months, but it is ready to change it back and we're going to hit our goals. So I think when we look forward. We don't know exactly what the growth rates are going to be we're not ready yet to provide that I think it's going to depend on all sorts of factors macro factors industry factors, our own execution, but we do.
It can be considerable and our expectations of the future are absolutely unchanged versus what they were before.
Gotcha very comprehensive thank you Eddie.
Thank you.
The next question comes from Michael.
Please go ahead.
Hey, good evening, thanks for taking the questions just wanted to ask if I could if you could discuss a little bit what you saw in terms of the wholesale market. Both with respect to volumes. But then also I think some of the relatively widespread between wholesale and retail that you referenced and if theres any update into October on that front.
Yeah.
Alright, I can take that one so I do think we saw.
An increase in wholesale market depreciation in Q3 relative to what we were seeing in Q2 I do think the way that flows through our business certainly impacts wholesale GPU, where the cars that we're buying from customers that our wholesale eligible.
It's a little bit more depreciation that tends to push down margins and then that can also flow through to volume.
If we.
Adjust in order to taken chickens.
Consideration updated depreciation expectations.
So I would say that's.
Probably that's the pattern that we saw in Q3 and then the most important impact that it had on our business I think if you moved to the retail market Oh, I guess I would also say.
The retail the retail depreciation that we saw in Q3.
Based on our data was actually the highest level of retail depreciation that we've seen in the third quarter going back at least through 2018. So it really was a somewhat unusual quarter for retail depreciation.
And so that you know that definitely had an impact on our retail GPU I think we feel.
Particularly pleased with our retail GPU in light of the fact that we.
We saw.
Many year highs in retail depreciation in the quarter.
And so that that was a.
Just to add a little bit more color. Another dynamic that we saw in Q3 was elevated retail depreciation in addition to elevated wholesale depreciation.
That's great and just to follow up on some of the commentary about focusing on enhancing levels of profitability.
I guess, how urgent or how much opportunity do you see potentially mark.
Kind of over the next two years to potentially start eating into the debt stack.
To avoid some of the higher interest payments a couple of years out.
So I think are our most important priority and this has been the way we've thought about our most important priorities for many years running now is improving the operations of the business and obviously, we've made tremendous gains there as we pointed out the last couple of quarters.
<unk> over $300 million of adjusted EBITDA.
Of which on the order of 100 was one time items, but that still.
You know leads to a very significant.
Generation of adjusted EBITDA over <unk>.
Just the last couple of quarters with you know we believe.
You know opportunities for further improvement in unit economics, as we continue on with our step two initiatives.
So I think the I think.
Our focus is going to be on continuing to improve the fundamental strength of the business continue to make progress on unit economics in step two and then when it's time to return to step three taking advantage of our significant excess capacity.
<unk> two <unk>.
Efficiently grow.
While also significantly levering overhead expenses.
And we believe that.
Combination leads to growth.
Profitable growth that that I think we're very excited about.
Thank you.
Our next question comes from Danielle.
Stephen Please go ahead.
Hey, good evening everybody.
Maybe wanted to own two follow ups on inventory, maybe first just on inventory efficiencies. So retail GPU I guess, partially benefiting from just carrying fewer cars, having less depreciation do you think corona can keep this near 66 days of inventory as we returned to growth like have we learned to be more efficient with days on hand are where we need to build.
That inventory back before we can they can return to that unit growth.
So I would offer a couple of perspectives on that one.
During our some very significant growth years prior to the pandemic we operated in.
A low to mid sixties average days to sale in some quarters, even ticked down to the high <unk>. So I think we feel very comfortable operating in this range of average days to sale and indeed have done so for many years while.
Execute at very high growth rates.
So I think that.
I think that would be.
The most important point on that particular question.
Got it Okay, and then maybe a follow up on inventory as we think about off lease availability or can you just talk about returning supply, but if they ever leaves. The 36 months, we're about to come up on a period, where fewer units were sold and fewer leases were generated and so if we don't get back to pre pandemic off lease for a couple of years I guess, what other sources can you went into to support.
That growth.
Sure. So yeah. So first of all I think you're right. So just to set that set the table I think lease rates were relatively consistent.
Through.
At least the beginning of 'twenty, one and then I think as you headed through 'twenty, one lease rates dropped to about half what they were prior as a percentage of new car sales.
By by the end of 'twenty, one and so as we head into 'twenty four.
<unk> of cars coming off lease will decrease.
That is correct.
We view that first and foremost as as a positive and and the reason is because.
Those off lease cars have not been making it to us. So first order the effective way to think about our access to off lease cars of last year and a half has been that it has been roughly zero and so we have not benefited from the existence of those cars coming off lease and I think you know as as we head to a comp period here as we head into 'twenty. One another thing that happens kind of another dimension is.
We start to comp over periods, where car prices were higher so the expected value of those cars were higher and so the expected residual value of those cars were higher and therefore, they are kind of less valuable cars relative to expectation that are showing up on dealers' lots.
And therefore, most likely are less likely to.
To just be held by dealers and so.
They will probably start to flow downstream to us. So I think we view that as a definite positive.
Because it gives us access to additional inventory, we also think that.
That same dynamic has probably been something of a competitive headwind for us over time, because there has been a single channel of cars that was just materially better priced than all other channels of cars that were you.
In a competitive market, which is either buying at auction or buying from customers, which is where we've been sourcing cars.
And so we think with that kind of competitive headwind being pulled away from us.
It's also a positive so we look forward to that.
The point that lease rates going down.
<unk> changed some of the dynamics across the some of the industry as we move away from just kind of Carvana specific impacts were independent dealer specific impacts to the entire industry. I think that point is correct that fewer cars coming back I will change things, but well you have to keep in mind that those cars were still sold in in 2021, just a larger proportion of them were sold.
With alone or with cash and so when is it happening then is instead of having a scheduled return of that car to the used car market in three years, you instead have kind of a customer making a decision about when do they want to get their next car.
And that will of course have a distribution overtime, but in general customers still desire to swap between cars and so we do ultimately expect those cars to come back into the market at the industry level as well.
Maybe just with a little wider distribution of time, so just to summarize that again.
These points about the kind of impacts that may occur over the next couple of years to the some of the us retail market because of reductions in new car sales or reductions in lease volumes. We believe those are correct for the some of the market. We believe that they are actually benefits to us and to other independent dealers who have effectively been.
Locked out of access to those cars of over an extended period of time. So we look forward to that and we view it as the alleviation of a competitive headwind.
Understood appreciate the color.
Thank you.
This concludes our question and answer session I would like to turn the conference back over to Ernie.
Sure.
For camera.
Great well, thanks, everyone for joining the call to Carvana team. Thank you. This is another incredible quarter.
Set it four or five different forms already but I want to keep repeating it I think it was incredibly hard for anybody to see us, making the kind of progress that we've made over the last 12 months from the perspective of 12 months ago and that's because we've stayed focused because we kept our heads down it's because of the incredible work that you've done and we couldn't be more grateful, let's make sure we keep doing it let's make sure that we learned the lessons that we learned over the long.
24 months and just become a better version of ourselves into perpetuity. Thank you I will talk to you guys. All again next quarter.
Okay.
The conference has now concluded thank you for attending.
Sure.
Yes.