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Vroom Stock Is Due for a Disturbingly Steep Correction

Without a moat and with a vulnerable business model, Vroom stock is setting up for a drop

After its initial public offering in June, Vroom (NASDAQ:VRM) is up nicely from its $22 a share price. Still, since the initial bounce, Vroom stock is not rewarding speculators with further lofty gains.

Vroom app is open on a smartphone
Source: Lori Butcher / Shutterstock.com

This suggests that Vroom may already have been priced perfectly by underwriters. Investors might need to wait until the company posts its first quarterly earnings report before deciding what its shares are worth.

Investors should look at Vroom as an online retailer and as a car seller. Its business is nothing new or unique. Plus, the two-star rating out of five is unacceptably low for a company worth over $5 billion in market capitalization. Investors may easily trade Carvana (NYSE:CVNA) stock instead.

Vroom’s 60% revenue growth for the first quarter ended March 31 also resulted in a net loss of $41.1 million. Losses declined from $45.1 million but the company is unlikely to post profits anytime soon. The used car business has no moat. As a commodity business, profit margins are always under pressure.

A Closer Look at Vroom Stock

Big purchases in used motor vehicles typically require physically inspecting the good. Customer habits may have temporarily changed to accommodate for curbside pickup, but buying a car is a big decision. If consumers shun online purchases for cars, then Vroom’s losses will grow.

Plans for Shift Technologies to go public in the third quarter exemplifies the tough competition Vroom may face. In April, Shift thought of shutting down its operations in some of its major markets. But the pandemic might have lifted online car sales, giving the company a new lease of life.

As a public company, Shift will have the funds to invest in its business. This is another possible headwind in growing Vroom’s business in the near-term.

As the pandemic wears on, weakening purchasing power may potentially hurt future demand for vehicles. For example, high unemployment figures suggest that customers will have trouble making payments after the “90 days of no payments” grace period from lenders ends. Still, if the price of used cars is low enough compared to new ones, Vroom may capture more of the used car market.

Carvana Struggles

Carvana’s first-quarter loss suggests that Vroom will also struggle in reporting profits. The competitor posted GAAP earnings per share of -$1.19. Revenue grew 45.7% year-on-year to $1.1 billion.

Retail units rose 43% Y/Y to 52,427 while vehicles purchased directly from consumers rose 157% Y/Y. Oddly enough, Carvana’s stock bottomed at $22.16 in March 2020 and traded recently at close to $140.

Fundamentally, Carvana is in as bad a shape as many cannabis companies: its revenues will grow at impressive rates but losses will widen. Markets will tolerate the losses in hopes of profits in the future.

Valuation

Despite my concerns about Vroom’s prospects in posting profits, analysts are bullish on the stock. The average price target is $60.67. Markets are euphoric for a business model that relies primarily on an online presence. Positive earnings are secondary.

Uber (NYSE:UBER) and Lyft (NASDAQ:LYFT) are another example of high-tech firms running on strong expectations of future growth but are losing money. But as long as the market participants are flush with investors with excess cash on hand, Vroom stock may hold its uptrend.

Conversely, value investors who care about fundamentals should take a pass with online firms that sell used cars. Demand may quickly weaken as job losses mount, and car supply may increase too fast for all the players in this space to maximize profits.

Disclosure: As of this writing, the author did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, https://investorplace.com/2020/07/vroom-stock-is-due-for-a-disturbingly-steep-correction/.

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