Vroom: Incrementally More Positive (NASDAQ:VRM)

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We wrote cautiously on Vroom (NASDAQ:VRM) back in March but on the heels of its recent earnings report and the significant bond repurchase, we are growing incrementally more positive on the Company. Despite our increased optimism, prudence is warranted given the numerous industry headwinds that will likely persist for several more quarters. It is clear that used car prices are likely to trend lower after its meteoric rise the last two years given consumer stress and higher interest rates on loans. As such, the demand side of the equation remains uncertain until consumers regain confidence in the economic outlook and rates partially reverse course.

The new CEO, Tom Shortt, has brought much-needed cost structure discipline with a strong background in supply chain logistics throughout his career at Walmart and The Home Depot. mr. Shortt started with Vroom as its COO in January 2022 before replacing the prior founder in May 2022. Since then, the Company has pivoted away from its prior grow at all cost mentality. In Vroom’s recent report it continued its trend of rationalizing its logistic networks resulting in reduced Ecommerce units sold while improving gross profit per unit (GPPU). GPPU climbed to $4,206 in the third quarter after bouncing between $1,500 to $2,700 the past two years. Encouragingly, Ecommerce units seemed partially depressed in the third quarter due to its third-party sales partner drastically reducing its sales staff in late August. mr. Shortt suggested that the Company accelerated its plan to in-source this sales function by the end of the first quarter of 2023 which will likely result in additional savings. The table below summarizes that under Shortt’s regime, Ecommerce units and revenues have been sharply curtailed with no adverse impact on Gross Profit dollars. While SG&A continues to get reigned in, any bump in Ecommerce units sold will finally afford Vroom the ability to move toward a profitable business model.

Q1 2021 Q2 2021 Q3 2021 Q4 2021 Q1 2022 Q2 2022 Q3 2022
E Units 15,504 18,268 19,683 21,243 19,473 9,233 6,428
Revenue 591,118 761,890 896,756 934,491 923,775 475,437 340,797
GP 36,176 63,128 58,089 44,706 81,640 66,357 67,331
SG&A 109,114 123,898 148,718 166,341 187,994 152,990 134,643
EBITDA (72,611) (60,673) (87,114) (119,847) (107,399) (85,618) (73,506)

Note: Q3 2022 Adjusted EBITDA excludes securitization gain

Despite sequential improvement to EBITDA since the end of 2021, investors will remain concerned about Vroom’s liquidity until it clearly turns the corner. Management has guided to end the year with liquidity toward the midpoint of $450mm to $565mm. Liquidity stood at $510mm at the end of third quarter 2022. With Adjusted EBITDA expected to be in the $325mm to $350mm range for 2022, the scope of improvement expected in 2023 remains paramount. Analysts currently expect Vroom to improve to $285mm in 2023 EBITDA on flat revenue growth. Such a trajectory would remain highly concerning that Vroom has sufficient runway (i.e. liquidity) to get to the proverbial light at the end of the tunnel. However, management’s recent debt repurchases of $254mm in principal notes for $90mm in cash (or 35% of face value) underscores a not so hidden conviction that management believes its runway is adequate.

Interestingly, $56mm of the face value in purchases occurred in August, prior to slow down in vehicle sales due to the aforementioned cuts by its third-party sales partner. And suddenly a mere seven days after its recent quarterly report, it repurchased a larger sum of $198mm in face value of its notes. The initial $18mm in cash spent on the first tranche of bond purchases were already factored into its liquidity guidance. The subsequent $72mm in cash bond purchases will certainly shorten the Company’s runway. However, we don’t believe management would be gamblers with its current liquidity profile and trade a July 2026 problem (the maturity of the original $625mm in face value of notes) for a near-term one in the form of running out of capital . Certainly, if capital is needed prior to 2026, it would cost the company well above the current 0.75% coupon rate on the convertible notes. Consequently, we do not believe it is a large leap of faith to deduce that management is expecting a more sizeable improvement in its operations over the next two years than current analyst projections.

The magnitude of that improvement will certainly be driven by the size of the rebound in vehicle sales at the recently achieved GPPU level. Management concemed that its visibility on its run-rate vehicle unit sales would only be apparent after completing the insourcing of its sales function by the end of the first quarter of 2023. Notwithstanding the current industry headwinds, we believe Vroom will be able to capture additional market share from third quarter levels as its Ecommerce unit trends partially normalize from the Company induced slowdown and consumer behavior continues to shift toward online purchasing.

In our prior article, we discussed the need for a larger financial partner to extend its runway. Carvana (CVNA) is no longer a viable match given its own self-inflicted wounds and large (not to mention expensive) debt burden. CarMax (KMX) remains a strong contender. However, it is clear that management believes it has a potentially viable independent go-forward strategy. With meaningful recently discounted bond repurchases, Vroom opens up options for more shareholder friendly (less dilutive) capital raising opportunities down the road assuming Vroom’s operations continue to demonstrate step-function improvements. The stock is currently pricing in a bleak future with uninspiring capital raising options at its disposal. If management continues to execute on its business plan and allay those concerns, the equity will likely benefit from a subsequent and material relief rally.

In our view, Vroom is worth a speculative bet under $1.00 per share given the asymmetric risk/reward setup. We will concede that an investment could lose most of your money if the operational turnaround takes longer to materialize but the upside is a multi-multi bagger if management’s seemingly optimistic outlook pans out. We are willing to take a slighter bigger gamble on management at this point.

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