Stocks to sell

Don’t Get Taken for a Ride by Carvana Stock

Check out recent headlines about Carvana (NYSE:CVNA) stock, and you may start to think the opportunity to bottom-fish in this former stock market high-flier has emerged. Since last year, shares in this automotive e-commerce company have fallen by more than 94%, from an all-time high of $370.10 per share to around $20 per share today.

Pushed significantly lower by both the stock market’s downturn, plus the bursting of the used car bubble, some are starting to argue that Carvana has become oversold. However, this is a flawed argument. There’s a lot of uncertainty when it comes to this company’s path to profitability.

Even worse, the downside risk with Carvana remains extremely high. The bursting of the used car bubble has only started to take shape. The situation stands to get even uglier for the company, which puts this stock possibly at risk of a total wipeout.

CVNA Stock: Why it’s Not a Bargain

Last month, Piper Sandler’s Alexander Potter upgraded Carvana stock, from “neutral” to “overweight” (equivalent to “buy”). In his upgrade, which was accompanied by a lowering of his price target (from $98 to $73 per share), Potter called Carvana “grossly undervalued,” citing the fact it trades for less than a tenth of what it traded for a year ago, plus its long-term growth potential.

Potter is correct that Carvana has fallen significantly in price. The analyst is also correct in saying that this company still has growth potential, given long-term trends. However, neither of these factors make this stock a bargain. First off, CVNA stock is only going to begin making its way towards Potter’s price target, once it demonstrates consistent profitability.

Based on analyst consensus, this may not happen until 2025. Sure, going from $20 to $73 per share within three years would still result in a strong annualized return, but given analyst consensus for 2025 earnings ($2.36 per share), the stock may not be able to more than triple in price.

Second, before Carvana has the opportunity to continue “disrupting” the used car market, it needs to survive the current downturn. Put simply, it may not make it.

Carvana and Bankruptcy Risk

So far in 2022, demand for used cars has cooled considerably. Prices have stayed high. The continuation of the supply chain crisis has limited new vehicle production creating an overall vehicle shortage.

However, between the end of stimulus checks, high inflation, and rising interest rates which have made $1,000 monthly car payments a far more common occurrence, automobiles have become far less affordable to U.S. households, resulting in demand destruction.

Demand is likely to keep dropping, as the economic environment gets more challenging. Auto supply is also expected to start normalizing next year. A less favorable supply/demand dynamic will place more pressure on Carvana’s gross margins, which have already been squeezed by inflationary pressures. In turn, this will worsen Carvana’s cash burn.

In the best-case scenario, the company will raise more cash through the sale of new CVNA stock. In the worst-case scenario, with the market’s limited appetite for speculative growth stocks, a dilutive equity raise may not be an option.

Carvana will have to instead file for Chapter 11. While for now not a certainty, an eventual bankruptcy is not out of the question.

The Verdict on CVNA Stock

In a matter of a year, trends in the used car market have gone from extremely favorable, to extremely unfavorable, for Carvana. With this, don’t even try to justify buying its shares, even as a “moonshot wager.”

Just because it’s fallen by more than 94% doesn’t mean it can’t take another 94% dive. In fact, it could sink all the way to zero, if it runs out of financing options, and is forced into bankruptcy.

Coupled with this high downside risk, is an insufficient level of upside potential. Even if it does avoid bankruptcy, and obtains equity capital to keep the lights on, the resultant dilution will further limit Carvana’s ability to bounce back to materially higher prices.

With this unfavorable risk/return profile in mind, your best move is to avoid CVNA stock.

CVNA stock earns a F rating in Portfolio Grader.

On the date of publication, neither Louis Navellier nor the InvestorPlace Research Staff member primarily responsible for this article held (either directly or indirectly) any positions in the securities mentioned in this article.