The pandemic disrupted the car industry, leading to production cuts, longer lead times for new cars, and surging demand and prices for used cars.

However, demand fell as prices rose, and work-from-home trends reduced car usage, impacting car retailers like Carvana.

In contrast, Cars.com (CARS) benefited from its asset-light, digital marketplace model, which connects buyers and dealerships.

It generates revenue through advertising, subscription packages, and lead fees, maintaining a strong financial position.

Despite market concerns about shifting consumer habits and competitive pressures, Cars.com’s stable model positions it well for future growth.

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The pandemic really shook up the car industry, bringing unexpected outcomes in the used car market.

Total car production went down by 16% in 2020, due to supply chain issues and lockdowns. This affected lead times significantly and people who wanted new cars had to wait a long time, even up to a year for some.

This situation drove the demand for used cars and led to their prices skyrocketing in a short period of time.

The average used car price went up by 10% in April 2021, the highest it’s been since 1953. And after a year, it jumped by 30%.

However, this trend hit a road bump. As used car prices became expensive and people had to wait a long time to get a new car, demand started to fall.

On top of that, people started using cars much less frequently due to the pandemic and as more people were working from home.

This volatility in demand and prices in the automotive industry significantly affected the financial health of car retailers. For instance, one of the most popular used car retailers Carvana (CVNA) almost went bankrupt.

The asset-light automotive companies were impacted the most by this action since the outlook was much more negative for them as they could not provide collateral.

Cars.com (CARS) is a great example of this. The company operates an online marketplace where buyers and sellers connect to discuss deals and conduct transactions for cars.

The company does not produce any cars, nor is it a dealer. It’s just a digital platform.

For that reason, it doesn’t really need to invest in new assets and it has a much lower operating cost than a lot of its peers, who are struggling.

A significant portion of Cars.com’s revenue comes from subscription-based advertising packages offered to car dealerships.

These packages allow dealers to list their inventory on the platform and access advanced marketing tools, enhancing their visibility to potential buyers.

Currently, over 20,000 dealerships have subscribed to these services, providing a steady and recurring income source.

Cars.com offers advertising space to automotive manufacturers, finance companies, insurance providers, and other industry stakeholders.

These advertisements are strategically placed across the website and mobile app to engage potential car buyers.

Additionally, the platform collaborates with brands to create sponsored content like articles and videos, promoting advertisers’ products or services.

The platform facilitates connections between potential buyers and dealerships.

When a user expresses interest in a vehicle by filling out a contact form or calling a dedicated number, Cars.com charges the respective dealership a fee for the lead.

Beyond its core offerings, the company provides additional services to both dealers and consumers.

For dealers, these include digital marketing solutions, website creation and hosting, vehicle acquisition and valuation, digital retailing, and review and reputation management.

For consumers, the platform offers financing tools with instant online loan screening and approvals, vehicle history reports, and other resources to assist in the car-buying process.

By integrating these diverse revenue streams, Cars.com managed to achieve a 113% Uniform return on assets ”ROA” and 6% asset growth last year.

However, the market is concerned about ongoing shifts in consumer car-buying habits and the competitiveness of digital marketplaces, reflected by the company’s low 9x Uniform P/E.

We can see this through our Embedded Expectations Analysis (“EEA”) framework.

The EEA starts by looking at a company’s current stock price. From there, we can calculate what the market expects from the company’s future cash flows. We then compare that with our own cash-flow projections.

In short, it tells us how well a company has to perform in the future to be worth what the market is paying for it today.

At the current stock price, the market predicts that the company’s Uniform ROA will fall to around 55%.

Considering the company’s asset-light business model and the advantages that brings, Cars.com should sustain its current ROA levels.

Furthermore, thanks to its asset-light marketplace business model, the company’s only non-debt obligation is about $20 million in maintenance every year, which gives it a stable financial position.

With the potential for stronger performance in the coming years as the market stabilizes, Cars.com remains a company to watch.

Best regards,

Joel Litman & Rob Spivey
Chief Investment Officer &
Director of Research
at Valens Research