Saga Partners H2 2022 Investor Letter

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During nan 2nd half of 2022, nan Saga Portfolio (“the Portfolio”) declined 40.0% nett of fees. This compares to nan wide summation for nan S&P 500 Index, including dividends, of 7.6%.

The cumulative return since inception connected January 1, 2017, for nan Saga Portfolio is -44.4% nett of fees compared to nan S&P 500 Index of 86.8%. The annualized return since inception for nan Saga Portfolio is -9.3% nett of fees compared to nan S&P 500’s 11.4%. Please cheque your individual connection arsenic circumstantial relationship returns whitethorn alteration depending connected timing of immoderate contributions passim nan period.

 capacity arsenic of 12/31/22

Portfolio Update

The floor plan beneath gives a breakdown of nan year-to-year changes successful nan banal prices for nan Saga Portfolio companies. While nan Portfolio did not ain each of nan holdings complete nan full six-year period, it provides an thought of swings successful stocks prices successful caller years. As it relates to erstwhile nan Saga Portfolio first invested, LGI Homes (LGIH) and Trade Desk (TTD) were first bought during 2017, Trupanion (TRUP) and META during 2018, Carvana (CVNA) successful 2019, ROKU successful 2020, and Redfin (RDFN) successful 2021.

 breakdown of nan year-to-year changes successful nan banal prices for nan Saga Portfolio companies.

Source: Factset, Saga Partners

The stocks that nan Portfolio has owned person been very volatile since nan COVID pandemic, yet we person hardly made immoderate changes. Why did we not waste shares erstwhile nan marketplace intelligibly viewed nan prospects of our companies overmuch stronger and pushed shares to higher prices?

We are attempting to do 2 things while investing successful nan nationalist market: 1) place companies whose semipermanent earning imaginable (microeconomic dynamics of nan business) we judge we understand, and 2) allocate among nan champion opportunities we spot disposable astatine nan time.

The first task requires america to person an owner’s mentality erstwhile searching done nan thousands of opportunities disposable successful nan market. It intends we effort to image what a institution will look for illustration successful 10+ years. If 1 can’t shape a semipermanent view, past buying shares successful nan institution becomes much of speculative exercise. They are much apt to adopt nan market’s position of nan company, meaning arsenic shares spell up they for illustration it more, and erstwhile shares spell down they for illustration it less. An owner’s position would apt beryllium nan opposite.

Forming a semipermanent position is nary easy task fixed really galore things tin alteration from now and 2033, but nan moreover much difficult portion of investing is that nan marketplace attempts to discount a company’s early results into its existent banal price. Whenever 1 owns a stock, they are fundamentally saying they person a amended knowing of its intrinsic worth than everyone else. No successful finance was obvious, astatine slightest to nan remainder of nan world, different nan value would person already reflected nan company’s agleam future. Therefore, we are searching for nan fewer investments that we judge we tin understand and that are misunderstood by nan market.

We do this by evaluating nan company’s worth proposition, underlying microeconomics of its business model, competitory advantage, and its marketplace opportunity. Sometimes this leads america to a institution for illustration Carvana (CVNA) that has demonstrated its differentiated worth proposition, charismatic portion economics, and highly scalable business model. Sometimes it leads america to a institution for illustration META, which has an established web and slower maturation outlook, but its valuation reflects a weaker early than what we expect for various different reasons. Forming semipermanent outlooks that diverge from nan market’s wide position is nary easy task and typically leads to small portfolio turnover arsenic nan Portfolio people concentrates to its champion investments complete time.

It is reasonable to propose that erstwhile immoderate of our companies were trading for historically precocious multiples during 2020 and 2021, we should person sold and sat successful rate waiting for nan marketplace to supply much charismatic prices. It has ever been our attack to not effort and foretell nan ups and downs of what a banal value will perchance do next, but alternatively effort to deliberation astir nan expected return of nan plus complete its life, and past comparison it to different opportunities disposable astatine nan time. When immoderate of our companies were trading adjacent their highs, nan 10-year U.S. treasury output was little than 1%, nan S&P 500 was trading astatine a ~30x price-to-earnings ratio, and astir mature companies pinch much humble maturation prospects considered “wide-moat” were trading astatine moreover higher valuation multiples.

If our attack was to jump successful and retired of our investments based connected what we thought shares whitethorn do complete nan adjacent year, it is acold much apt that we would person sold acold earlier immoderate precocious was reached, and if prices were to diminution bought backmost acold earlier nan eventual lows. There is besides consequence successful trading thing that 1 understands good and believes has a agleam early successful bid to bargain caller things that 1 understands little good and perchance person little breathtaking prospects. When we place a uncommon institution that we tin understand and has a agelong runway successful beforehand of it to compound capital, it mostly takes a important displacement successful nan semipermanent outlook for america to interrupt its compounding. For nan astir part, we continued to for illustration owning nan companies already successful our portfolio comparative to different things disposable astatine nan time.

This “not timing nan market” accuracy whitethorn consciousness for illustration a liability during drawdowns, but it is this aforesaid accuracy that positions america perfectly for nan inevitable recovery. We overmuch for illustration nan investing model of “what is nan champion opportunity I tin find astatine existent prices?” to “what will nan marketplace do next?” It helps support an owner’s mentality that is focused connected nan micro study of a business arsenic opposed to nan macro study of nan market. While macroeconomic variables are important, they are mostly unpredictable successful my opinion, and their effects connected nan prices of circumstantial assets are moreover little predictable.

As shareholders, we yet do want nan value of our shares to spell up aliases person dividends to supply an charismatic return from our first investment. One can’t trust connected nan excuse of being a long-term, owner-oriented investor indefinitely. As owners of these companies, we surely don’t disregard existent results of our businesses, but see results successful nan discourse of nan semipermanent outlook and company-specific dynamics comparative to nan wide situation successful which they operate.

Why person shares declined truthful much?

Below is simply a floor plan of gross profits for each of nan companies going backmost to 2017. While free rate travel per stock is what inevitably matter to owners, gross profits mostly supply a decent proxy for really a business is processing complete time, peculiarly for companies that are earlier successful their life rhythm and still investing astir of their rate flows backmost into nan company.

 gross profits for each of nan companies going backmost to 2017.

Source: Company filings, Factset, Saga Partners

*Redfin gross profits only see nan Real Estate segment; Roku gross profits only includes nan Platform segment, LGI Homes values bespeak book value

**5 Yr. CAGR reflects gross profit per share

Throughout astir of our companies’ history they person executed exceedingly well, increasing earning powerfulness astatine a beardown rate, connected average. Then 3 years agone COVID caused a immense daze to nan wide economy. Trying to navigate nan effect of COVID was difficult for moreover nan astir predictable and mature businesses. Our companies mostly knowledgeable a surge successful request during H2’20 and into 2021. While higher request is often considered a bully thing, exceptionally higher unexpected request tin origin superior logistical and proviso concatenation issues for a business.

As our companies entered 2022, expectations were mostly for continued maturation from 2021 business volumes. The marketplace shared this position arsenic it placed what were mostly historically mean valuation multiples connected this outlook. As nan twelvemonth progressed, expected request came successful little than first expectations for various reasons. Since respective of our companies are astatine nan constituent successful their life wherever they are scaling their infrastructure and person a greater grade of operating leverage, a important diminution successful expected request tin person a disproportionate effect to near-term rate flows.

The marketplace besides shifted sentiment from favoring companies investing successful increasing early rate flows to favoring rate flows today, which is simply a normal guidance erstwhile liking rates and nan costs of superior spell up. However, respective of our companies’ existent imaginable earning powerfulness person been obscured nether a misbalance betwixt its costs building and existent demand. While their operating costs are mostly fixed successful nan short-term, they are comparatively adaptable successful nan intermediate term. It conscionable takes clip to get expenses backmost into balance.

Do caller operating results propose permanently weaker results into nan future?

I’d expect complete immoderate fixed 10–15-year period, a institution will acquisition mostly beautiful bully years, a fewer awesome years, and a fewer bad years; assuming it’s a bully company. I person nary hint successful what bid they will travel but it is nan occupation of an proprietor to cognize whether a bad twelvemonth reflects a deeper basal problem pinch nan institution aliases if it is simply a large wind that will yet pass.

As acold arsenic I tin show thing has fundamentally changed surrounding our companies’ respective worth propositions, comparative competitory advantages, aliases marketplace opportunities. If that were to change, specified arsenic what happened pinch GoodRx (GDRX) earlier successful nan year, I would set nan Portfolio to bespeak that revised semipermanent outlook. However, existent valuations propose nan marketplace is not only placing a little valuation connected our companies, arsenic 1 would expect pinch higher liking rates and worse than expected near-term results, but valuing them arsenic though they will ne'er right-size their costs structures aliases proceed to turn earning powerfulness successful nan future.

As it relates to circumstantial companies wrong nan Portfolio, I will supply updated thoughts connected nan 2 companies that person knowledgeable immoderate of nan astir disruption and headwinds complete nan past year, Redfin (RDFN) and Carvana. Before I touch connected these circumstantial companies, I deliberation it would beryllium adjuvant to excavation into really I attack immoderate of nan microeconomic study utilized erstwhile evaluating these opportunities. What determines nan size, profitability, and worth of a company? Answering these questions helps explicate wherever worth is created and destroyed and guides wherever we put today.

Microeconomics: Firm Size, Economies of Scale, and Integration/Modularization

The intrinsic worth of a institution will ever adjacent nan coming worth of early nett rate flows per share. However, starting nan study by looking to nan rate flows (the desired output) is putting nan cart earlier nan horse. If 1 simply takes nan rate travel connection and extrapolates existent results, nan infinitesimal a institution inevitably experiences periods of trouble aliases spot whitethorn beryllium extrapolated acold into nan early which leads to a questionable semipermanent outlook. However, if you activity backwards from what drives a banal value complete nan long-term, you are capable to analyse nan underlying drivers of value.

For example, what are nan inputs to a banal price? A company’s rate flow. What causes rate flow? Attractive returns connected invested superior (ROIC). What causes charismatic ROIC? Charging premium prices for products and/or having a little cost/capital structure. Why tin a institution complaint premium prices aliases person a little costs structure? Differentiated products/services (or astatine slightest nan cognition of differentiation) and/or greater productivity per portion than competitors (low-cost operator). What tin perchance disrupt this advantage? If 1 tin understand why a institution has and tin support a competitory advantage, they are amended capable to find its semipermanent earning powerfulness potential, possibly not successful immoderate fixed year, but complete time.

The adjacent steps would beryllium determining wherever a institution is successful its lifecycle and its addressable market. The last measurement is comparing nan scope of semipermanent expectations to nan existent price, past comparison that opportunity to others disposable astatine nan clip and allocate accordingly.

The imaginable size of a patient is an important information erstwhile valuing a company. One determining facet of patient size lies successful its minimum businesslike scale, which is nan level of output wherever a patient reaches its lowest semipermanent mean costs of production. Typically, arsenic a company’s output increases it benefits from economies of scale, arsenic shown by nan mean costs of accumulation decreasing. However, astatine immoderate constituent accrued output tin lead to inefficiencies and diseconomies of scale, aliases a higher mean costs of accumulation pinch output.

 mean costs of production

The minimum businesslike standard is based connected nan narration betwixt a company’s income and fixed costs (costs that do not alteration pinch output), i.e. its operating leverage. For example, pinch railroads nary postulation tin beryllium carried until nan full way is laid betwixt 2 destinations. Once built, an further rider aliases portion of freight carries small to nary marginal costs, hence creating precocious operating leverage comparative to walking by horseback aliases walking. A institution that has not reached businesslike standard is astatine a costs disadvantage to a much efficient, larger competitor and truthful provides an denotation of nan measurement ((size)) of output needed to beryllium competitive.

The different determining facet of patient size is simply a circumstantial company’s costs of accumulation comparative to its competitors. A institution tin grow its output past its minimum businesslike standard (experiencing diseconomies of scale) arsenic agelong arsenic its mean costs of accumulation is little than its competitors.

If we presume a solo widget shaper only has adaptable costs, past its mean costs of accumulation does not alteration pinch output. A widget shaper that has fixed costs and benefits from economies of standard will acquisition changes successful its mean costs of accumulation pinch output and has a comparative costs advantage to nan solo widget shaper astatine scale.

 mean costs of production

If a railroad’s maximum capacity was 100 passengers, that would beryllium nan output required to scope nan minimum businesslike standard (lowest costs per portion of output). If those 100 passengers traveled by horseback, it would return nan aforesaid resources (100 horses) and clip per rider sloppy of output (constant mean costs of production). If a passenger’s extremity is to recreation betwixt nan railroad’s 2 destinations, it would beryllium much productive/effiicent to recreation by train than by horseback.

The Industrial Revolution shifted nan operating leverage and standard benefits successful galore industries. Products that were historically made by manus (variable costs structure) could beryllium done astatine a overmuch greater standard and little mean costs of accumulation wrong larger corporations. Industries that had much analyzable processes surrounding accumulation and proviso concatenation needs benefitted from vertical integration. They knowledgeable greater operating leverage and economies of scale, resulting successful higher barriers to introduction and a fewer marketplace leaders that often competed successful effective duopolies (or monopolies) wrong their respective industries. Smaller newcomers had trouble mounting up nan infrastructure required for capable measurement to trim portion costs and go competitive. The first firms that came to predominate their manufacture often remained leaders for decades and were mostly only disrupted if caller technologies/processes emerged.

Industries that did not require analyzable processes surrounding accumulation and worth chains typically maintained a much adaptable costs building and did not use to a akin grade from vertical integration to trim portion accumulation costs. Fixed costs were a mini percent of wide costs, barriers to introduction were low, and industries remained fragmented and comparatively competitive. If portion of a product’s worth concatenation yet became commoditized, aliases if different patient could do thing amended (a little mean costs of production), past that portion of nan worth concatenation would beryllium disintermediated. Clayton Christensen explains this conception successful his Law of Conservation of Attractive Profits.

Today’s trucking manufacture is simply a awesome illustration of really nan aforesaid basal service, shipping freight, provides very different economical outcomes to nan institution based connected nan dynamics wrong its worth chain. There are 2 superior ways to vessel equipment via truck. A institution tin either prosecute a afloat truckload (FTL) bearer for 1 afloat trailer of space, aliases they tin prosecute a less-than-truckload (LTL) bearer for smaller loads and stock a trailer pinch different shippers. FTL carriers person debased fixed costs and debased barriers to entry. A patient that increases capacity by purchasing much trucks and hiring much drivers provides small costs advantages, and whitethorn moreover acquisition diseconomies of scale, compared to a azygous motortruck proprietor operator. Low barriers to introduction and small operating leverage consequence successful a highly fragmented manufacture pinch nan apical 5 carriers only having <5% marketplace share. Strong title and small differentiation consequence successful astir FTL carriers earning lackluster returns connected invested superior complete time.

Alternatively, LTL carriers must put successful a wide hub-and-spoke web of terminals and blase load way readying package to coordinate nan travel of equipment from galore shippers to galore destinations. A analyzable web requiring a definite load density raises nan fixed costs and operating leverage successful nan business model. Higher barriers to introduction consequence successful manufacture concentration, pinch nan apical 5 carriers making up complete 50% marketplace share. The starring LTL carriers gain charismatic returns connected capital. Old Dominion Freight Line (ODFL) and Saia Inc. (SAIA), for example, person had charismatic financial results and person been immoderate of nan champion performing stocks complete nan past 10-20 years. It pays to beryllium capital-intensive if you get an charismatic return connected that invested capital.

Relative Advantage, Zero Marginal Cost of Production, and Market Power

Fixed costs and economies of standard should ever beryllium considered comparative to nan full addressable market. Big firms successful a ample manufacture whitethorn person ample upfront fixed costs and precocious operating leverage, but they whitethorn not person a costs advantage erstwhile compared to competitor offerings that person besides reached minimum businesslike standard (think car OEMs, airlines, mobile wireless providers). Manufacturing automobiles has ample upfront fixed costs which whitethorn connote barriers to introduction and truthful little competition. However, nan world car manufacture is ample and capable companies person reached minimum businesslike standard to make it a competitory market.

Likewise, a small patient successful a mini manufacture whitethorn person a comparative standard advantage and truthful gain charismatic profits. Local newspapers had fixed costs associated pinch creating content, printing, and distribution of beingness papers. There were fundamentally nominal marginal costs to people and administer 1 much paper, truthful providing precocious operating leverage. The insubstantial that had nan astir readers accrued advertisers’ willingness to salary for advertisement space. Readers really sought retired papers pinch nan champion advertisements (classifieds, coupons/sales, etc.). The insubstantial pinch nan astir advertisement gross per an belief could salary writers more, screen fixed costs easier, and truthful connection a amended insubstantial to readers astatine debased prices.

In definite industries for illustration section newspapers, location is simply a earthy gravitation to a azygous patient winning astir of nan market. Considering nan mean costs of accumulation comparative to nan full addressable marketplace is truthful key. It is imaginable that a azygous firm’s mean costs curve decreases complete nan full scope of output, which suggests that 1 patient tin nutrient nan full market’s output much efficiently than having aggregate firms (i.e. a earthy monopoly). This move was evidently disrupted for newspapers erstwhile nan Internet reduced distribution costs of integer contented to zero, expanding title for eyeballs, and turning newspapers’ operating leverage into a competitory disadvantage.

 mean costs of production

In caller decades, improved computing powerfulness and nan Internet person reduced nan marginal costs to nutrient and administer integer equipment to fundamentally zero (in theory). This has a akin effect arsenic a patient whose mean costs curve decreases complete nan full scope of output and truthful person a monopoly, isolated from that each integer proviso has this aforesaid dynamic.

Econ 101 teaches that title should push nan value of goods/services down to nan marginal costs of production, astatine which constituent nary excess profits are made. A patient will only gain charismatic returns if they person marketplace powerfulness (i.e. a competitory advantage). This tin beryllium expressed by either trading goods/services supra nan marginal costs of accumulation aliases by having a costs advantage.

It’s nary astonishment that nan media manufacture was nan first to beryllium disrupted by digitization and nan Internet. Most proviso of media (news, music, books, movies, television) was restricted by beingness distribution (or airwaves for power and section TV broadcasters). Companies that controlled distribution were capable to gain charismatic economics because they often benefited from adjacent monopoly-like dynamics wrong their respective section markets. When media was digitized and past distributed complete nan Internet, those moats of beingness distribution were filled successful and nan proviso of media contented had to compete connected a world playing section successful which an expanding magnitude of contented could beryllium created and accessed complete nan Internet.

The effect varied crossed types of media but mostly nan problem for customers was nary longer getting entree to contented but successful filtering nan proliferating measurement of content. The powerfulness of bequest gatekeepers that controlled distribution fell while a caller type of gatekeeper arose pinch companies for illustration Google (GOOG, GOOGL, now Alphabet) and Facebook (now META) that integrated each proviso and request connected a azygous level to thief users search, filter, and moreover create nan expanding proviso of content. The media worth concatenation shifted from vertical integration to disintegration (or modularization) for contented creators. Companies for illustration Google and Facebook benefitted from zero marginal costs of accumulation arsenic good arsenic web effects which enabled them to turn to nan full size of their respective markets connected a world scale.

The Internet’s effect moved its measurement into nan unit manufacture arsenic customers were capable to shop for products online arsenic opposed to going to beingness stores. What is absorbing was that dissimilar successful media, nan larger business opportunity was not needfully successful being an asset-light level (EBAY’s model) but successful building nan beingness infrastructure and logistics that allowed products to beryllium delivered quickly and reliably (Amazon’s model). What created an advantage successful e-commerce was not conscionable processing a sufficiently ample integer marketplace, software, aliases fulfillment infrastructure but successful integrating each nan pieces together that reduces nan frictional and transaction costs successful buying and obtaining products.

Understanding really these microeconomic dynamics effect companies passim nan economy, peculiarly successful a integer and Internet enabled world, provides a model to place and nonstop wherever worth will apt beryllium created into nan future. It helps reply questions for illustration really will nan tv worth concatenation germinate arsenic it relates to contented creation and distribution? How does nan Internet effect definite unit channels? Does vertical integration aliases much of an asset-light attack make sense? There is nary 1 size fits each reply to each institution aliases industry. A company’s competitory advantage does not needfully dangle connected nan merchandise aliases work sold but connected nan economical dynamics of nan circumstantial situation. Two different companies that supply trucking services tin person importantly different outcomes based connected their chopped business exemplary and worth chain. The cardinal is identifying whether 1 institution is amended capable to supply a merchandise aliases work than replacement solutions acold into nan future.

Company-Specific Discussion

I person discussed each of our companies successful nan past. We ain an advertizing buying platform, a residential existent property brokerage, a utilized car dealership, a tv operating system, a societal media company, a pet insurer, and a homebuilder. In deciding which companies to own, location is nary predefined information of being a definite size (large headdress aliases mini cap), young aliases mature, capital-intensive aliases capital-light, aliases successful a definite industry. While each has different characteristics, our companies show a definite competitory advantage comparative to replacement options.

I thought it would beryllium adjuvant to springiness updated thoughts connected Redfin and Carvana since some of their industries person been importantly impacted by COVID, they some show immoderate of nan dynamics of complexity and integration discussed above, and their stocks person besides knowledgeable nan largest declines successful nan Portfolio.


Redfin’s results person been disappointing successful 2022. Aside from nan COVID lockdown 4th of Q2’20, Redfin ne'er knowledgeable a year-over-year diminution successful transaction volume. In fact, nan institution has ne'er grown transaction measurement little than double digits.

The lodging marketplace has been difficult to navigate since COVID. Recent volatility successful existing location income is not what 1 would expect from normal cyclicality but has been owed to nan imbalances successful supply/demand since COVID, mixed pinch higher liking rates. Housing is unsocial successful that astir location buyers are besides location sellers. Since rates moved up importantly successful 2022, homeowners that refinanced astatine little rates are little consenting to bargain a caller home, astatine slightest astatine existent prices, which has led to standstill successful existing location transactions.

The floor plan beneath shows conscionable really volatile existing location income person been since COVID. Over nan past 25 years, location turnover (U.S. location income / U.S. household) ranged betwixt 3.0%-6.5% astatine nan extremes. At nan extremity of 2022, volumes were astatine nan low-end of nan historical extremes. On average, aliases successful much normal times, ~4%-5% of households typically waste their home. At nan extremity of 2022, location turnover reached historically debased levels of conscionable 3%.

 family turnover

Source: FRED, Saga Partners

Despite what has happened complete nan past 3 years, I do not deliberation location will beryllium a permanently lowered complaint of location turnover aliases that nan utmost volatility successful existing location income will beryllium nan caller normal acold into nan future. People bargain homes for various reasons, specified arsenic caller family statement (starting a family) and different life events (moving for work, upsizing arsenic family grows aliases making much money, downsizing arsenic kids time off aliases retire). Peoples’ lives alteration and truthful do their needs. With location affordability astatine historical lows, prices either request to diminution aliases family incomes request to emergence to accommodate peoples’ lives. Though galore homeowners are locked into little owe rates today, arsenic nan wide costs of caller homeownership normalizes, I’d expect existing location income to attack nan ~4% scope again (implying 5-6 cardinal units successful an mean year).

Are Redfin’s existent results a reflection of a weakness successful its worth proposition aliases competitory position?

My position (which whitethorn look evident since we still ain Redfin) is that thing fundamentally has changed surrounding nan company’s semipermanent competitory advantage. Other starring existent property brokers person knowledgeable akin if not worse declines successful transaction volumes.

Redfin’s comparative costs advantage to accepted existent property brokerages has not changed. It generates request done its website that is funneled to Redfin agents who past thief guideline customers done nan analyzable transaction of buying and trading a home. Redfin has invested successful building an end-to-end existent property offering, starting pinch online hunt and 3D virtual tours, past self-tour scheduling ability, owe underwriting, and transaction advisory done its full-time agents. Increased automation surrounding request aggregation and touring enables agents to walk their clip wherever customers worth it nan most. Since supplier do not person to imaginable for request to a akin grade arsenic a accepted agent, they are much productive which lowers nan frictional costs of exchanging location ownership. It’s not that immoderate 1 of Redfin’s services is an advantage successful and of itself, it is nan integration of each nan services moving together that springiness it a costs advantage to accepted brokerages.

Historically Redfin has reinvested gross profits into building its integrated work offering operating astir breakeven. Despite a difficult 2022, early maturation successful gross profits is expected to turn astatine a faster complaint than operating expenses arsenic nan halfway work offerings person mostly been built, providing affirmative rate travel successful 2023 and nett profits successful 2024. From there, I’d expect Redfin to proceed to turn arsenic it takes stock successful each of its markets. While weaker results and a higher costs of superior (discount rate) would bespeak a little intrinsic worth than a twelvemonth aliases 2 ago, I find nan $460 cardinal marketplace headdress that shares sold for astatine nan extremity of 2022 baking successful an overly pessimistic future.


I person discussed Carvana respective times since we first purchased it successful 2019 but want to supply an update fixed nan stock’s diminution and antagonistic headlines. Historically, Carvana has grown gross profits astatine a faster complaint than operating costs. In 2021, Carvana grew unit portion volumes 74% to complete 400,000 cars to go nan 2nd largest utilized car trader aft CarMax. Carvana reached $1.9 cardinal successful gross profits, EBITDA breakeven, and expectations entering 2022 were for continued portion measurement maturation and standard operating costs.

 Carvana operating results

Source: Company filings, Saga Partners

What happened successful 2022?

Similar to Redfin, Carvana has been impacted by beautiful utmost manufacture disruptions/volatility. Supply concatenation bottlenecks restricted caller car accumulation and caused prices to rise. When mixed pinch higher liking rates, car affordability declined and utilized car volumes crashed.

Carvana plans and hires for expected capacity 6-12 months into nan future. Entering 2022 nan Company expected to turn portion volumes successful nan ~30% scope year-over-year and truthful faced a costs building acold excessively precocious for nan unit portion volumes experienced. Since request has travel successful beneath expectations, guidance is now pursuing costs cuts to get backmost to EBITDA breakeven.

While adjusting to a much adverse macro situation would not typically beryllium overly problematic, Carvana’s acquisition of Adesa successful April added $3.25 cardinal of 10.25% indebtedness to its equilibrium sheet. While nan acquisition made strategical consciousness and enables Carvana to much than triple its reconditioning capacity and waste cars done nan wholesale transmission easier, it added much than $300 cardinal successful yearly liking disbursal correct earlier 1 of nan steepest declines successful utilized car manufacture measurement knowledgeable successful history.

The cardinal statement is whether Carvana has nan liquidity runway to get to free rate travel breakeven. Carvana has 3 awesome buckets that dress up nan mostly of operating expenses: compensation & benefits, advertizing expense, and different overhead (roughly half of which is transaction & customer use costs). While these costs are reasonably fixed successful nan short-term, they are much adaptable successful nan intermediate-term. Carvana has nan expertise to drastically trim costs if needed, to amended lucifer nan request environment.

Based connected actions taken by management, it is expected that operating costs should autumn to ~$400 cardinal per 4th ($1.6 cardinal tally rate) by Q3’23. This was astir wherever operating costs were successful Q1 and Q2 2021, erstwhile Carvana sold ~100,000 unit units. At that time, they were increasing portion volumes ~75% year-over-year which suggests they were not operating astatine imaginable efficiency. As Carvana shifts attraction from maturation to efficiency, it is reasonable to expect costs to beryllium capable to travel down commensurate pinch those portion volumes.

One tin estimate what unit portion volumes whitethorn do passim nan adjacent year, but astatine that costs basis, it would return ~100,000 unit units per 4th and a gross profit per unit portion of $4,000 to scope EBITDA breakeven. Without immoderate further operating efficiencies, ~125,000 unit units per 4th would get them to free rate travel breakeven to screen their liking disbursal and privilege superior expenditures. If units stay depressed for longer than expected, guidance could trim operating costs further, nevertheless nan ~$600 cardinal successful yearly liking disbursal is beautiful fixed absent a indebtedness restructuring.

Depending connected Q4’22 results, Carvana will apt person ~$1.4 cardinal successful committed liquidity, netting retired restricted rate if its level scheme were afloat drawn. As disbursal cuts spell through, they should scope EBITDA breakeven by Q3’23. At that constituent they will apt person ~$1 cardinal successful committed liquidity to screen ~$150-200 cardinal successful quarterly liking and capex, giving them until nan extremity of 2024 for utilized car volumes to retrieve to much normalized levels. This does not moreover see nan ~$2 cardinal successful unpledged existent property that provides them pinch further liquidity options if needed.

The truth we person to moreover see a script of whether Carvana will get done an extended downturn could beryllium considered a reddish flag. I would thin to work together successful astir situations, but Carvana has knowledgeable a highly different environment. Part of nan separator of information to their operating results is that they person nan portion economics to trim costs if request were to decrease. They besides person ample liquidity to supply a runway to do so. They are now having to propulsion that lever fixed nan adverse environment.

Perhaps Carvana was overly fierce by expanding capacity excessively fast. However, 1 tin besides reason that successful nan semipermanent that buying and trading cars online is specified an evidently amended customer acquisition than nan accepted utilized car buying experience. Therefore, it should return a decent stock of wide utilized car income and location is simply a winner-take-most move to nan institution that tin champion merge nan online utilized car buying/selling experience. Once nan infrastructure is built, it would beryllium highly difficult for anyone other to compete pinch and displace nan institution pinch nan top marketplace share. While Carvana is nan clear online utilized car trader leader today, it is very imaginable for a CarMax (KMX), Vroom (VRM), CarGurus (CARG), Lithia Motors (LAD), General Motor’s (GM) CarBravo, aliases moreover Amazon (AMZN) to either standard their operations aliases participate nan space. The prize for winning is important pinch perchance small near complete for 2nd place. Therefore, being fierce successful scaling its infrastructure is nan correct determination to make, pinch nan knowing that it takes a batch of first superior and 1 needs to beryllium capable to past immoderate imaginable downturn.

While Carvana has been negatively portrayed successful nan headlines, it has a beardown customer worth proposition, charismatic portion economics compared to accepted ceramic & mortar dealerships, and a ample marketplace opportunity. It has nan costs building to get to EBITDA breakeven successful nan foreseeable future, and free rate travel breakeven arsenic unit volumes statesman to normalize sometime complete nan adjacent 2 years. Some whitethorn inquire why we person not added to our Carvana position if I proceed to person condemnation successful Carvana’s semipermanent outlook and shares person continued to diminution into nan extremity of nan year. The reply is that we person limits to really overmuch superior we are consenting to put into immoderate azygous finance and person reached that limit past June. That whitethorn mean we are limiting immoderate upside by not adding to what could perchance beryllium 1 of nan champion opportunities disposable astatine nan existent price, but it besides limits nan consequence that immoderate azygous position mightiness permanently impair nan Portfolio.


A ample drawdown tin beryllium emotionally scary and difficult to unrecorded through. Since group bargain stocks pinch nan anticipation that nan value will spell up astatine immoderate constituent successful nan future, whenever a banal declines successful value it gets further distant from that goal. Maintaining an owner’s mentality erstwhile investing successful nan nationalist marketplace is harder than ever pinch a changeless news flow, regular marketplace quotes, and nan easiness of trading. Declining stocks tin origin disappointment and fear. It is very earthy to effort to conjecture what shares will do complete nan adjacent twelvemonth alternatively than measure what shares will return if held for nan company’s remaining life. Yet moreover if 1 does ain a company’s banal pinch an owner’s mentality, it does not needfully make surviving done steep value declines immoderate little difficult.

Despite caller value performance, I proceed to stay optimistic astir nan early of our companies and moreover much optimistic astir their prices comparative to early outlooks. If that were to alteration for immoderate reason, I would set nan Portfolio based connected that revised outlook. If we are directionally correct astir nan semipermanent earning powerfulness of our companies, past their marketplace value will mostly bespeak that outcome, extracurricular periods of marketplace turmoil.

I americium truthful thankful for our investors that proceed to deliberation semipermanent and carnivore pinch america during what has been an extended drawdown. As always, please scope retired if you person immoderate questions aliases comments; I americium ever happy to perceive from you.


Joe Frankenfield


This archive should not beryllium nan ground of an finance decision. An Investment determination should beryllium based connected your customary and thorough owed diligence procedures, which should include, but not beryllium constricted to, a thorough reappraisal of each applicable offering documents arsenic good arsenic consolation pinch legal, taxation and regulatory experts. Any personification subscribing for an finance must beryllium capable to carnivore nan risks progressive and must meet nan peculiar fund’s aliases account’s (each a “Fund” and, collectively, “Funds”) suitability requirements. Some aliases each replacement finance programs whitethorn not beryllium suitable for definite investors. No assurance tin beryllium fixed that immoderate Fund will meet its finance objectives aliases debar losses. A chat of some, but not all, of nan risks associated pinch investing successful nan Funds tin beryllium recovered successful nan Funds’ backstage placement memoranda, subscription agreement, constricted business agreement, articles of association, finance guidance statement aliases different offering documents arsenic applicable (collectively nan “Offering Documents”), among those risks, which we wish to telephone to your attention, are nan following:

Future looking statements, Performance Date: The accusation successful this study is NOT intended to incorporate aliases definitive vulnerability aliases attraction recommendations, guidelines aliases limits applicable to immoderate Fund. The accusation successful this study does not disclose aliases contemplate nan hedging aliases exit strategies of nan Funds. All accusation presented herein is taxable to alteration without notice. While investors should understand and see risks associated pinch position concentrations erstwhile making an finance decision, this study is not intended to assistance an investor successful evaluating specified risk. The position group distant successful nan Offering Documents are controlling successful each respects should they conflict pinch immoderate different word group distant successful different trading materials, and therefore, nan Offering Documents must beryllium reviewed cautiously earlier making an finance and periodically while an finance is maintained. Statements made successful this merchandise see forward-looking statements. These statements, including those relating to early financial expectations, impact definite risks and uncertainties that could origin existent results to disagree materially from those successful nan forward-looking statements. Unless different indicated, Performance Data is presented unaudited, nett of existent fees and different money expenses (i.e. ineligible and accounting and different expenses arsenic disclosed successful nan applicable Fund’s Offering Documents”), and pinch dividends re invested. Since existent fees and expenses person been deducted, circumstantial capacity of immoderate peculiar superior relationship whitethorn beryllium different than arsenic reported herein. Due to nan format of information disposable for nan clip periods indicated, some gross and nett returns are difficult to cipher precisely and nan existent capacity of immoderate peculiar investor successful a Fund whitethorn beryllium different than arsenic reported herein. Accordingly, nan calculations person been made based connected a number of assumptions. Because of these limitations, nan capacity accusation should not beryllium relied upon arsenic a precise reporting of gross aliases nett performance, but alternatively simply a wide denotation of past performance. The capacity accusation presented herein whitethorn person been generated during a play of bonzer marketplace volatility aliases comparative stableness successful nan peculiar sector. Accordingly, nan capacity is not needfully suggestive of results that nan Funds whitethorn execute successful nan future. In addition, nan foregoing results whitethorn beryllium based aliases shown connected an yearly basis, but results for individual months aliases quarters wrong each twelvemonth whitethorn person been much favorable aliases little favorable than nan results for nan full period, arsenic nan lawsuit whitethorn be. Index accusation is simply to show nan wide inclination successful nan markets successful nan periods indicated and is not intended to connote that nan portfolio of immoderate Fund was akin to nan indices successful either creation aliases constituent of risk. This study whitethorn bespeak that it contains hypothetical aliases existent capacity of circumstantial strategies employed by The Adviser, specified strategies whitethorn comprise only a information of immoderate circumstantial Fund’s portfolio, and, therefore, nan reported strategy level capacity whitethorn not correspond to nan capacity of immoderate Fund for nan reported clip period.

Investment Risks: The Funds are speculative and impact varying degrees of risk, including important degrees of consequence successful immoderate cases, which whitethorn consequence successful finance losses. The Funds’ capacity whitethorn beryllium volatile. The usage of a azygous advisor could mean deficiency of diversification and, consequently, higher risk. The Funds whitethorn person varying liquidity provisions and limitations. There is nary secondary marketplace for investors’ interests successful immoderate of nan Funds and nary is expected to develop.

Not Legal, Accounting aliases Regulatory Advice: This worldly is not intended to correspond nan rendering of accounting, tax, ineligible aliases regulatory advice. A alteration successful nan facts aliases circumstances of immoderate transaction could materially impact nan accounting, tax, ineligible aliases regulatory curen for that transaction. The eventual work for nan determination connected nan due exertion of accounting, tax, ineligible and regulatory curen rests pinch nan investor and his aliases her accountants, taxation and regulatory counsel. Potential investors should consult, and must trust connected their ain master tax, ineligible and finance advisors arsenic to matters concerning nan Fund and their investments successful nan Fund. Prospective investors should pass themselves arsenic to: (1) nan ineligible requirements wrong their ain jurisdictions for nan purchase, holding aliases disposal of investments; (2) applicable overseas speech restrictions; and (3) immoderate income and different taxes which whitethorn use to their purchase, holding and disposal of investments aliases payments successful respect of nan investments of a Fund.

The S&P 500 Index is an unmanaged scale of 500 wide held communal stocks. The S&P Index is not disposable for investment, and nan returns do not bespeak deductions for guidance fees aliases different expenses.

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