Earnings Preview: CarMax

CarMax Inc. ( KMX - Analyst Report ) announced that it would release its results for the second quarter of fiscal 2012 that ended on August 31, 2011 before the market opens on September 22, 2011. Richmond, VA-based CarMax earned a profit of 55 cents in the first quarter of fiscal 2012, beating the Zacks Consensus Estimates of 47 cents per share.

In the upcoming quarter, the Zacks Consensus Estimate for CarMax is pegged at 51 cents per share, reflecting an annualized growth of 6.60%. The downside potential of the estimate, essentially a proxy for future earnings surprises, is 1.96%.

With respect to earnings surprises, the company outdid the Zacks Consensus Estimate in the trailing four quarters. This is reflected in the average earnings surprise of 14.30%, implying that the company has beaten the Zacks Consensus Estimate in the last four quarters. Three of the concerned quarters exceeded the estimates while the remaining one exactly matched the Zacks estimate.

First Quarter Recap

Net sales and operating revenues in the quarter appreciated 18% to $2.68 billion, which was higher than the Zacks Consensus Estimate of $2.52 billion.

Used vehicle revenues grew 13% to $2.07 billion. Unit sales increased 7.5% or 7,586 vehicles to 108,511 vehicles while average selling price increased by $938 to $18,902. Meanwhile, new vehicle revenues rose 22% to $61.9 million. Unit sales rose 14% or 301 vehicles to 2,435 vehicles while average selling price increased by 7% or $1,567 to $25,288.

Wholesale vehicle revenues shot up 51% to $477.8 million, primarily driven by an increase in unit sales of 32% or 20,703 vehicles to 85,062 vehicles. The higher unit sales resulted from a significant increase in appraisal traffic combined with the benefit of a continued strong appraisal buy rate.

Other sales and revenues inched up 9% to $68.2 million, driven mainly by a rise in extended service plan (ESP) revenues. The 12% increase in ESP revenues to $46.3 million reflected both the growth in retail vehicle sales and better penetration of ESP.

Total gross profit swelled 15% to $383.1 million from $333.5 million in the quarter, primarily reflecting increases in used and wholesale unit sales. Total gross profit per retail unit went up $217 to $3,453 in the quarter from $3,236 in the corresponding quarter a year ago.

The income from CarMax Auto Finance (CAF) increased to $69.7 million from $57.5 million in the first quarter of fiscal 2011, driven by higher interest margin. The provision for loan losses was a credit of $1.0 million compared with an expense of $0.9 million in the prior year’s quarter.

CarMax had cash and cash equivalent of $156.0 million as of May 31, 2011, which was significantly higher than $13.7 million in the corresponding period a year ago. Total debt reduced significantly to $30.1 million as of the above date from $86.5 million as of May 31, 2010. Consequently, debt-to-capitalization ratio improved to 1.22% from 4.23% a year ago.

Estimate Revisions Trend

Earnings estimate for the second quarter of fiscal 2012 is currently pegged at a profit of 51 cents per share. The ongoing weakness in the whole economy induced the analysts to adopt a cautious stance on the company’s performances in the upcoming quarters.

Agreement of Estimate Revisions

Out of the 12 analysts covering the stock for the second quarter of fiscal 2012, our analysts downgraded the stock in the past 30 days, out of which one made the change in the last 7 days. On the other hand, only one analyst upgraded the stock in the last 7 days.

Magnitude of Estimate Revisions

Following the first quarter earnings release in June, second quarter earnings per share were projected at a profit of 50 cents. However, over the last 60 days, the estimate rose to a profit of 52 cents per share. Then again the estimate dropped by a penny to 51 cents per share in the last 7 days. Since then, the estimate is maintained at 51 cents per share.

Our Take

We appreciate CarMax’s focus on the used-car market, which helps it to outperform the industry. The automotive retailer is among the strongest operators in its peer group, which includes AutoNation Inc. ( AN - Analyst Report ) and Penske Automotive Group Inc. ( PAG - Analyst Report ) .

In the first quarter of fiscal 2012, CarMax resumed its strategy to open new used-car superstores, driven by improved economic and sales environment in the U.S. Under the strategy, the company plans to open used car superstores at an annual rate of 15%–20% of its used car superstore base every year.

During the quarter, the company has opened two used car superstores, entering the Baton Rouge, Louisiana, and Lexington, Kentucky, markets. It plans to open three more superstores in the current fiscal year in California, Massachusetts and Tennessee and eight and ten stores in the fiscal year ending February 28, 2013.

However, the tendency of manufacturers and dealers to lure customers into trading old cars for new ones through incentives puts pressure on the company’s used vehicle margins. This, along with rising cost of sales, has led the company to retain a Zacks #3 Rank on its stock, which translated into a short-term (1–3 months) Hold rating.