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Carvana’s Loan Business Has Investors Impressed

Carvana’s Stock Surges

Online car dealer Carvana (CVNA) has seen its stock climb more than 1000% since March 2020, as purchasing everything online, including vehicles, became more prevalent during the pandemic. The fact that demand for vehicles has been skyrocketing also helped the company.

However, it is not only robust sales drawing investors to the online car dealer’s stock. They are also enthusiastic about Carvana’s loan business. Of Carvana’s gross profits in the second quarter, 39% came from retail sales of vehicles while 36% came from offering customers car loans. The remaining profit was derived from vehicle-servicing contracts and other non-car sales income. The increase in its loan business enabled Carvana to earn a quarterly profit for the first time ever.

Carvana’s Strategy

Carvana approaches its loan business differently than other auto lenders, which has helped the company during a period of red-hot demand. Carvana, like other auto lenders, packages its auto loans and sells them to investors. Carvana does not hold on to the debt, which enables it to see an immediate gain on the vehicles purchased with cash.

This approach has lifted the company’s revenue. It also poses a risk in an environment in which loans sour. Last year when the loan market shuttered amid the pandemic, Carvana’s loan-sale revenue declined. That hurt profitability since Carvana makes money by attaching a premium to the car loans it sells.

Carvana’s Loan Business Stayed Strong

CarMax (KMX), a rival to Carvana, takes a different approach to its car loans. It does not book a gain when it sells loans to a securitization trust like Carvana. Instead, it continues to service the loans through its loan-servicing unit. It also keeps 5% of the riskier loans in its portfolio to benefit from any upside.

Despite the risks, so far Carvana has been able to hold its own with both sales and loans. Carvana sold more than 100,000 vehicles in the first half of the year and sold $3.1 billion in loans to securitization trusts, which is double the amount of loans it sold in 2020. In June KBRA, a ratings company, upgraded its ratings on five of its securtzations due to lower-than-expected losses on the loans. If Carvana can keep on defying critics, investors should continue to reward this online car marketplace operator.

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ABOUT Meg Richardson Meg Richardson is a writer specializing in markets, technology, and personal finance. She loves breaking down seemingly complex ideas and making them readable and interesting for everyone. She holds an MFA in writing from Columbia University. When she is not writing about finance, she enjoys running in Central Park and drawing cartoons.

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