Carvana faces a cash crunch due to high debt and rising interest rates

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The used-car dealer that was a winner from the pandemic scrambles to conserve cash as once-plentiful financing options dry up and business deteriorates.

On Friday, Carvana laid off about 1,500 people, its second round in six months. His weakened finances mean raising funds would be difficult and expensive, and he could run out of cash within a year, analysts say.

Few companies have been hit harder by rising interest rates than Carvana. The company’s interest expense nearly doubled earlier this year when it paid to obtain financing for an acquisition. His cost to finance car purchases has increased by three-quarters this year, and some of his real estate has lost value. Meanwhile, car buyers are holding off on purchases in the hope that rates will come down.

In a memo to Carvana employees announcing the layoffs, Chief Executive Ernie Garcia III blamed an uncertain economic environment that he said was particularly tough on fast-growing companies that sell products hit by higher interest rates. “We couldn’t accurately predict how all of this would play out and the impact it would have on our business,” he said.

The company said it has millions of satisfied customers and that disrupting the auto industry is not easy. “We have seen many e-commerce companies canceled early in their journey just to become a market leader. We plan to do the same,” a spokesperson said. Earlier this month, Carvana executives said that cash flows and profitability are now the strategic focus.

The WSJ’s Ben Foldy explains the factors that helped fuel Carvana’s growth and why investors are now questioning its future. Illustration: Preston Jessee

Carvana became very popular with car buyers, with a lot of advertising and haggle-free car delivery at their doorsteps. Investors bought in, increasing the shares more than six times. The stock is down more than 97% from its peak last year. Carvana bonuses are listed at difficulty levels.

“They built a company-wide infrastructure with the assumption that the growth would be there,” said Daniel Imbro, managing director of Stephens Inc.

Ratings firm S&P Global Ratings warned that Carvana’s liquidity would likely erode faster than expected and changed the outlook on its CCC+ rating to negative earlier this month. He said the company’s position to raise more cash from investors in stocks and bonds has deteriorated.

Less than a year ago, Carvana was still trying to meet demand. In February, he agreed to buy an auto auction business that would help increase inventory. However, car sales slowed down.

On the day the deal was completed in May, Garcia said it had overgrowth and laid off 2,500 workers. Days before, he had issued a bond for $3,275 million with a 10.25% coupon to finance the purchase. The high coupon nearly doubled Carvana’s annual interest expense and reflected investor fears of a recession and rising inflation.

Carvana CEO Ernie Garcia III and his father Ernest Garcia II when the company went public in 2017.


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Michael Nagle/Bloomberg News

Carvana prospered when interest rates were low because it could borrow cheaply to buy cars and make loans to customers. His Ally Financial line of credit to buy cars had an average interest rate of 2.6% last year, compared with 4.5% at the end of September. Ally required Carvana to set aside 12.5% ​​of the loaned amount at the end of September, up from 7.5%, further tightening its cash situation. A spokesman for Ally declined to comment.

Carvana made big profits selling its auto loans to yield-hungry investors. Proceeds from the loans help Carvana offset the losses it suffers from selling cars. When investors became more selective with these securities in the spring, Carvana sold many of the loans to Ally instead, on less favorable terms. Its earnings from loan sales fell by about a third in the third quarter from the prior-year period.

Garcia told analysts on a Nov. 3 call that the company would continue to cut costs and that it has access to about $4 billion in liquidity, in addition to its $316 million cash and a few other assets. The amount includes what you can borrow in lines of credit to buy cars and make loans. It also included about $2 billion in real estate, which is not normally considered a liquid asset.

The company’s chief financial officer said Carvana could borrow against real estate, including sites it bought this year. He previously raised about $500 million selling off some sites where he inspects cars and then leases them for 20 or 25 years.

That step could work, analysts said, but it would also add expense. They said any real estate deals would likely come slowly over time, or involve high rent payments because of Carvana’s credit problems.

Scott Merkle, managing partner at SLB Capital Advisors, which specializes in sale-leaseback transactions, said long-term leases in the space typically rely on financially strong tenants who are expected to make their lease payments for years. He said general conditions for sellers have softened in that market due to higher interest rates, but leaseback sales still provide a better cost of capital for businesses than other types of financing.

Carvana said it is testing ways to earn more from its car sales, such as having customers pick up cars from its vending machines.


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USA TODAY RED/Reuters

Some Carvana-leased properties have received a lukewarm response in the market. A 12-story “flagship” vending machine in Atlanta that Carvana sold and leased in December has been put up for sale again this summer. It is still on the market and the asking price has since been reduced.

Carvana said it is testing ways to get more out of its car sales, such as accepting payment before delivery and having customers pick up cars from its vending machines.

“We have a lot of liquidity committed. We have a lot of real estate, and I think we feel that puts us in a good position to weather this storm,” Garcia told analysts on the Nov. 3 call.

—Ben Foldy, Will Feuer, and Ben Eisen contributed to this article.

Email Margot Patrick at margot.patrick@wsj.com and Kristin Broughton at Kristin.Broughton@wsj.com

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