CarMax, Inc. — Form 10-Q Summary
Business context and reporting period. CarMax operates used-vehicle retail and wholesale businesses and CarMax Auto Finance (CAF). This quarter ended November 30, 2018, the third quarter of CarMax’s fiscal 2019; comparisons are with the corresponding prior-year quarter. The filing also reports results for the first nine months of fiscal 2019.
Financial performance
| Metric | Quarter ended November 30 | Nine months ended November 30 |
|---|---|---|
| Net sales and operating revenues | $4.296 billion, up 4.6% | $13.854 billion, up 6.3% |
| Gross profit | $569.2 million, up 5.6%; 13.3% of revenue versus 13.1% | $1.881 billion, up 5.0%; 13.6% versus 13.7% |
| Earnings before income taxes | $247.8 million, up 10.0%; 5.8% of revenue versus 5.5% | $857.0 million versus $853.5 million |
| Net earnings | $190.3 million, up 27.9%; 4.4% of revenue versus 3.6% | $649.9 million, up 19.9% |
| Diluted earnings per share | $1.09 versus $0.81, up 34.6% | $3.66 versus $2.93, up 24.9% |
| CAF income | $109.7 million, up 6.7% | $335.0 million, up 4.6% |
Quarterly used-vehicle unit sales increased 2.3%, but comparable-store used units declined 1.2%; average selling price rose 1.3%. Wholesale unit sales increased 10.0%. Quarterly SG&A rose 2.5% to $409.5 million, while interest expense increased to $18.8 million from $17.4 million. The effective tax rate fell to 23.2% from 33.9%; management attributed much of the earnings growth to the lower rate following the 2017 Tax Act and to share repurchases.
For the first nine months, operating cash flow was $114.6 million, compared with $193.1 million of cash used in the prior-year period. Management’s non-GAAP adjusted operating cash flow, adding net non-recourse note issuances, was $863.0 million versus $551.5 million. Investing cash outflow was $247.0 million, including $243.3 million of capital expenditures. Financing cash inflow was $146.8 million and included $633.2 million of share repurchases.
Balance sheet, funding and liquidity
At November 30, 2018, cash and cash equivalents were $35.0 million, restricted cash from auto-loan collections was $426.6 million, inventory was $2.425 billion, and net auto-loan receivables were $12.299 billion. Total debt, including $12.393 billion of non-recourse notes and $515.9 million of finance and capital lease obligations, was $13.903 billion, up from $13.143 billion at February 28, 2018. Non-recourse debt is principally secured by CAF receivables.
The company reported $1.01 billion of unused capacity under its $1.20 billion revolving credit facility and $1.26 billion of unused warehouse capacity. Management said expected operating cash generation and available or anticipated funding arrangements should fund CAF, capital expenditures, repurchases and working capital, while noting that funding costs and availability depend on credit-market conditions. CarMax reported compliance with financial covenants and non-recourse funding performance triggers.
Material changes, outlook and risks
- CAF’s average managed receivables grew 8.4% in the quarter, supporting higher income, but its interest margin narrowed to 5.6% from 5.7%. The quarterly provision for loan losses rose to $40.8 million from $37.5 million. Past-due accounts were 3.77% of managed receivables, compared with 3.54% a year earlier; the allowance was 1.12% versus 1.11%.
- CarMax repurchased 3.66 million shares during the quarter. A new $2 billion authorization was approved in October; $2.384 billion of total authorization remained available at November 30.
- Management planned 15 store openings in fiscal 2019 and 13–16 in fiscal 2020, and estimated fiscal 2019 capital expenditures of approximately $325 million. The new Atlanta omni-channel buying experience launched in December 2018; management anticipated availability to most customers by February 2020. No specific earnings or revenue guidance was provided.
- Management cited investments in technology and omni-channel initiatives, store expansion, high vehicle acquisition costs and possible continued wholesale-market changes as relevant factors. It said used-vehicle supply from off-lease vehicles could affect auction prices, acquisition costs and CAF recovery rates. Rising funding costs or competitive pressure could further compress CAF margins.
- Adoption of the new lease standard was expected to increase assets and liabilities by approximately $400–$430 million at March 1, 2019, without a material expected effect on expense recognition. The company expected the forthcoming credit-loss standard to materially affect its allowance calculation.
- Revenue-standard adoption added $8.4 million of ESP profit-sharing revenue in the first nine months and increased opening retained earnings by $12.9 million after tax; no such additional profit-sharing revenue was recorded in the quarter.
- CarMax disclosed five California wage-and-hour proceedings and an informal inquiry by California municipal district attorney offices concerning hazardous-waste handling, storage and disposal. It could not reasonably estimate potential losses. It reported no material changes to the risk factors in its latest Form 10-K.
Investor verification points
- Confirm the fiscal-quarter comparison and the extent to which the lower tax rate, rather than underlying operating growth, drove earnings and EPS improvement.
- Track comparable-store used sales, customer traffic, vehicle acquisition costs, gross profit per unit and the effect of planned store expansion and technology spending.
- Monitor CAF interest-margin compression, delinquencies, charge-offs, loss reserves, recovery rates and funding costs.
- Assess non-recourse funding and warehouse renewals, liquidity after repurchases and capital spending, and the company’s debt excluding non-recourse notes.
- Review the eventual outcomes and any quantified exposure from the California wage-and-hour cases and hazardous-waste inquiry.