The Expert Podcast

We can't say we didn't tell you So last year we did a couple videos on the title problems that were happening at Carvana And in those videos we also asked the question are the problems more than just title or their financial problems are their business model problems And one of the videos we had we asked the question is Carvana going bankrupt
And part of that question was analysis of their business model I'm going to talk about How the automotive business works how they process titles And why titles are directly connected to the finances of an automotive dealership There's a thing called floor plan Credit lines And auction lines And all of those things are related to the finances of a company and the titles In many cases when they're title problems it's an indication of a larger underlying financial issue We're going to get into all that And the reason why this is important for car titles is if you have purchased a vehicle from a dealership and you're having title problems you want to make sure that the problem is only the title and not the financial health of the of that dealership So let's take a look at Carvana Not to pat ourselves on the back too much But like you said we asked the question a year ago Are they going bankrupt And here is the Motley fool One of the largest investment consulting websites I'm here middle of the year in 2022 asking the question is Carvana stock going to zero And they asked the almost the same question that we did almost a year ago Well how could that happen It's a very large automotive company They have dozens of million dollar facilities You know what The big Carvana vending machine car vending machine where you You don't have cars stacked up They sell Thousands of cars every month How can a company like that go bankrupt when they're on the stock market Well any company Technically it could be bankrupt If their assets are exceeded by liabilities meaning that if what they have in cash and vehicles in real estate is smaller than the number of the debt that they owe And with many startup companies They will lose money for the first few years to try to What they call disrupt the market And get some market share and then they'll start making a profit Well the problem with the automotive industry is from the outside It looks simple but it's really a complicated industry It's a very low margin business When dealerships sell a 40 or $50,000 car they might only make A thousand bucks 1500 bucks depending on the market on new cars And when you sell used cars you might be able to make more However there's only a certain Percentage of people who are willing to buy A higher end use car At a used car dealership Most people want to buy a used car from a new car dealership You know you see the Ford store the Chevy store the Honda store and they have used cars and new cars People prefer to buy used cars from those larger stores because presumably there are nicer maybe they're trade-ins and they have the service facilities there to fix those cars Sure There's used car dealerships You see them all over Your area Joe's used cars right They're all independent used car Lots How many of those dealerships Our chains
And buy a chain meaning there's more than one with the same name In your area Can you think of any dealership That only sells used cars that has multiple locations all over the place I probably can't think of any there's a couple of companies out there The most Prominent one do you've heard of Is CarMax CarMax was split off of circuit city which was a electronics chain back in the eighties and nineties And they started used car retailing And at first they struggled as well For many years they struggled to make money and they struggled to figure it out What they did do though they tapped into a market of people that are willing To do No haggle meaning whatever the price is that's it Take it or leave it I can't negotiate the price And some people are okay with that It doesn't mean the price is good It just means that you don't negotiate it Most of the vehicles at CarMax are priced at or above the average Selling price for that same car If you look at cars on their lot what they're asking for it it's not a huge discount over Book value or online value guides It's average price fair price They're not ripping people off per se But they're not huge discounts People are willing To pay a little more to not have that dealership experience Right The dealership negative experience where you have to haggle and you go back and forth with salespeople However Even though a lot of people complain about that dealership experience A lot of people are willing to go through it If it saves money If you're willing to hash it out haggle with a salesperson and save a thousand dollars Save $1,500 That might be worth it for some people Some people just don't want to do it but that's a small segment of the market So they captured that market In reality not as many people want to buy a used car From a non-franchise dealer As the market thought and there's is where Carvana comes in They Went public They got a lot of money from Investors and for people who bought their stock in the IPO And they opened up all these facilities got this inventory but running a car business is difficult You have to keep track of your inventory Used cars dropping value every week A new book value comes out every week and that cars dropping You have to get it sold They can't sit on your lot Most dealerships operate on a 30 day term meaning that that used car sits for more than 30 days You just have to blow it out for whatever you can bring it to the auction Because it's going to be worth less At some point Where to titles come in as a problem Well if you're a used car dealer And you're having problem with finance You don't have enough cash to run your business You can shuffle around Your titles to get more money Here's how that works You buy a car from an auction which is where most cars come from For used car lots One of the largest car companies is called Manheim Manheim auto And they have auctions all over the country and they sell thousands of cars sometimes every day at these auctions And so if you're a dealer you go to the auction cars going through the lane it's just like what you imagined It's a bunch of people bidding our cars raising her hand I want to buy a car
And let's say you buy 10 cars truck load of cars And each car average $25,000 Well that's $250,000 Of inventory 25,000 times 10 cars is 250,000 Well normally you'd have to write a check and pay cash for those cars When you leave the auction however Manheim like most auctions have a line of credit and they'll they'll front you the cars Take the cars Here's the keys put them on a truck bring them to your dealership Don't pay us now Don't worry about it We'll take care of you
But two things happen They hold onto the titles That's there Collateral That's their leverage to make sure you're going to pay them for the car They give you the title You could sell the car and take off They hold the titles And they charge you interest it's not free They charge you interest Maybe the first 30 days is free And after that you start Accruing interest So you bring these cars to your lot Now you have these free cars You could retail it to a customer A car that you paid 25,000 for let's say you sell it for 27 5 You make $2,500 profit And then put that in your bank You pay off the auction the 25 and you keep the rest Well what would happen If you needed some cash To run your operation And you sold that car for 27,500 And you decided well you know what Instead of paying back the auction
Let me keep that 25,000 for a little bit for a few weeks Or month or two months to help fund some other things maybe pay my payroll maybe pay some other expenses I have my rent My mortgage my utility bills Well the auction doesn't give you the title They don't know you sold it You didn't tell them you sold it but you retail that you gave the customer a temporary plate They're driving Now If you do that thinking someday you'll have more money and you can pay off that car That's great But if you take that 25,000 he used it to pay payroll Now that money is gone What happens when that customer is looking for their license plate and their title You don't have it And you can't go to the auction and make them give it to you because they want their 25,000 Would you already spent This is what could be happening Nobody knows there's no proof or evidence or any direct knowledge This is happening with Carvana but this has happened before many times with dealerships they get short on cash And you can actually take it a step further When you get that car to your dealership Before you sell it to your retail customer You can put it on another line of credit called a floor plan A floor plan is a line of credit you get from your own bank That finances all your inventory not just the ones you got from the auction but that you purchased anywhere So now you get a free car from from the auction You put it on your floor plan for 25,000 Now you have 25,000 in cash You sell it to a retail customer for 27 5 Now you have like 52,000 in cash For a car that you never paid for Yeah that works It's tempting to do If you're a dealership short on cash this usually doesn't happen to large operations Usually it's a smaller used car lot that just runs out of money They don't know how to manage your business and they go bankrupt But what if you are a public company
public companies can get short on cash to in fact If the bigger you are the faster you spend money There's been some reports in that Motley fool article that said they might only have three months worth of cash Left They have to borrow more So why not borrow it from a source that already exists again There's no Evidence or nobody's saying this is happening but when you are any kind of company that's running short on profit You look to get cash from other places And floor plan and credit lines are our one area You can do that And that affects titles because those titles are held They're first held by the auction Even if somehow you get it from them Now they're held by your floor plan And if you're not running your operation well Then
The those retail customers can go weeks months W there's been some that have had cars for more than a year with no title The excuse that Carvana will give is that They're titled department isn't running that well they don't have a lot of experience It's new to them and they're really just getting used to it Well if you don't know how to run a title department and you have this large automotive operation then certainly you're also going to be making mistakes with inventory And letting cars get too old and paying too much for cars Managing a used car inventory is crucial For dealership If you don't manage your inventory you could be underwater and lose money quickly All the money you make at cars you sell can be easily wiped out by the cars you don't sell that Sit on your lock collecting dust Because two three months later the book value dropped And now you can't sell them Or if you're not careful when you buy cars and buy cars that are lemons that have mechanical problems that you didn't notice because your buyers are not that Astute Buying used vehicles is a is an art The people who go to the auction to buy me out to be really sharp because people bring cars to auctions They're trying to get rid of And things like a $2,000 computer that's putting a Check engine light on the dash People do all kinds of stuff to hide that they'll put a little piece of black electrical tape on the underneath the dash to block the light They'll hide previous damage from collisions You have to know what you're doing when you're buying these cars And if they don't know what they're doing with something as simple as vehicle titles How do we know that there Astute when it comes to purchasing inventory in managing inventory Again nobody's saying this is happening but the stock has gone from three to a hundred and something down to 20 there are people who know what's going on
Hedge funds know how to get information from inside a company And hedge funds drive most of the stock price So keep your eye on this company again You know we You know implied in suggested the last year that maybe there's more to the title problem than meets the eye because usually is without any direct knowledge of it and not accusing anybody however There's more and more Financial Experts that are asking the same question Is Carvana really a business Does it really have a secret sauce or magic That's going to make that business model work Disruptive companies even in other industries You know the mattress companies the Warby Parker I L I glass companies all those companies that came in to disrupt even Uber with with taxis It's difficult to get into another business And disrupt it and succeed Especially with something as capital intensive And difficult to manage as automotive retailing