Carvana’s debt problems haven’t gone away. Investors should pay close attention to these three things.

On the surface Target (CVNA 4.44%) 2023 appears to have been a dramatic turning point. Revenue jumped from a loss of $15.74 per share in 2022 to a profit of $4.12 per share. And it looks like the company is off to a great start with first quarter 2024 earnings of $0.24 per share. These are impressive results, but there’s more to the story than meets the eye.

If you’re considering investing in a used car dealership, here are three things to look out for.

1. Carvana had no choice if he wanted to survive

If you look at Carvana’s Q4 2023 earnings release, you’ll notice this little note:

Fiscal 2023 net income totaled $150 million, and the gain on debt extinguishment as a result of a corporate debt swap was $878 million.

There’s a lot to unpack in that little explainer.

Image source: Getty Images.

First of all, taking out $878 million in profits would push net income by $150 into negative territory. So the company wasn’t performing as well as its financial statements suggested. But what exactly happened? In short, Carvana had so much debt that there was a very high risk that it would not be able to pay its creditors. Instead of pushing the company into bankruptcy, bondholders gave Carvana a break and renegotiated its debt.

This is certainly good news, considering there was a real risk that the company would go bankrupt. But this was not a transaction conducted from a position of strength. It was forced upon Carvana. And even after the debt transaction, the debt ratio ended the year at over 25 times, which was shockingly high. The company’s leverage remains a big issue and needs to be continuously monitored.

2. Interest costs continue to eat up Cabana’s lunch money.

Although closely related to the leverage issue, one of the biggest reasons for debt renegotiation was to lower interest costs. That’s where the balance sheet and income statement come together, if you will. While lower interest expense is certainly a good thing, interest expense totaled $173 million in Q1 2024, up from $159 million in Q1 2023. Interest costs would probably be lower than they would have been without debt renegotiation. Expenses have not actually decreased in the company’s GAAP financial statements.

But that’s not the biggest worry. Operating income, not including the impact of interest expense, totaled $134 million. This means that interest costs are still eating up all of the company’s operating profits. This is not sustainable in the long term, and investors should keep an eye on what’s happening to this significant expense, given the massive debt load the company still carries.

3. Carvana didn’t make money in the fourth quarter of 2023 and wasn’t exactly a winner in the first quarter of 2024 either.

The large debt swap took place in the third quarter of 2023. This makes it an interesting data point because the results of the debt deal could be seen in the third quarter of 2023, although the fourth quarter was not affected by a one-time gain from debt renegotiation. Quarterly Financial Results.

CVNA EPS Basic (Quarterly) Data from YCharts

result? The company’s earnings were negative at $1 per share in the fourth quarter of 2023. This is a significant improvement over the loss of $7.61 per share in the fourth quarter of 2022, but the company clearly remains a work in progress. Generate sustainable profits.

The first quarter of 2024 was just as complex as the company’s 2023 performance. Management reported earnings of $0.23 per diluted share and net income of approximately $49 million. However, it goes on to say that net income “…included a gain of ~$75 million in the fair value of warrants to acquire Root common stock.” If you subtract that profit from the first quarter 2024 net income figure, Carvana would be back in the loss column. So, it’s unclear whether the company is actually profitable at this point unless it comes out with more one-off items in the future.

Carvana likes to highlight numbers like gross profit per vehicle, but that’s not enough to really evaluate the company’s long-term viability. You should also monitor your profits. If Carvana can’t generate profits for shareholders without unusual accounting one-offs, it’s probably not worth owning.

Carvana is not for risk-averse investors.

Overall, Carvana runs a fairly simple business: selling used cars. But the company is anything but simple. Most investors would probably be better off avoiding it. That said, when looking at stocks, you’ll want to monitor the company’s leverage, its still-high interest expense, and its earnings, which may be overly complex.