Earnings Call Transcript - CVNA Q4 2021

Operator, Operator

Good day, and welcome to the Carvana Fourth Quarter 2021 Financial Results Conference Call. All participants will be in a listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Mr. Mike Levin. Please go ahead.

Mike Levin, Executive

Thank you, Chuck. Good afternoon, ladies and gentlemen, and thank you for joining us on Carvana's fourth quarter and full year 2021 earnings conference call. Please note that this call will simultaneously be webcast on the Investor Relations section of the company's corporate website at investors.carvana.com. The fourth quarter shareholder letter is also posted on the IR website. Additionally, following the announcement of our acquisition of ADESA US physical auction business from Car Global today, we posted the press release and slide deck on the Events and Presentations page of our IR website where more details can be found. Joining me on the call today are Ernie Garcia, Chief Executive Officer; and Mark Jenkins, Chief Financial Officer. Before we start, I would like to remind you that the following discussion contains forward-looking statements within the meaning of the federal securities laws, including, but not limited to, Carvana's market opportunities and future financial results that involve risks and uncertainties that may cause actual results to differ materially from those discussed here. A detailed discussion of the material factors that cause actual results to differ from forward-looking statements can be found in the forward-looking statements and risks in this conference call are based on current expectations as of today, and Carvana assumes no obligation to update or revise them, whether as a result of new developments or otherwise. Unless otherwise noted on today's call, all comparisons are on a year-over-year basis. Our commentary today will include non-GAAP financial measures. Reconciliations between GAAP and non-GAAP metrics for our reported results can be found in our shareholder letter issued today, a copy of which can be found on our Investor Relations' website. And now with that said, I'd like to turn the call over to Ernie Garcia. Ernie?

Ernie Garcia, CEO

Thanks, Mike, and thanks, everyone, for joining the call. 2021 was an extraordinary year for Carvana, full of landmark accomplishments along our path to changing the way people buy and sell cars. We started the year being named to the Fortune 500, tied to the third fastest company ever to do so. We sold our one millionth car through organic growth faster than any other automotive retailer in history. We had our first positive earnings quarter. We had our first positive EBITDA year, excluding one-time items, and we became the fastest growing e-commerce company in US history. While I'm extremely excited and proud of the team for that blockbuster list of accomplishments, I'm even more excited about the fact that we were also named in the top 10 of Forbes' Best Large Employers to Work For list. We're ranked ahead of any other retail company and ahead of any other technology company. That set of accomplishments can only be achieved with a clear customer-focused mission and enormously scaled opportunity and the compounding that results from the efforts of great people who care and are directed toward long-term value creation. Thank you to everyone inside Carvana for always choosing to care and for always giving that little extra effort that adds up to make a huge difference. We've always framed our opportunity simply. Customers desire the experience we provide for them, and providing it is hard. There are approximately 40 million used cars sold every year in the US. The unit economics of the industry, viewed over any reasonable time frame, have been stable for a long time. That unit economic stability at the industry level is structurally driven by the fact that there are tens of thousands of dealers out there providing customers with similar customer experiences and who share similar cost structures. That simple frame is clarifying. To achieve our goals, we must continue to deliver great customer experiences, we must continue to differentiate our unit economics, and we must continue to scale. That is our path. In alignment with that path, we are extremely excited to announce the acquisition of ADESA's US operations. ADESA is the nation's second-largest auction company with 56 locations, completing about 1 million auction transactions a year. This acquisition has four primary justifications. Number one, it solidifies our path to becoming the largest and most profitable automotive retailer. Number two, it provides us with a nationwide inspection center network that we estimate will increase our production capacity by approximately 2 million units per year when fully built out. Number three, it substantially improves our logistics network. Demonstrating the breadth of these locations, we will move from currently having inspection centers within 200 miles of 56% of the US population to eventually being within 200 miles of 94% of the US population. Demonstrating the quality of these locations, we will move from being within 50 miles of 16% of the US population to being within 50 miles of 58% of the population. This will reduce shipping times to our customers nationwide and lays the foundation for eventually offering same-day delivery to many of our customers. Number four, it significantly increases our auction capabilities and kick starts or deepens our relationships with many large and important players in the automotive industry. We look forward to working with our new customers toward creatively finding new and interesting ways to work together and valuing them in the same way we have always valued all of our customers. We also expect ADESA to accelerate our path to our long-term financial model, given the many powerful benefits that derive from being closer to our customers. For perspective on how powerful proximity can be, sales that are delivered to customers from an inspection center within 200 miles of our customers today have unit economics that are about $750 better than our average transaction as a result of lower inbound costs, lower delivery costs and higher conversion rates leading to lower customer acquisition expense. Now, I'd like to turn briefly to the current environment. Starting in the late fourth quarter, we, like everyone else, were hit pretty hard by the Omicron variant. At different points in time, we had up to 30% of our people in various operational teams simultaneously called out. It is obviously very difficult to deal with in any system. But in systems that rely on changed activity like our inspection centers and our logistics network, it is even more difficult. This led to the most severe logistics network constraints we have seen in our history. While we are largely out of the Omicron wave, it takes time to work out of our backlogs, and this year's severe winter storms have slowed our progress. Today, we remain severely constrained, but we're working hard to work through it as soon as we possibly can. These constraints, paired with the recent rapid appreciation of vehicle prices as well as rapid increases in interest rates, have conspired to make this a challenging time. While this has undoubtedly been complex operationally, as our team has in the past, they are rising to the challenge. We've managed to grow our inventory available to our customers. We've grown our operational capacity to handle more volumes throughout our operating groups in anticipation of alleviating our logistics constraints and in anticipation of tax season, and we have made changes to the mix of cars we are purchasing and reconditioning to help our customers find more affordable cars despite the car pricing environment. And our long-term indicators continue to look incredible. In our oldest cohort, we are now up to 3.5% market penetration. This may not sound like much at first, but if we apply that nationwide, it extrapolates to about $1.4 million annual sales. On top of that, our oldest cohort grew by 50% in the last year and therefore clearly has a long way to go. Lastly, 95% of our 311 markets are ramping faster than our 2013 cohort was at the same time in its life. Two million-plus car sales per year is no longer the goal; we're aiming higher. We have the team, the business model, and the ambition to do it. The march continues. Mark?

Mark Jenkins, CFO

Thank you, Ernie, and thank you all for joining us today. We are pleased to report another year of strong growth in both retail unit sales and revenue. Revenue totaled $12.8 billion, an increase of 129%, and retail units sold totaled 425,237, an increase of 74%, making us the fastest used automotive retailer to sell over 400,000 vehicles in one year. For the fourth quarter, retail units sold totaled 113,016, an increase of 57%. Total revenue was $3.8 billion, an increase of 105%. Our exceptional growth in 2021 was driven by rapid growth within our market cohorts. In Q4, our 2013 through 2020 cohorts grew retail units sold by 52%, and our oldest cohort of Atlanta grew by 51% to 3.53% market penetration. As of Q4 2021, 95% of our 311 markets are ramping faster than Atlanta was at the same age, and record numbers of markets are crossing key market penetration thresholds. In 2021, we completed our eighth consecutive year of $400 or more GPU improvement, our eighth consecutive year of EBITDA margin leverage and our first full year of positive EBITDA margin, excluding one-time items. Total gross profit per unit for the year was $4,537. Our growth in GPU in 2021 was broad-based, including increases of $166 in retail, $308 in wholesale, and $811 in other. Total GPU in Q4 was $4,566, an increase of $1,187 year-over-year. Year-over-year changes in GPU were driven by gains across all components in Q4 as well. Retail GPU increased by $230 in Q4, primarily driven by an increase in the percentage of retail vehicles sourced from customers, partially offset by higher reconditioning costs and higher wholesale acquisition prices. Wholesale GPU increased by $441, driven by gains in buying vehicles from customers and wholesale market appreciation. Other GPU increased by $516, driven by strong finance execution and higher industry-wide vehicle prices on average loan as an additional impact. In Q4, EBITDA margin was negative 2.5%, including a 0.6% impact from one-time items, an improvement of 1.4%, reflecting gains in both GPU and SG&A leverage. We ended the year with $2.3 billion in total liquidity resources, giving us significant flexibility to execute our plan. Today, we also announced that we have signed a definitive agreement to acquire ADESA's U.S. physical auction business. The acquisition is expected to close in the second quarter of 2022 and will be financed with $3.275 billion in committed debt financing to fund the $2.2 billion purchase price and an additional $1 billion in improvements across the 56 sites. Upon development of these 56 sites, we are expected to unlock approximately 2 million units of incremental annual production capacity at full utilization. This year, we made significant progress scaling our vehicle production capacity. In 2021, we added three inspection and reconditioning centers, increasing our total IRC count to 14. Following year-end, we also opened our 15th IRC near Cincinnati, Ohio, bringing our total capacity at full utilization to approximately 880,000 units as of February 24. We remain on track to open six additional IRCs by the end of 2022. We plan to open five of these on schedule, leading to more than 1.2 million units of annual capacity at full utilization by year-end. And with our acquisition of ADESA U.S., we are currently evaluating our preferred timeline on opening the sixth. In 2021, we also opened 45 new markets, bringing our year-end total to 311. With these new market openings, we now serve 81% of the total US population, up from 74% at the end of 2020. We will continue to expand in 2022 and continue to expect to serve 95% of the US population over time. As we look toward 2022, we expect another strong year in retail units sold, revenue, GPU and EBITDA margin. We expect to grow retail units sold to over 550,000 for the full year. Following the first quarter, in Q2 through Q4 taken in aggregate, we expect total GPU over 4,000 and approximately breakeven EBITDA margin. We expect the first quarter to be impacted by supply chain challenges brought on by the Omicron variant and severe winter storms and the recent rapid increase in short-term interest rates. We expect these effects to have a significant impact on Q1 total GPU and SG&A per retail unit sold, leading to an expected EBITDA margin loss in the mid-single-digit range. Since becoming a public company nearly five years ago, we have made tremendous progress toward our long-term goals and achieved many major milestones such as achieving our first profitable quarter this year. We're excited about what comes next. Thank you for your attention. We'll now take questions.

Operator, Operator

Thank you. We will now begin the question-and-answer session. And the first question will come from Zach Fadem with Wells Fargo. Please go ahead.

Zach Fadem, Analyst

Hi. Good afternoon. So over the second half of 2021, your business had been averaging roughly 8,600 unit sales per week. And this number is obviously constrained by a host of factors that appear to have worsened in January. But now that you've opened up two new facilities and a few more on the way in the upcoming months, can you talk about how this weekly run rate should change as the new capacity comes on and how this dynamic fits into the 2022 unit outlook?

Ernie Garcia, CEO

Sure. So what I would say, I think the primary driver is going to be how quickly we can alleviate the constraints in the logistics network. Yes, as I said in my prepared remarks, Omicron really set us back. The logistics network is a system where many drivers connect in order to deliver a car to a customer. And at the peak of the Omicron wave, we did have very high call-out rates, and that made it hard for those connections to occur and then set us back and got us a bit behind. And then I think we've been working hard. The team has done a great job trying to catch up. We've got a really strong network when it's fully functioning that should enable us to catch up relatively quickly. But we've also been hit by a number of winter storms, as recently as this week. Those storms definitely set us back again. So I think when you look at the remainder of this year, I think the primary driver right now is our logistics network, which is much more constrained than any other part of the business. And then I think from there, it's about catching up and then figuring out where we are for the remainder of the year. Right now, the logistics network is absolutely constraining sales. We have also seen car price appreciation that was pretty meaningful in the back half of Q4. And we've seen interest rates go up quite a bit as well. So we don't feel like the impact of that has been that severe on us just yet because we've been impacted by the logistics network constraints, and that's really what's holding us back. But we have seen industry-wide sales drop by about 15% to 20% relative to 2019 or 2021, depending on where your reference point is. And so we're taking that all into account and trying to put together our outlook of 550,000 units, and that's what underlies that.

Zach Fadem, Analyst

So Ernie, just to be clear, should we assume that the average weekly units in Q1 is below Q4 and then improves sequentially throughout the year?

Ernie Garcia, CEO

So I think we're going to stick with what we've got in the outlook in terms of specificity. I do think Q1 is going to be a tougher quarter. That's just the way it's going to unfold. We've been heavily constrained, and that's going to show up in the volume. It's also – in the inspection centers that were hit really heavily in Q4 with Omicron, they were still able to produce a lot of cars because we built a lot of inspection centers and built out a very strong capability there. But the efficiency certainly went down, and that will show up and impact the COGS. So I think those impacts will show up in Q1, and that's why we're trying to guide to Q1 to provide kind of clarity there. And then we expect to emerge from that and look forward to a really strong Q2 through Q4.

Operator, Operator

The next question will come from Sharon Zackfia with William Blair. Please go ahead.

Sharon Zackfia, Analyst

Hi. Good afternoon. I got excited when I heard Zach. I don't know if you got that just – on the ADESA acquisition, can you talk about the buy versus build kind of analysis you went through there, what you assumed for the attrition potentially of customers of ADESA as they might not want to line your pockets, some of them? And then the $1 billion in improvements, on unlocking the $2 million in incremental capacity, what's kind of a reasonable timeline to get there?

Ernie Garcia, CEO

Sure. Well, I think, first of all, as you can imagine, we're extremely excited about this acquisition. We're extremely excited to welcome the team. We think it's a pretty incredible fit. I think whenever businesses come together, you always talk about all the synergies and all the things that you hope to occur. But I think what's so great about this one is it's very clear to see how we fit together. They've got an unbelievable footprint of 56 locations around the country, in great locations that are very close to our customers. You add up those locations, it's over 4,000 acres. For perspective, if you add up all of our inspection centers today, it's probably close to around 1,000 acres. So a really meaningful increase in just kind of the physical infrastructure that we will have access to. That obviously means incredible things for what we can do from a reconditioning perspective, both in terms of volume where we expect to get 2 million units, plus incrementally out of there versus our existing capacity once we fully ramp it up, and then also from a location perspective because we can deliver cars to customers where we'll be much closer to them. So I think that's really exciting. And then we also think the business is a great fit. We've often used this mental model of the entire used market as a big machine with lots of players that help customers trade cars with one another. And there are all kinds of players inside that system. There's dealers, there's finance companies, auctions are a really big player inside that system. And when we talk about vertical integration, what we generally mean is we want to be as big a part of that system as we can be so that we can cut out as much expense and difficulty for customers that are trading cars. And we think working together with ADESA is really interesting strategically for that reason as well. When we think about build versus buy, it's actually a fairly straightforward analysis that you can kind of walk through in that same kind of framework. And I think the simplest way to think about it is just with respect to our inspection centers. I think in order for us to get similar production capacity out of inspection centers that we would build, we would expect to need to build on the order of 30 inspection centers. We would expect that cost to be pretty high. We would especially expect it to be pretty high when you look at the locations that we're picking up through this ADESA acquisition. They've got many locations on the West Coast, they got many locations in the Northeast, in areas of the country that are very expensive in dollars, but also very expensive in time in terms of how long it takes to find those locations and get them zoned, get them built out, and get them operational. So we think that from a build versus buy perspective, with just that simple analysis, you're probably very close. And then we get the instantaneous logistics benefits and access to this great business. So we're really excited about it and just think it lays a very clear path to the future. I talked a bit in my opening about our oldest cohort of Atlanta now being up to 3.5% market share. And we think that's really important in this context because it does just very clearly light the path to 1.4 million units that you can just kind of see as long as we execute. And then beyond that, you know that you have the 50% growth that is continuing to happen inside of Atlanta. We don't know exactly where that growth is going to compound out over the next many years. But I think if you look at other businesses that are growing even at rates materially slower than 50% and look out five or 10 years, you'll generally see businesses that grow by a pretty significant multiple to where they sit at that point in time. And so we think that lights the path to volume. We think if you look at the unit economics, we just had our best GPU year ever, which is extremely exciting. But I think every bit is exciting. We've been marched up year after year after year very consistently. We've been supporting all this growth and all the investments we've been making, and we've been marching up our EBITDA margin to the point we had our first positive earnings quarter and our first positive EBITDA year, excluding one-time adjustments. So when you put all that together and then you lay that on top of this footprint that we're going to get access to, that we think is acquired at a cost that is very reasonable relative to what it would cost to build out and then comes so much faster and with so many other great assets and opportunities, we basically just think that this is even more clearly an execution game from here. And so now the ball is in our hands, and we got to run with it. And we're extremely excited to be in that spot, because this is a really big opportunity and the path has never been clearer.

Operator, Operator

The next question will come from Michael Montani with Evercore ISI. Please go ahead.

Michael Montani, Analyst

Hey, thanks for taking my question. I wanted to ask about if you can help to tease out a little bit the impact of the higher used car prices and rates vis-à-vis some of the impact you saw to being able to process the vehicles in the quarter? And kind of how you see that playing out over the course of the year? And then I just had a follow-up on costs.

Mark Jenkins, CFO

Sure. When we look at the first quarter, there are several factors at play. I would begin by highlighting Omicron, which is significantly affecting our retail cost of goods sold in Q1. Ernie mentioned some of the reasons for this, primarily concerning the efficiency of our inspection and reconditioning centers and the logistics network impacted by Omicron. As a result, we anticipate higher reconditioning and inbound transport costs that will notably influence retail GPU in Q1. Regarding the rapid increase in short-term interest rates, we’ve observed a historically significant rise in both magnitude and speed, comparable to conditions during the Global Financial Crisis. Typically, there is a delay between when we offer rates to customers and when we monetize our loans, so this quick rise will influence other GPU in Q1. We have adjusted our rates in response to benchmark moves and have increased our hedges to mitigate the effects of future rate changes, but this will still have a temporary impact in Q1. Additionally, as Ernie mentioned, severe weather in Q1 will also play a role in these effects. Overall, while these are several challenges affecting Q1, we are excited about the business's progress, having made significant strides in 2021. I expect to see over 4,000 GPU collectively from Q2 through Q4, and we feel optimistic about our overall advancement.

Michael Montani, Analyst

Okay. And then if I could, just on the behavior of your consumer as it relates to the credit side, we're seeing some signs of normalization in some of the filings as well as from some competitors. So just wanted to get some added color from you all about the credit behaviors that you are seeing in terms of delinquencies and charge-offs and kind of how to think about that evolution, as we get further beyond stimulus payments.

Ernie Garcia, CEO

Sure. I would start by saying that our business model typically involves selling credit risk when we complete our securitizations by selling the residual asset and the underlying bonds. This process does not directly impact our financial statements. Therefore, we neither benefit from the strong performance of the past couple of years nor are we directly affected if performance deteriorates in the future, aside from expectations for future losses reflected in any bonds we sell. For clarity, that aspect does not flow through our financial statements. We are observing trends consistent with the industry, indicating a potential normalization of consumer credit behavior. While it remains better than historical averages—defined as pre-2019—the improvement is not as significant as it was from mid-2020 to mid-2021 when performance was exceptional. Although we may see some normalization in these trends, it has been quite orderly thus far, and I don’t anticipate any significant changes at this time.

Michael Montani, Analyst

Thanks for taking the question.

Ernie Garcia, CEO

Thank you.

Operator, Operator

The next question will come from Chris Bottiglieri with Exane BNP Paribas. Please go ahead.

Chris Bottiglieri, Analyst

Hi, everyone. I appreciate the opportunity to ask a question. First, regarding ADESA, they've successfully implemented title processing and fund clearing for dealers. How does the title processing differ between dealer-to-dealer transactions and dealer-to-consumer transactions? I'm curious if there are any efficiencies gained in title processing from your core business, such as utilizing their personnel, or if the process is entirely distinct. I have a follow-up question as well.

Ernie Garcia, CEO

Sure. So as a start, I would say it's a simpler process, generally speaking, doing dealer-to-dealer transfers. And so I think you can think about those processes as existing pretty independently. Certainly, our teams will share learnings that we found over the years, and there may be some benefits there. But generally speaking, I think the simplest way to think about that is separate. Now because you brought it up, I do think the registration team and title team inside Carvana definitely deserves a shout-out. They've done an unbelievable job over the last probably six months or so, making a lot of progress. We're now kind of approaching similar levels of success in entitlement registration to what we are experiencing pre-pandemic. So I think that's really exciting, and that's hard to do in this environment. So there's a lot of great things going on there. They're working very well with our partners in the various DMVs to make sure that we make the customer experience as simple as possible. So I think we're excited about the progress we're making there. And then I think on the ADESA front, we plan to continue operating that business as we have, or as ADESA has, over a very long period of time. So for all the people inside ADESA, it will be business as usual, and they'll continue to handle their title processing in the wholesale business the way that they have.

Chris Bottiglieri, Analyst

I have a follow-up question. I think you mentioned that the logistics benefit would be quite immediate. I'm not entirely sure I caught that correctly. Also, I understand that you are already collaborating with auction companies for reconditioning before the acquisition. So my question is, on the first day, will these facilities be able to manage reconditioning for you and your partners, or will you need to allocate part of that $1 billion to recondition any vehicles?

Ernie Garcia, CEO

Sure. Well, I appreciate you clarifying because I want to make sure that we don't generate too high of expectations instantly. I think probably that language you're referring to, we instantaneously spin to an incredible network that will enable us to build a very meaningful reconditioning capacity and significantly improved logistic capabilities. That will take time. And I think we're not planning to provide precise timelines on any of that just yet, but we certainly have plans and our teams will be hustling to get as much benefit from that as we possibly can as soon as possible.

Operator, Operator

The next question will come from Brian Nagel with Oppenheimer. Please go ahead.

Brian Nagel, Analyst

Hi, good afternoon. So my additional question is on the ADESA acquisition. First off, congratulations. There may be a bit of a follow-up to some of the prior questions. But just want to understand the kind of mechanics here. So the ADESA facilities you're acquiring, when all said and done, will they act just like an IRC that you built organically? Are they going to function the same, or is there some type of relationship where the ADESA facilities will operate differently than the degree for IRCs?

Ernie Garcia, CEO

Sure. A good starting point is that they will operate mainly as two businesses on the same land. We have our inspection center capabilities and our logistics capabilities that we have developed over time. We can place these on the 4,000 acres of land across the country and operate them similarly to how we have historically. The auction will continue to function as it has in the past, so it will be business as usual for both sides. The key area where we will collaborate quickly is in the retail recon work that ADESA does, and we will merge those teams. This is the primary point of integration between us. Additionally, this is a great fit because there are both secular and cyclical trends in the auction space, with many more auction transactions occurring digitally while many customers still prefer in-person transactions. This often results in cars spending less time at auctions, allowing us to utilize the space in other ways. Currently, we are experiencing historically low auction volume, meaning that many locations are underutilized, offering a significant opportunity for collaboration and coexistence. We believe the path forward is clear, and our job now is to execute and take full advantage of this opportunity in the coming years.

Operator, Operator

The next question will come from Rajat Gupta with JPMorgan. Please go ahead.

Rajat Gupta, Analyst

Great. Thanks for taking the questions and congrats on the deal. Maybe a question on metering. You talked about that on the last earnings call. Where are we with that exercise? Are you still leaning to meter sales? Maybe if you could comment on how you are with respect to labor or logistics bottlenecks today. And I have a follow-up. Thanks.

Ernie Garcia, CEO

Sure. So, the specific way that we 'metered' demand last quarter was in suppressing the amount of inventory that was visible to customers. That tool is still being utilized today to a very similar degree, given the logistics network constraints that we see. So, we are continuing to utilize that tool. That means that the inventory growth that we've seen, that I think is evidence of the great work our team has done to expand our production capabilities, is not really flowing through to customers yet in the form of as much growth in kind of available inventory. So, we are very focused on alleviating the constraints in our logistics network, and once we do that, we have the ability to make more of that inventory visible to more customers, which is something we look forward to being able to do.

Rajat Gupta, Analyst

Understood. And then the comments in the shareholder letter around the second quarter to fourth quarter normalization on some of the metrics, is getting to the 550,000 units for the year assuming that some of these bottlenecks go away? And is it primarily capacity-driven as well? And maybe if you could comment on just the demand aspect. You mentioned that the low-end consumer is seeing a bit of an impact due to the pricing environment. Do you expect a normalization in terms of demand from that consumer segment as well in order to successfully hit the 550,000 number? Thanks.

Ernie Garcia, CEO

We want to be cautious about providing too much guidance. What underpins our expectations for the year is resolving the constraints in our logistics network while also assuming that the demand environment for the industry remains similar to what it is today. As part of the industry, we feel the effects of affordability challenges, but given our constraints, the impact on us may not be as significant as it is on others. Industry-wide, we have observed a considerable slowdown in sales as car prices and interest rates increased, which affected affordability. Depending on the comparison period, sales seem to be down about 15% to 20% in the used vehicle segment. We see some evidence of this trend in our data as well. Currently, our sales are more influenced by the logistics network than by demand, yet the demand landscape does affect our sales outcomes. For instance, customers earning less than $50,000 are growing approximately 30% slower than our overall company growth year-to-date, while those earning $100,000 or more are growing around 30% faster. Usually, demographic analyses reveal similar growth trends across consumer segments, which highlights the impact of affordability on lower-income and younger consumers. We expect the environment to remain somewhat stable, and ideally, we would like to see a decline in prices, which would enhance affordability and likely attract more customers who are ready to make purchases again. Our outlook is based on a macro environment similar to what we currently observe.

Operator, Operator

The next question will come from Colin Sebastian with Baird. Please go ahead.

Colin Sebastian, Analyst

All right. Thanks. Good afternoon, guys. So a couple of follow-ups. I guess, first, curious if you could add some color in terms of unit sales and profit trends here later in February versus what you were seeing earlier in the quarter with Omicron, if that's part of what's giving you the visibility into the material improvement expected beginning in Q2. And then, Ernie, just on what you said right there around pricing and a lower price environment you think would sort of be a favorable trend, in terms of embedding the current macro environment and the outlook, how would a faster declining pricing environment impact the guidance that you gave? Thank you.

Ernie Garcia, CEO

Sure. So I think a lot of these impacts we can start to see through, right? So the first quarter is going to be tough for a number of reasons. I think we'll start with Omicron and the inspection centers. That just flows through in COGS. In smaller COVID waves earlier on, we saw impacts on the order of $150 to $200 that flowed through COGS. This was a bigger and more severe wave, right? So that then means that the inspection centers are less efficient. And so those costs get spread onto cars. And then when those cars sell, it shows up in lower margins. But as you kind of move through Omicron, the inspection centers are starting to recover, and so you can already get visibility into the direction that COGS is heading there. We still have some work to do, but you can get visibility. I think interest rates, as Mark said earlier, moved really quickly. And when they move that quickly, we tend to do our securitizations toward the end of the quarter. And so the originations that we had earlier in the quarter, where they were originated in a different environment, are expected to have a different spread and then you see that impact as well. And so I think when we look at margins on the cars themselves, we've also recently seen a little bit, for the first time in a while, of car price reduction. So we've seen kind of wholesale prices drop by maybe something like 5% for, say, 2019 model year cars year-to-date. We've seen retail prices drop by maybe 2%. And so we can start to see as well, while car prices started to reduce, that at least little cohort of cars, the margins there look potentially a little bit better despite the fact that car prices are dropping. So I think that that's helpful in giving us visibility beyond Q1 as well. And then from a units perspective, it's really all about, or at least primarily about, alleviating constraints in our logistics network. And then from there, it's going to be about what does affordability look like. And I think it's hard to know exactly what's going to happen over the next 12 months with car prices or with interest rates. I think your guess is as good as ours there. But car prices going down is, all else constant, helpful for sales; interest rates going down, all else constant, helpful. The reverse is the opposite. And then from a margin active, I think it's actually unclear how that cuts because, generally speaking, margins are driven by the gap between wholesale and retail prices. And so it's all about how those two markets move in relation to one another. So I think we have pretty solid visibility into the next several quarters from where we are because a lot of these impacts, you can already see starting to abate a bit.

Operator, Operator

The next question will come from Adam Jonas with Morgan Stanley. Please go ahead.

Adam Jonas, Analyst

Thanks, Ernie. In our conversations with clients, especially right after the results, there are significant concerns about growth and liquidity. Let’s address each of these individually. Regarding growth, if I calculate based on your fourth quarter or even third quarter retail units and annualize those figures, it comes to around 450,000 units. Your guidance for retail this year is approximately 22% above the annualized figures from either the third or fourth quarter. Does that make sense, Ernie? I believe we both recognize that the second half of last year faced capacity constraints, and while you still have those challenges now, you expect them to improve. Therefore, you're only projecting 22% growth even though, over the remainder of 2022, we should see fewer capacity constraints than we did in the fourth quarter. Adjusting for those constraints suggests that your growth might actually be closer to 10% or 15%. This marks a significant shift from the 30% growth expectations from not long ago. I’m unsure about the impact of logistics and price shocks, and it leaves people with little visibility on when logistics will improve. What metrics can we monitor in real-time to assess whether this situation reflects an industry-wide growth concern or if it is specific to Carvana?

Ernie Garcia, CEO

Sure. From a demand perspective, we’re very confident. We have seen significant market penetration growth, with many markets crossing various milestones. Our average cohort increased by 50% last year, and Atlanta, being our oldest cohort, also grew by 50%, which provides us with clear signals. Although website traffic varies in quality, it remains a reasonable indicator, and we are experiencing rapid growth there as well. The key factor driving our forecast is alleviating the constraints in our logistics network to establish a baseline for our performance. We are influenced by industry conditions, and given that many retailers are seeing declines of 15% to 20% due to affordability issues, we are considering this when assessing our outlook for the rest of the year. This perspective is incorporated into our forecasts.

Adam Jonas, Analyst

Got it. Ernie, just a follow-up on liquidity. We have seen this with other companies like Tesla in the past, where the market sometimes gets ahead of itself and your growth potential seems to outpace your actual performance. I'm getting daily questions about whether Peloton or Carvana is going to run out of money. Currently, you have $2.3 billion in liquidity and over three billion in used cars. It's clear that you have some strong financing arrangements with your partners for the acquisition. But let's set the record straight: can you explain why you won’t run out of money? If you need additional funding to achieve your plans for this year, do you need it, and if so, how much and how will you secure it? Thanks, Ernie.

Mark Jenkins, CFO

Sure. Yes, I can take that question. So at the end of the year, we had $2.3 billion in total liquidity resources. I think if you look at the way we used money in 2021, it was primarily investment in inventory and investment in finance platform assets. I think if you exclude inventory and finance platform assets, our cash flow from operating activities was only minus $82 million. That was a $200 million, approximately $200 million, improvement year-over-year. And so, I think the core business got to a point in 2021 where, again, other than investments in inventory and investments in finance platform assets, it's really not using a lot of cash from operating activities. I think that's one important point to make. I think we view the investment in inventory as a very positive thing for the business, obviously. Investment in inventory increases selection for our customers, I think right now, we're actually metering visibility meaningfully. So we're not getting the full benefit of the investments we've made in inventory so far. I think we're looking forward to the logistics network strengthening over time, coming off these weather events and the impacts of Omicron, so that we can unmeter some of the limited visibility of the inventory and get even more benefits. But I think we feel really good about that. I think one of the things that's frequently missed about our liquidity and cash needs is that we are an automotive retailer that invests a lot in hard assets. We invest in inventory; we invest in finance platform assets, and we invest in real estate. Those are highly financeable assets using traditional sources of financing that match those assets, which we used extensively in the past and expect to use in the future. And so I think we feel really good about all of those elements of our business, and those are some of the key things to be thinking about.

Ernie Garcia, CEO

And then if I could jump in really quick too. I do think we were lucky enough to have a very strong last couple of years. And I think that sometimes we can get roped in as kind of a pandemic growth story because in those two years, we are a more visible company than we were prior. But that said, I think if you go back to 2017 when we went public, we were one-tenth the size that we are today. We grew on the order of 4x over the next two-year period, pre-pandemic. And that growth was driven by the exact same forces that we expect our growth in the future to be driven by, which are these cohort curves and visibility into the future as long as we execute. So I think all these things will work themselves out. It's all going to become visible over time. But we feel like the visibility into demand is very clear. And then hopefully, that was a helpful answer for Mark on the cash front.

Operator, Operator

The Next question will come from Seth Basham with Wedbush Securities. Please go ahead.

Seth Basham, Analyst

Thanks a lot and good afternoon. I guess my question is around gross profit for you on the retail side in the first quarter and how we should think about that. What's embedded in your expectations on used car prices? If we see an even sharper drop in wholesale prices, or really retail prices, do you think that will have a more negative impact on your GP outlook?

Mark Jenkins, CFO

Sure, I can highlight some of the key factors influencing our outlook. We've mentioned these before, but the primary considerations include the impact of Omicron on cost of goods sold and, to some extent, weather-related expenses affecting reconditioning and inbound logistics costs. These factors are expected to significantly influence retail gross profit in the first quarter. Transitioning to wholesale, we are observing higher depreciation rates in the wholesale market compared to the previous quarters of 2021, which we anticipate will also affect wholesale gross profit in the first quarter, leading to lower expectations due to these increased depreciation rates.

Seth Basham, Analyst

Thank you. And then my follow-up is your decision on build versus buy with ADESA. And you talked about the equivalent capacity of 36 IRCs with this acquisition, which is about $88 million per location, including the additional improvement costs. What does that compare to versus building an IRC? Obviously, you take into consideration the additional profit stream for their auction business. But can you help us frame that a little bit more?

Ernie Garcia, CEO

Sure. I think at a very high level, it's probably not very different. And the reason is that's more expensive than our historical average inspection center has been by a pretty decent amount. Our average inspection is, in the past, have probably been more like $40 million to $65 million or $70 million, something like that. But these locations are oftentimes in more expensive cities and also in more expensive parts of town. This footprint has been built over a 30-year period. And so a lot of it is infill location. It's a little bit closer to customers and a little bit closer to employment than many of the locations that we would build out today if we were going out and trying to find farmland, for example, and build a greenfield. So again, I wouldn't want to be too precise there, but similar, when you're just evaluating it through the inspection center lens, it's probably not way off.

Operator, Operator

The next question will come from Mike Baker with D.A. Davidson. Please go ahead.

Mike Baker, Analyst

Okay. Thanks. Yeah, I just wanted to follow up on Seth's question, maybe along the same lines. I mean, I think based on the slide presentation here the acquired company did $100 million in EBITDA. You're paying $2.2 billion, if you exclude the additional CapEx. That's about 22 times. There's got to be some synergies in there. So, I suppose the sort of conspicuous buy options in that you talked about synergies, but you don't quantify it. Any way you can quantify it, or give us some way to get to, if this is accretive, how accretive this is to earnings or when it would be accretive? If you take the $3.3 billion in debt and put a reasonable interest rate on that, you're probably going to get incremental interest at or above the $100 million in EBITDA. So if you could give us some help with how to build this into our model in terms of accretion that would be great.

Ernie Garcia, CEO

Sure. To be honest, I approach the analysis quite differently. While EBITDA is important and reflects the impressive business that ADESA has developed over many years, it also represents a significant asset that we are eager to acquire. Additionally, we can consider the value generated from other key aspects of this acquisition. A substantial amount of real estate owned by ADESA is a valuable asset that we can utilize to establish inspection centers. We included our cohort curves in this presentation to showcase our ability to meet production capacity. For example, producing an additional two million units could potentially contribute around $5 billion annually to EBITDA, based on our long-term financial model. Furthermore, analyzing our logistics shows that sales within a 200-mile radius of our customers yield unit economics that are $750 better due to lower costs in transportation and customer acquisition, thanks to quicker delivery times. This is a significant figure. When we project those numbers against sales and envision incremental sales, we can quickly reach substantial figures. However, the exact calculations are less critical; what truly matters is our ability to execute and realize these exciting opportunities. Our focus now is on implementation, as we see clear demand, understand the unit economics, and have the necessary facilities to expand. Now, we need to take action and achieve our goals.

Mike Baker, Analyst

I appreciate that. To follow up, regarding the cost to build, you mentioned to Seth that it would be similar due to the great locations. Is the main advantage that it allows you to reach your goals faster? I understand it will take time to prepare for your IRCs. If the cost to build is similar and the focus isn't really on the $100 million EBITDA, is it more about the timing or other synergies? Could you elaborate on that a bit? Thank you.

Ernie Garcia, CEO

Yeah. So I think all of the above. I think time, I think location, and then I think end point is also potentially different. So I think that you can think about all those things as being large benefits of this transaction. When I say locations, I mean quality of locations.

Operator, Operator

The next question will come from Nat Schindler with Bank of America. Please go ahead.

Nat Schindler, Analyst

Hi, everyone. I have two quick questions. First, regarding financing and other revenue, the performance of the GPU this year has been impressive. How much of that can be attributed to the current situation where default rates are not a concern anymore because used cars can be sold for more than their purchase price? Specifically, how much of the gain on sale is influenced by this unique pricing environment, rather than just the inherent higher prices of the cars, considering that the risk associated with the loans has mitigated due to the increasing car prices?

Ernie Garcia, CEO

The straightforward answer to that question is that there is very little benefit at all. Any benefit would have gone to the buyers of our residuals, who then experienced better loan performance than expected. The economics we receive depend on the anticipated losses over the life of the loan when they are purchased. Despite significant losses from mid-2020 until now, investors do not expect this trend to last indefinitely when they invest in a multiyear asset class. Consequently, the underlying assumptions that have influenced the prices we have received have not changed significantly over the past few years. However, those who purchased the loans have performed much better than they anticipated due to the strong performance.

Nat Schindler, Analyst

But then with a significant normalization in prices, significant, not 2% here and there, but a significant normalization in pricing on used cars, take you back so that there is a significant risk to those credit hedge funds that are buying your loans that they simply can't get back on the loans that they're used to because the car is going to drop in price?

Ernie Garcia, CEO

I will answer this briefly because we could discuss it for a long time. It primarily relates to the interest rates on loans, which are determined by the market. The market typically seeks interest rates that enable loan buyers, whether they are purchasing whole loans, partial loans, or other types, to achieve the yield they expect based on anticipated losses. Therefore, it really comes down to how market interest rates change, and we will adjust accordingly. As long as our adjustments align with the market, we don’t anticipate a significant impact on conversion or large effects on finance profits. An exception occurs when there is a rapid change, like we recently experienced, which we expect to negatively affect us in Q1. However, generally, we anticipate that market rates will accommodate these expected changes.

Operator, Operator

The next question will come from Naved Khan with Truist Securities. Please go ahead.

Naved Khan, Analyst

Yeah, hi. Thank you. I have a question on the ADESA acquisition. So if I just read the real estate play that you're focusing on and just look at the core auction business that you're also buying, how should I think about the dealer participation once it's operated by Carvana? And is there a possibility that maybe the business could win a little over time? And how should I think about that? And the $100 million in EBITDA that it generated last year, and is there a risk to that?

Ernie Garcia, CEO

So I would say, first of all, our plan there is business as usual as discussed, for all the people inside of ADESA and also for all of the customers of ADESA that we're extremely excited to work with. So that's the plan. There's always risk in any business. So I mean I don't think that we want to say that there's no risk. We also think that there's a lot of opportunity. I think the transaction that we announced last quarter with Hertz may provide a bit of a window into the types of opportunities that could exist in the future. And we think there may be other opportunities like that as well. So I think the plan is business as usual. We'll see how that plays out in the immediate term. We're excited to welcome the people of ADESA to the team and the customers of ADESA, and we're excited to find increasingly creative ways to continue to work together to take advantage of the incredible assets that we've both built independently that now get to come together to give our joint customers even better experiences and options. So we'll see how all of that plays out.

Operator, Operator

The next question will come from David Bellinger with Wolfe Research. Please go ahead.

David Bellinger, Analyst

Hi, Ernie. Thanks for taking the question. So back on the 550,000 unit guidance for 2022, does that include some type of benefit from ADESA? And maybe in terms of a lift in conversion rate, just given you could get first look at some of these more attractive higher demand vehicles at auction, is any of that embedded in your unit guidance?

Ernie Garcia, CEO

I don't think we want to provide detailed guidance, but generally, we are not expecting significant immediate benefits to the core business from the acquisition this year. We believe that more benefits will materialize over time rather than right away. We will certainly be putting in effort to identify those benefits as quickly as possible, but that is our baseline assumption going in.

Operator, Operator

Got it. Okay. And then just can we get a quick update, too, on the marketplace initiative? Any comment on the early progress there and anything in regard to economics behind those sales?

Ernie Garcia, CEO

Yes. I think we don't have a ton more to share there. As we announced last quarter, we've got this really exciting partnership with Hertz, which we're excited about and where we're seeing great results early on. It remains early, I think, to do anything great with any partner. Both sides have to really walk arms and put the work in to build a great customer offering. And I think so far, both sides have done that, and we're excited by that. But there's certainly work left to do to unlock all the potential there. So potentially more updates there in the future.

Operator, Operator

Your last question will come from John Blackledge with Cowen. Please go ahead.

John Blackledge, Analyst

Thank you. I have two questions. Will all 56 locations have IRC capabilities, or will some overlap with existing IRC facilities? How do you plan to allocate the $1 billion across these locations? My second question is about the $750 million in cost savings; does that affect the long-term EBITDA margin range? Thank you.

Ernie Garcia, CEO

Sure. So on the first question; I think we're not going to get too specific on our plans there yet. There likely will be some locations that we do not add reconditioning capabilities to. That is taken into account in our approximately $2 million incremental unit estimate and kind of the $1 billion estimate of CapEx is also taken into account in all that. And then as it relates to $750, I would say that that's more of an acceleration to our long-term model than it is an addition to our long-term model. For those of you that remember, at our Analyst Day in 2018, we had simulations that assumed that we would have 40 reconditioning centers around the country and getting those 40 reconditioning centers would drive down our transport distances and therefore drive down a lot of the expenses that we expect to be driven down by this acquisition, and that was built into our long-term financial model. So, this is more locations that they are even better than we assumed the 40 locations would be back then. But that difference is very small relative to just the clear pathway to that benefit showing up in our numbers in a meaningful way faster than it otherwise would have.

John Blackledge, Analyst

Thank you.

Ernie Garcia, CEO

Thank you.

Operator, Operator

This concludes our question-and-answer session. I would like to turn the conference back over to management for any closing remarks. Please go ahead.

Ernie Garcia, CEO

Thanks. Well, first, I want to address everyone on team Carvana, another incredible year. Thank you for everything you guys do. The last couple of years have been absolutely insane and you've continually risen to the occasion. As I've told you before, I could not be prouder of what we've achieved with that Forbes list. I think that that is such a cool achievement. And it's very hard to do when we're all working as hard as we're working. So I cannot thank you enough for finding meaning in all the hard things that we do together and for having fun doing it and making it more fun for everyone around you. That's incredible, and it's the reason for our success. And as I said, I cannot thank you enough. To the ADESA team, we are extremely excited to welcome you guys as well. We'll be talking more over the next several days. I think we have an incredible opportunity together. I can imagine that this is always a bit destabilizing, change can always be scary. But we want you to know that we're extremely excited. We have a ton of respect for what you guys have built. We really look forward to working together. And we think it's going to be fun, and we think everyone's going to benefit. And to ADESA's customers, I would say the same. We're extremely excited to work with you. We think there's a lot that we can do together. I can imagine the news is shaking you a bit too. I can't wait to meet you in person and talk about the things we can do together. And again, I want to make sure you hear our commitment that our goal is business as usual and not to shake things up too much too quickly. And so we're excited to welcome you guys as customers. And as I said in my opening remarks, we will value the same way that we've always valued all of our customers, which is centrally. So, thank you to everyone, and we'll talk to you next quarter.

Operator, Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.