Mar Vista Investment Partners is a California-based investment management firm that recently published its Q4 investor letter (you can download a copy here). The investor discussed its investment thesis on two companies, XPO Logistics and CarMax, Inc (NYSE:KMX) in the letter. We’ve already covered Mar Vista’s thoughts on XPO Logistics. In this article we’re going to focus on Mar Vista’s comments about CarMax, which is the largest-retailer of used vehicles in the United States.
So, here is what Mar Vista said about KMX in the letter:
CarMax is the largest domestic used car retailer with a highly disruptive business model. The company delivers value to consumers through its fully transparent sales process and nationwide network of 65,000 high quality used vehicles. Since 1993, CarMax has sold over 6.5 million vehicles and appraised another 25 million used cars. The data intelligence collected from these transactions gives CarMax a valuable informational advantage that is difficult to replicate. Over the past twenty years, CarMax’s intrinsic value has compounded by 13% annually. With only 185 stores and 3% of the used vehicle market share, we think CarMax has ample opportunities to expand its store base over our investment horizon.
CarMax’s other main contributor to intrinsic value is its CarMax Auto Finance (CAF) which provides used car financing solely to its prime customers. CAF’s loss adverse underwriting culture is another source of competitive advantage. Moody’s and S&P have validated CAF’s stringent credit standards by assigning AAA ratings to its asset-backed securitizations.
CAF’s high-quality nonrecourse loan portfolio lowers its capital requirements to less than 1% of total securitizations. From our vantage point, investors periodically undervalue the financing business due to its capital markets dependency and interest rate sensitivity. We think the benefits of the loss adverse underwriting culture and nonrecourse credit warehouse facilities supersede the earnings volatility.
During the quarter, CarMax’s stock declined 17% after same-store-sales slowed due to a temporary compression between new and used vehicle prices related to hurricane replacement demand. We view this used car price inflation as transitory. Eventually, excess used vehicle supply will force price depreciation to resume. We took advantage of these cyclical issues and purchased the equity at 13x normalized earnings.
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