Consumers Are Steering Clear of CarMax

CarMax Inc. (KMX) stumbled through its fiscal first quarter amid a very challenging consumer spending environment. The company reported a 55% drop in profit, but of even greater concern, the company has suspended earnings and same-store sales guidance for the rest of the fiscal year as fundamentals continue to deteriorate.

In April, the company issued guidance of EPS of 78 cents to 94 cents for this fiscal year, which was below analyst expectations at the time. Now the company is not even willing to stick by that disappointing forecast. The car dealerships suffered from slowing consumer spending inextricably linked to high gas prices as well as food prices that are straining consumers.

The near term prospects for the company are bleak at best, as it is not even able to provide the market with guidance until the economy stabilizes.

CarMax’s gross profit margins fell to 8.5% in the quarter and profit per vehicle fell to $2,564. A major detractor from profits was the declining value of trucks and SUVs as high fuel prices have caused demand for these gas-guzzlers to plunge.

The increase in fuel prices has hurt CarMax twofold as consumers were pinched by the drop in their disposable income and the value of CarMax’s inventory of lager vehicles rapidly depreciated. Trucks and SUVs dropped in value by 25% according to some estimates. Overall sales actually improved 3% to $2.21 billion and used vehicle sales increased 6%.

CarMax fell short of consensus analyst estimates for net income of 20 cents per share, bringing in only 13 cents per share in the quarter. The results were less than half of net income from the first quarter a year ago, when CarMax netted 30 cents a share.

Ockham has a rating of Hold on KMX, looking at it from a historical valuation basis. Valuation metrics such as price-to-cash flow and price-to-sales are well within its normal ranges. Although we upgraded KMX to a Hold from a Sell just 3 weeks ago, the new information released Wednesday is distressing.

When management of a company suspends future guidance because it is uncertain about the environment, it is serious cause for concern. The market is responding to this uncertainty as the shares are off almost 13%. Now is not the time to buy into CarMax, at least for the time being, even though long term we believe the shares should trade around $19.