Vroom - Hello Junk Status, Only One Way Out
- Multiple quarters of increasing losses have investors rightfully worried.
- Light Asset Strategy was misguided.
- Given market resistance to fund high growth companies with increasing losses, Vroom needs to seek a bigger financial partner now.
Vroom (NASDAQ:NASDAQ:VRM) announced earnings yesterday that might have completed an incredible implosion. Over a period of several months dating back to August, Vroom has converted from high growth darling to an orphan struggling to find its way. Vroom's management has completely missed the ball on its asset light strategy and is now racing to pivot as a result of Carvana's (CVNA) acquisition of ADESA a week ago. Vroom now has to replace 20-25% of its reconditioning capacity via other third-party partners or greenfield facilities. The latter is clearly the right direction but will require additional investment dollars - dollars Vroom is going to quickly find scarce.
In Vroom's report it exceeded units sold across all its operating segments but missed its ecommerce gross profit per unit (GPPU) guidance by $650, ending at $1,548. The reasons for the miss were varied and numerous such as unexpected depreciation in higher end vehicles, strain on reconditioning centers due to Covid, one-time factors, etc. The bottom line, Vroom's bottom line continues to head in the wrong direction. Moreover, guidance doesn't suggest a quick recovery. The table below summarizes that as revenues have continued to ramp higher over the last 12 months, costs have grown at a higher rate, steepening losses at the worst time possible.
|Q1 2021||Q2 2021||Q3 2021||Q4 2021||Q1 2022|
Note: Q1 2022 represents the mid-point of guidance
Clearly, the Company's previously touted asset light model has not proven adequately efficient and left the company exposed to shifts in the industry such as Carvana's surprising acquisition. Vroom's stock has plummeted by 40% subsequent to the report, a drop in the bucket compared to its aggregate sell-off since its initial fall from grace.
Despite Vroom's proverbial fumbling of the ball, the industry has real and significant tailwinds that will likely continue for years to come as consumer behavior continues to shift toward online purchasing. As such, we believe there is room for multiple players to succeed in this space. Vroom has carved out a position in this space but certainly lags its biggest competitor, Carvana, which is about five times larger. However, we don't believe Vroom has the capital under its current structure to effectively compete and will need to seek out a larger financial partner to extend its runway.
Vroom management may believe they can climb out of this self-inflicted hole by posting sequential improvement throughout 2022, but the need for additional cash will be unavoidable at some point in 2023, unless there is a step change improvement in margins. Pro-forma for the UACC acquisition, the Company has $833mm in cash on hand at the end of 2021. We estimate that this cash balance will approach $450mm by year-end 2022, excluding any significant capex plans. Without an accommodating market backdrop, Vroom will doom itself to highly dilutive financing at best. The stock's re-rating reflects a significant increase in risk for such an outcome. Management would serve its shareholders better by seeking a capital partner today while it still has some leverage in discussions. Investors are discounting a liquidity profile that will become more dire in the next 12-18 months. If management can allay those concerns, the equity will likely benefit from a subsequent and material relief rally.
In a perfect world, Vroom would sell itself in a stock for stock deal to Carvana. The strategic rationale for such a deal is highly evident in an environment that online car retailers are looking to scale quickly. Such a combination would serve to enhance inventory levels, create massive cost synergies (i.e. infrastructure, overhead, marketing, etc), fulfill under-utilized reconditioning capacity and eliminate a strong competitor in purchasing cars directly from consumers (76% of Vroom's cars were sourced directly in the fourth quarter). Other large strategic players such as CarMax (KMX) also make sense. In a less likely scenario, Vroom may find a private equity firm willing to take a majority stake in the company with deep pockets to enable Vroom to continue on a stand-alone basis. Regardless, the status quo is not an option and hopefully management will serve the interests of shareholders and seek an immediate combination rather than clip their salary coupon and wait it out.
In our view, there is no more than $3.50 of downside with multiples to the upside if management chooses shareholders over themselves. However, altruism doesn't generally prevail in corporate America so we would caution investors to size the position appropriately.
This article was written by
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