MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is provided as a supplement to, and should be read in conjunction with, our audited consolidated financial statements, the accompanying notes and the MD&A included in our Annual Report on Form 10-K for the fiscal year ended February 28, 2022 (“fiscal 2022”), as well as our unaudited interim consolidated financial statements and the accompanying notes included in Item 1 of this Form 10-Q. Note references are to the notes to unaudited interim consolidated financial statements included in Item 1. All references to net earnings per share are to diluted net earnings per share. Certain prior year amounts have been reclassified to conform to the current year’s presentation. Amounts and percentages may not total due to rounding.
OVERVIEW
CarMax is the nation’s largest retailer of used vehicles. We operate in two reportable segments: CarMax Sales Operations and CarMax Auto Finance (“CAF”). Our CarMax Sales Operations segment consists of all aspects of our auto merchandising and service operations, excluding financing provided by CAF. Our CAF segment consists solely of our own finance operation that provides financing to customers buying retail vehicles from CarMax. Our consolidated financial statements include the financial results related to our Edmunds Holding Company (“Edmunds”) business, which does not meet the definition of a reportable segment. For purposes of our MD&A discussion, amounts related to that business are discussed in combination with our CarMax Sales Operations segment. Separate discussion of these amounts is not considered meaningful for the purpose of gaining an understanding of our business, as the significant drivers of these operations in total are consistent with those of our CarMax Sales Operations segment. Where appropriate, specific amounts related to non-reportable segments have been disclosed for informational purposes.
CarMax Sales Operations
Our sales operations segment consists of retail sales of used vehicles and related products and services, such as wholesale vehicle sales; the sale of extended protection plan (“EPP”) products, which include extended service plans (“ESPs”) and guaranteed asset protection (“GAP”); and vehicle repair service. We offer competitive, no-haggle prices; a broad selection of CarMax Quality Certified used vehicles; value-added EPP products; and superior customer service. Our omni-channel platform, which gives us the largest addressable market in the used car industry, empowers our retail customers to buy a car on their terms – online, in-store or an integrated combination of both.
Our customers finance the majority of the retail vehicles purchased from us, and availability of on-the-spot financing is a critical component of the sales process. We provide financing to qualified retail customers through CAF and our arrangements with industry-leading third-party finance providers. All of the finance offers, whether by CAF or our third-party providers, are backed by a 3-day payoff option.
As of November 30, 2022, we operated 235 used car stores in 108 U.S. television markets. As of that date, wholesale auctions previously held at many of our used car stores were being conducted virtually.
CarMax Auto Finance
In addition to third-party finance providers, we provide vehicle financing through CAF, which offers financing solely to customers buying retail vehicles from CarMax. CAF allows us to manage our reliance on third-party finance providers and to leverage knowledge of our business to provide qualifying customers a competitive financing option. As a result, we believe CAF enables us to capture additional profits, cash flows and sales. CAF income primarily reflects the interest and fee income generated by the auto loans receivable less the interest expense associated with the debt issued to fund these receivables, a provision for estimated loan losses and direct expenses. CAF income does not include any allocation of indirect costs. After the effect of 3-day payoffs and vehicle returns, CAF financed 41.4% of our retail used vehicle unit sales in the first nine months of fiscal 2023. As of November 30, 2022, CAF serviced approximately 1.1 million customer accounts in its $16.65 billion portfolio of managed receivables.
Management regularly analyzes CAF’s operating results by assessing the competitiveness of our consumer offer, profitability, the performance of the auto loans receivable, including trends in credit losses and delinquencies, and CAF direct expenses.
Revenues and Profitability
The sources of revenue and gross profit from the CarMax Sales Operations segment and other non-reportable segments for the first nine months of fiscal 2023 are as follows:
| | | | | | | | |
| Net Sales and
Operating Revenues | Gross Profit |
A high-level summary of our financial results for the third quarter and first nine months of fiscal 2023 as compared to the third quarter and first nine months of fiscal 2022 is as follows (1):
| | | | | | | | | | | | | | | | | | | | | | | |
| (Dollars in millions except per share or per unit data) | Three Months Ended November 30, 2022 | | Change from Three Months Ended November 30, 2021 | | Nine Months Ended November 30, 2022 | | Change from Nine Months Ended November 30, 2021 |
| Income statement information | | | | | | | |
| Net sales and operating revenues | $ | 6,506.0 | | | (23.7) | % | | $ | 23,962.4 | | | (1.0) | % |
| Gross profit | $ | 576.7 | | | (31.1) | % | | $ | 2,189.2 | | | (15.0) | % |
| CAF income | $ | 152.2 | | | (8.3) | % | | $ | 539.5 | | | (11.2) | % |
| Selling, general and administrative expenses | $ | 591.7 | | | 2.7 | % | | $ | 1,914.5 | | | 12.3 | % |
| Net earnings | $ | 37.6 | | | (86.1) | % | | $ | 415.8 | | | (58.1) | % |
| Unit sales information | | | | | | | |
| Used unit sales | 180,050 | | | (20.8) | % | | 637,939 | | | (12.6) | % |
| Change in used unit sales in comparable stores | (22.4) | % | | N/A | | (14.3) | % | | N/A |
| Wholesale unit sales | 118,757 | | | (36.7) | % | | 464,741 | | | (16.6) | % |
| Per unit information | | | | | | | |
| Used gross profit per unit | $ | 2,237 | | | 0.1 | % | | $ | 2,291 | | | 3.8 | % |
| Wholesale gross profit per unit | $ | 966 | | | (14.6) | % | | $ | 962 | | | (8.7) | % |
| SG&A as a % of gross profit | 102.6 | % | | 33.8 | % | | 87.5 | % | | 21.4 | % |
| Per share information | | | | | | | |
| Net earnings per diluted share | $ | 0.24 | | | (85.3) | % | | $ | 2.60 | | | (56.6) | % |
| Online sales metrics | | | | | | | |
Online retail sales (2) | 12 | % | | 3 | % | | 11 | % | | 2 | % |
Omni sales (3) | 52 | % | | (5) | % | | 53 | % | | (3) | % |
Revenue from online transactions (4) | 28 | % | | (2) | % | | 30 | % | | 3 | % |
(1) Where applicable, amounts are net of intercompany eliminations.
(2) An online retail sale is defined as a sale where the customer completes all four of the following activities remotely: reserving the vehicle; financing the vehicle, if needed; trading-in or opting out of a trade-in; and creating an online sales order.
(3) An omni sale is defined as a sale where customers complete at least one of the four activities listed above online.
(4) Revenue from online transactions is defined as revenue from retail sales that qualify as an online retail sale, as well as any related EPP and third-party finance contribution, wholesale sales where the winning bid was taken from an online bid and all revenue earned by Edmunds.
Refer to “Results of Operations” for further details on our revenues and profitability.
Liquidity
Our primary ongoing sources of liquidity include funds provided by operations, proceeds from non-recourse funding vehicles, and borrowings under our revolving credit facility or through other financing sources. In addition to funding our operations, this liquidity was used to fund the repurchase of common stock under our share repurchase program, our store growth and the Edmunds acquisition, which was completed during the second quarter of fiscal 2022.
Our current capital allocation strategy is to focus on our core business. Given our recent performance and continued market uncertainties, we are taking a conservative approach to our capital structure in order to maintain the flexibility that allows us to efficiently access the capital markets for both CAF and CarMax as a whole. We have taken steps to better align our expenses to sales, as well as paused our share repurchases and slowed the rate of our store growth and capital expenditures. We believe we have the appropriate liquidity, access to capital and financial strength to support our operations and continue investing in our strategic initiatives for the foreseeable future.
Strategic Update and Future Outlook
Our omni-channel experience provides a common platform across all of CarMax that leverages our scale, nationwide footprint and infrastructure and empowers our customers to buy a vehicle on their terms. Customers are seeking personalization, convenience and safety in how they shop for and buy a vehicle more than ever. Our omni-channel platform empowers customers to buy a car on their own terms, whether completely from home, in-store or through an integrated combination of online and in-store experiences. Our diversified business model, combined with our omni-channel experience, is a unique advantage in the used car industry that firmly positions us to continue growing our market share while creating shareholder value over the long-term.
During the first quarter of fiscal 2023, we enabled online self-progression for all of our retail customers. All customers are now eligible to complete an online retail sale independently if they choose. In the third quarter of fiscal 2023, online retail sales accounted for 12% of retail unit sales, up from 11% in the previous quarter and 9% in the prior year quarter. Omni sales represented approximately 52% of retail sales, down slightly from the previous quarter as well as the prior year quarter. Online, omni and in-person sales can vary from quarter to quarter depending on consumer preferences and how they choose to interact with us. While we expect our online and omni sales to grow over time, our goal is to provide the best experience whether in-store, online or a combination of the two.
Revenue from online transactions was $1.8 billion, or approximately 28% of net revenues in the third quarter of fiscal 2023, down from 30% in the previous quarter as well as the prior year quarter.
We purchased approximately 238,000 vehicles from consumers and dealers during the third quarter of fiscal 2023, down 40% from the prior year quarter and up approximately 19% from the third quarter of fiscal 2021. Approximately 14,000 vehicles were purchased through MaxOffer, our digital appraisal product for dealers, down 32% from the prior quarter but up 16% from the prior year quarter. We leverage the Edmunds sales team to open new markets and sign up new dealers for MaxOffer. For the third quarter of fiscal 2023, our self-sufficiency rate remained above 70%. The success of our online instant appraisal offer continues to strengthen our leadership position as the largest used vehicle buyer from consumers.
Our investments in the near term will focus on initiatives that unlock operational efficiencies and create better experiences for our associates and customers. Examples of these initiatives include:
•Making it simple for customers to choose the express pick-up option through self-progression, which provides customers the ability to complete their transaction at one of our stores in as little as 30 minutes.
•Enhancing online features to help customers feel more confident in completing key transaction steps on their own and to make it easier to go back and forth between assisted help and self-progression.
•Integrating our finance-based shopping capability into our stores and CECs so that all consumers can utilize this product, as well as adding additional third-party finance providers to the finance-based shopping platform.
While we have slowed the pace of these investments, we continue to selectively invest in initiatives that have the potential to activate new capabilities while lowering our costs, including the following:
•Leveraging technology to enhance our transportation logistics capabilities, which will enable us to consolidate loads, increase our mix of full loads and reduce the truck volume in and out of our stores.
•Upgrading our auction experience by deploying a modernized vehicle detail page that is mobile friendly and efficiently displays the most relevant information dealers need to preview our wholesale inventory, similar to how customers shop our retail inventory.
•Updating the MaxOffer product to provide a fully digital, instant offer experience to dealers.
We are also focused on ensuring we are efficient in our spend, actively taking steps to further align our expenses to our sales levels. This included reducing staffing in our stores and CECs through attrition, limiting hiring and contractor utilization in our corporate offices and better aligning marketing spend to sales. Other steps we have taken to support our business for both the short- and long-term include slowing buys in light of steep market depreciation, reducing total inventory while maintaining saleable inventory levels, raising CAF's consumer rates, slowing our planned store growth and pausing share repurchases to provide more capital flexibility.
As a result of these actions, we expect SG&A expenses in the fourth quarter of fiscal 2023 to decrease from the prior year quarter. While SG&A as a percent of gross profit can fluctuate from quarter to quarter depending on variability in gross profit, our first step on the way to strengthening our SG&A to gross profit leverage over time is to achieve a rate in the mid-70% range on an annual basis. Achieving this will require both efficiency gains in our operating model and gross profit growth.
We expect our diversified model, the scale of our operations, our investments and omni-channel strategy to provide a solid foundation for further growth. As a result, we have set the following long-term targets, which were disclosed in our Annual Report on Form 10-K for fiscal 2022:
•Sell between 2 million and 2.4 million vehicles through our combined retail and wholesale channels by fiscal 2026.
•Generate between $33 billion and $45 billion in revenue by fiscal 2026.
•Grow our nationwide share of the age 0- to 10 used vehicle market to more than 5% by the end of calendar 2025.
These ranges include our assessment of macroeconomic factors that could result in ongoing volatility in consumer demand.
In calendar 2021, we estimate we sold approximately 4.0% of the age 0- to 10-year old vehicles sold on a nationwide basis, an increase from 3.5% in calendar 2020. We estimate we sold approximately 4.9% of the age 0- to 10-year old vehicles sold in the current comparable store markets in which we operate in calendar 2021, an increase from 4.3% in 2020. Based on external data, we gained market share on a year-to-date basis through October, with some recent loss of market share, as we saw competitors lower prices and margins to move inventory. We believe these are transitory competitive responses to the current environment. We believe we are well positioned to deliver profitable market share gains in any environment. Our strategy to increase our market share includes focusing on:
•Delivering a customer-driven, omni-channel buying and selling experience that is a unique and powerful integration of our in-store and online capabilities.
•Opening stores in new markets and expanding our presence in existing markets.
•Hiring, developing and retaining an engaged and skilled workforce.
•Improving efficiency in our stores and CECs and our logistics operations to reduce waste.
•Leveraging data and advanced analytics to continuously improve the customer experience as well as our processes and systems.
•Utilizing advertising to drive customer growth, educate customers about our omni-channel platform and to differentiate and elevate our brand.
As of November 30, 2022, we had used car stores located in 108 U.S. television markets, which covered approximately 86% of the U.S. population. The format and operating models utilized in our stores are continuously evaluated and may change or evolve over time based upon market and consumer expectations. During the first nine months of fiscal 2023, we opened five stores, and during the remainder of the fiscal year we plan to open an additional five stores.
While we execute both our short- and long-term strategy, there are trends and factors that could impact our strategic approach or our results in the short and medium term. For additional information about risks and uncertainties facing our company, see “Risk Factors,” included in Part I. Item 1A of the Annual Report on Form 10-K for the fiscal year ended February 28, 2022.
CRITICAL ACCOUNTING ESTIMATES
For information on critical accounting policies, see "Critical Accounting Estimates" in the MD&A included in Item 7 of the Annual Report on Form 10-K for the fiscal year ended February 28, 2022.
RESULTS OF OPERATIONS – CARMAX SALES OPERATIONS AND OTHER NON-REPORTABLE SEGMENTS
NET SALES AND OPERATING REVENUES
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| (In millions) | 2022 | | 2021 | | Change | | 2022 | | 2021 | | Change |
| Used vehicle sales | $ | 5,204.6 | | | $ | 6,435.6 | | | (19.1) | % | | $ | 18,503.2 | | | $ | 18,697.3 | | | (1.0) | % |
| Wholesale vehicle sales | 1,152.2 | | | 1,922.3 | | | (40.1) | % | | 4,959.1 | | | 4,998.2 | | | (0.8) | % |
| Other sales and revenues: | | | | | | | | | | | |
| Extended protection plan revenues | 91.8 | | | 106.6 | | | (13.9) | % | | 318.1 | | | 353.8 | | | (10.1) | % |
| Third-party finance income/(fees), net | 1.0 | | | 1.6 | | | (38.2) | % | | 7.1 | | | (0.3) | | | 2,825.4 | % |
Advertising & subscription revenues (1) | 33.3 | | | 33.3 | | | (0.2) | % | | 101.9 | | | 67.9 | | | 50.2 | % |
| Other | 23.1 | | | 28.4 | | | (18.6) | % | | 73.1 | | | 96.8 | | | (24.4) | % |
| Total other sales and revenues | 149.2 | | | 169.9 | | | (12.2) | % | | 500.2 | | | 518.2 | | | (3.5) | % |
| Total net sales and operating revenues | $ | 6,506.0 | | | $ | 8,527.8 | | | (23.7) | % | | $ | 23,962.4 | | | $ | 24,213.7 | | | (1.0) | % |
(1) Excludes intersegment sales and operating revenues that have been eliminated in consolidation. See Note 17 for further details.
UNIT SALES
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| | 2022 | | 2021 | | Change | | 2022 | | 2021 | | Change |
| Used vehicles | 180,050 | | | 227,424 | | | (20.8) | % | | 637,939 | | | 730,020 | | | (12.6) | % |
| Wholesale vehicles | 118,757 | | | 187,630 | | | (36.7) | % | | 464,741 | | | 557,117 | | | (16.6) | % |
AVERAGE SELLING PRICES
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| | 2022 | | 2021 | | Change | | 2022 | | 2021 | | Change |
| Used vehicles | $ | 28,530 | | | $ | 27,995 | | | 1.9 | % | | $ | 28,692 | | | $ | 25,380 | | | 13.0 | % |
| Wholesale vehicles | $ | 9,294 | | | $ | 9,890 | | | (6.0) | % | | $ | 10,280 | | | $ | 8,634 | | | 19.1 | % |
COMPARABLE STORE USED VEHICLE SALES CHANGES
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 (1) | | Nine Months Ended November 30 (1) |
| | 2022 | | 2021 | | 2022 | | 2021 |
| Used vehicle units | (22.4) | % | | 15.8 | % | | (14.3) | % | | 32.5 | % |
| Used vehicle revenues | (21.0) | % | | 51.4 | % | | (3.2) | % | | 63.4 | % |
(1) Stores are added to the comparable store base beginning in their fourteenth full month of operation. We do not remove renovated stores from our comparable store base. Comparable store calculations include results for a set of stores that were included in our comparable store base in both the current and corresponding prior year periods.
VEHICLE SALES CHANGES
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| | 2022 | | 2021 | | 2022 | | 2021 |
| Used vehicle units | (20.8) | % | | 16.9 | % | | (12.6) | % | | 33.5 | % |
| Used vehicle revenues | (19.1) | % | | 52.9 | % | | (1.0) | % | | 64.2 | % |
| | | | | | | |
| Wholesale vehicle units | (36.7) | % | | 48.5 | % | | (16.6) | % | | 72.7 | % |
| Wholesale vehicle revenues | (40.1) | % | | 132.1 | % | | (0.8) | % | | 151.1 | % |
USED VEHICLE FINANCING PENETRATION BY CHANNEL (BEFORE THE IMPACT OF 3-DAY PAYOFFS)
| | | | | | | | | | | | | | | | | | | | | | | |
| Three Months Ended November 30 (1) | | Nine Months Ended November 30 (1) |
| 2022 | | 2021 | | 2022 | | 2021 |
CAF (2) | 47.3 | % | | 46.1 | % | | 44.9 | % | | 46.6 | % |
Tier 2 (3) | 20.5 | % | | 22.2 | % | | 22.6 | % | | 22.2 | % |
Tier 3 (4) | 6.1 | % | | 6.5 | % | | 6.4 | % | | 8.0 | % |
Other (5) | 26.1 | % | | 25.2 | % | | 26.1 | % | | 23.2 | % |
| Total | 100.0 | % | | 100.0 | % | | 100.0 | % | | 100.0 | % |
(1) Calculated as used vehicle units financed for respective channel as a percentage of total used units sold.
(2) Includes CAF’s Tier 2 and Tier 3 loan originations, which represent approximately 1% of total used units sold.
(3) Third-party finance providers who generally pay us a fee or to whom no fee is paid.
(4) Third-party finance providers to whom we pay a fee.
(5) Represents customers arranging their own financing and customers that do not require financing.
CHANGE IN USED CAR STORE BASE
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| | 2022 | | 2021 | | 2022 | | 2021 |
| Used car stores, beginning of period | 234 | | | 225 | | | 230 | | | 220 | |
| Store openings | 1 | | | 1 | | | 5 | | | 6 | |
| Used car stores, end of period | 235 | | | 226 | | | 235 | | | 226 | |
During the first nine months of fiscal 2023, we opened five stores, including our entry into the New York metro market (Edison, NJ; Stockton, CA; Wayne, NJ; East Meadow, NY; and Oceanside, CA).
Used Vehicle Sales. The 19.1% decrease in used vehicle revenues in the third quarter of fiscal 2023 was primarily driven by a 20.8% decrease in used unit sales, partially offset by a 1.9% increase in average retail selling price. The decrease in used units included a 22.4% decrease in comparable store used unit sales. For the first nine months of fiscal 2023, used vehicle revenues decreased 1.0%, driven by a 12.6% decrease in used unit sales, partially offset by a 13.0% increase in average selling price. The decrease in used units included a 14.3% decrease in comparable store used unit sales. Online retail sales, as defined previously, accounted for 12% and 11% of used unit sales for the third quarter and first nine months of fiscal 2023, respectively, compared with 9% for both the third quarter and first nine months of fiscal 2022.
During the third quarter and first nine months of fiscal 2023, we believe a number of macroeconomic factors impacted our used unit sales performance, including challenges to vehicle affordability that stem from broad inflation, rising interest rates and low consumer confidence. We believe our performance was also impacted by transitory competitive responses to the current environment as we saw competitors lower prices and margins to move inventory. Comparable store used unit sales declined sequentially during the quarter and December results were relatively consistent with the third quarter.
The increase in average retail selling price in both the third quarter and first nine months of fiscal 2023 reflected higher vehicle acquisition costs. This was partially offset by shifts in the mix of our sales by vehicle age during the third quarter. We expect average retail selling price to decrease in the fourth quarter of fiscal 2023.
Wholesale Vehicle Sales. Vehicles sold at our wholesale auctions are, on average, approximately 10 years old with more than 100,000 miles and are primarily comprised of vehicles purchased through our appraisal process that do not meet our retail standards. Our wholesale auction prices usually reflect trends in the general wholesale market for the types of vehicles we sell, although they can also be affected by changes in vehicle mix or the average age, mileage or condition of the vehicles being sold. During fiscal 2021, our wholesale auctions were moved to an online format and continue to operate completely online.
The 40.1% decrease in wholesale vehicle revenues in the third quarter of fiscal 2023 was primarily due to a 36.7% decrease in unit sales and a 6.0% decrease in average selling price. For the first nine months of fiscal 2023, wholesale vehicle revenues decreased 0.8%, driven by a 16.6% decrease in unit sales, partially offset by a 19.1% increase in average selling price. Wholesale volume was negatively impacted by our decision to shift some units from wholesale to retail to meet consumer demand for lower priced vehicles. Wholesale performance was also negatively impacted by rapidly changing market conditions, including depreciation of approximately $2,000 during the third quarter, which was incremental to depreciation of approximately $2,500 during the second quarter.
The decrease in average selling price during the third quarter of fiscal 2023 represents steep depreciation resulting from rapidly changing market conditions. The net increase in average selling price in the first nine months of fiscal 2023 was primarily due to increased acquisition costs resulting from strong industry valuations in the beginning of fiscal 2023, which continued from the prior fiscal year, offsetting recent depreciation.
Other Sales and Revenues. Other sales and revenues include revenue from the sale of ESPs and GAP (collectively reported in EPP revenues, net of a reserve for estimated contract cancellations), net third-party finance income/(fees), advertising and subscription revenues earned by our Edmunds business, and other revenues, which are predominantly comprised of service department sales. The fees we pay to the Tier 3 providers are reflected as an offset to finance fee revenues received from the Tier 2 providers. The mix of our retail vehicles financed by CAF, Tier 2 and Tier 3 providers, or customers that arrange their own financing, may vary from quarter to quarter depending on several factors, including the credit quality of applicants, changes in providers’ credit decisioning and external market conditions. Changes in originations by one tier of credit providers may also affect the originations made by providers in other tiers.
Other sales and revenues decreased 12.2% in the third quarter of fiscal 2023, reflecting the decline in EPP revenues. EPP revenues decreased 13.9%, largely reflecting the combined effects of the decline in our retail unit sales, increased margins, a favorable year-over-year return reserve adjustment and stable penetration.
Other sales and revenues decreased 3.5% in the first nine months of fiscal 2023, reflecting the decrease in EPP revenue and a decline in new vehicle sales, partially offset by the addition of Edmunds' revenue and an improvement in net third-party finance income. EPP revenues decreased 10.1%, reflecting the combined effects of the decline in our retail unit volume, stable penetration and increased margins. The decline in new car sales was driven by the divestiture of our remaining new car franchise in the third quarter of fiscal 2022. Net third-party finance income improved as a result of lower Tier 3 originations.
Seasonality. Historically, our business has been seasonal. Our stores typically experience their strongest traffic and sales in the spring and summer, with an increase in traffic and sales in February and March, coinciding with federal income tax refund season. Sales are typically slowest in the fall.
GROSS PROFIT
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 (1) | | Nine Months Ended November 30 (1) |
| (In millions) | 2022 | | 2021 | | Change | | 2022 | | 2021 | | Change |
| Used vehicle gross profit | $ | 402.8 | | | $ | 508.4 | | | (20.8) | % | | $ | 1,461.3 | | | $ | 1,611.9 | | | (9.3) | % |
| Wholesale vehicle gross profit | 114.7 | | | 212.2 | | | (46.0) | % | | 447.0 | | | 587.0 | | | (23.9) | % |
| Other gross profit | 59.2 | | | 116.0 | | | (49.0) | % | | 280.9 | | | 377.7 | | | (25.6) | % |
| Total | $ | 576.7 | | | $ | 836.6 | | | (31.1) | % | | $ | 2,189.2 | | | $ | 2,576.6 | | | (15.0) | % |
(1) Amounts are net of intercompany eliminations.
GROSS PROFIT PER UNIT
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 (1) | | Nine Months Ended November 30 (1) |
| | 2022 | | 2021 | | 2022 | | 2021 |
| | $ per unit(2) | | %(3) | | $ per unit(2) | | %(3) | | $ per unit(2) | | %(3) | | $ per unit(2) | | %(3) |
| Used vehicle gross profit | $ | 2,237 | | | 7.7 | | | $ | 2,235 | | | 7.9 | | | $ | 2,291 | | | 7.9 | | | $ | 2,208 | | | 8.6 | |
| Wholesale vehicle gross profit | $ | 966 | | | 10.0 | | | $ | 1,131 | | | 11.0 | | | $ | 962 | | | 9.0 | | | $ | 1,054 | | | 11.7 | |
| Other gross profit | $ | 329 | | | 39.7 | | | $ | 510 | | | 68.3 | | | $ | 440 | | | 56.2 | | | $ | 517 | | | 72.9 | |
(1) Amounts are net of intercompany eliminations. Those eliminations had the effect of increasing used vehicle gross profit per unit and wholesale vehicle gross profit per unit and decreasing other gross profit per unit by immaterial amounts.
(2) Calculated as category gross profit divided by its respective units sold, except the other category, which is divided by total used units sold.
(3) Calculated as a percentage of its respective sales or revenue.
Used Vehicle Gross Profit. We target a dollar range of gross profit per used unit sold. The gross profit dollar target for an individual vehicle is based on a variety of factors, including its probability of sale and its mileage relative to its age; however, it is not primarily based on the vehicle’s selling price. Our ability to quickly adjust appraisal offers to be consistent with the broader market trade-in trends and the pace of our inventory turns reduce our exposure to the inherent continual fluctuation in used vehicle values and contribute to our ability to manage gross profit dollars per unit. Gross profit per used unit is consistent across our omni-channel platform.
We systematically adjust individual vehicle prices based on proprietary pricing algorithms in order to appropriately balance sales trends, inventory turns and gross profit achievement. Other factors that may influence gross profit include the wholesale and retail vehicle pricing environments, vehicle reconditioning and logistics costs, and the percentage of vehicles sourced directly from consumers through our appraisal process. Vehicles purchased directly from consumers generally have a lower cost per unit compared with vehicles purchased at auction or through other channels, which may generate more gross profit per unit. In any given period, our gross profit may also be impacted by the age mix of vehicles sold, as older vehicles are generally more profitable. We monitor macroeconomic factors and pricing elasticity and adjust our pricing accordingly to optimize unit sales and profitability while also maintaining a competitively priced inventory.
Used vehicle gross profit decreased 20.8% in the third quarter of fiscal 2023, driven by the 20.8% decrease in total used unit sales, while used vehicle gross profit per unit remained consistent with the prior year quarter. Used vehicle gross profit decreased 9.3% in the first nine months of fiscal 2023, driven by the 12.6% decrease in total used unit sales, partially offset by the $83 increase in used vehicle gross profit per unit. We continue to focus on striking the right balance between covering cost increases, maintaining margin and passing along efficiencies to consumers to support vehicle affordability.
Wholesale Vehicle Gross Profit. Our wholesale gross profit per unit reflects the demand for older, higher mileage vehicles, which are the mainstay of our auctions, as well as strong dealer attendance and resulting high dealer-to-car ratios at our auctions. The frequency of our auctions, which are generally held weekly or bi-weekly, minimizes the depreciation risk on these vehicles. Our ability to adjust appraisal offers in response to the wholesale pricing environment is a key factor that influences wholesale gross profit.
Wholesale vehicle gross profit decreased 46.0% in the third quarter of fiscal 2023, primarily driven by the 36.7% decrease in wholesale unit sales as well as the $165 decrease in wholesale vehicle gross profit per unit. Wholesale vehicle gross profit decreased 23.9% in the first nine months of fiscal 2023, primarily driven by the 16.6% decrease in wholesale unit sales as well as the $92 decrease in wholesale vehicle gross profit per unit. Our decision to source a higher mix of older vehicles for retail sale also impacted wholesale vehicle gross profit per unit. When those vehicles cannot be reconditioned to our standards for consumer sales, we shift them to wholesale, which often sell at lower margins. Wholesale gross profit per unit was also impacted by steep market depreciation, which began in the prior quarter and continued through the third quarter.
Other Gross Profit. Other gross profit includes profits related to EPP revenues, net third-party finance income/(fees), advertising and subscription profits earned by our Edmunds business, and other revenues. Other revenues are predominantly comprised of service department operations, including used vehicle reconditioning. We have no cost of sales related to EPP revenues or net third-party finance income/(fees), as these represent revenues paid to us by certain third-party providers. Third-party finance income is reported net of the fees we pay to third-party Tier 3 finance providers. Accordingly, changes in the relative mix of the components of other gross profit can affect the composition and amount of other gross profit.
Other gross profit decreased 49.0% in the third quarter of fiscal 2023, primarily driven by a $37.3 million decline in service department margins as well as a decrease in EPP revenues, as discussed above. The decline in service department profits was driven by deleverage resulting from lower retail unit sales as well as our decision to maintain technician staffing.
Other gross profit decreased 25.6% in the first nine months of fiscal 2023, primarily driven by an $80.7 million decline in service department margins as well as a decrease in EPP revenues, as discussed above, partially offset by the inclusion of nine months of Edmunds' margin in fiscal 2023 compared with six months of Edmunds' margin in fiscal 2022. The decline in service department profits was driven by deleverage resulting from lower retail unit sales, inflationary pressure and our decision to maintain technician staffing.
SG&A Expenses
COMPONENTS OF SG&A EXPENSES AS A PERCENTAGE OF TOTAL SG&A EXPENSES
Three Months Ended November 30, 2022 Nine Months Ended November 30, 2022
COMPONENTS OF SG&A EXPENSES COMPARED WITH PRIOR PERIOD (1) | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| (In millions except per unit data) | 2022 | | 2021 | | Change | | 2022 | | 2021 | | Change |
| Compensation and benefits: | | | | | | | | | | | |
| Compensation and benefits, excluding share-based compensation expense | $ | 306.2 | | | $ | 308.3 | | | (0.7) | % | | $ | 985.2 | | | $ | 891.8 | | | 10.5 | % |
| Share-based compensation expense | 17.2 | | | 33.3 | | | (48.4) | % | | 64.0 | | | 100.5 | | | (36.3) | % |
Total compensation and benefits (2) | $ | 323.4 | | | $ | 341.6 | | | (5.3) | % | | $ | 1,049.2 | | | $ | 992.3 | | | 5.7 | % |
| Occupancy costs | 70.1 | | | 59.3 | | | 18.2 | % | | 204.8 | | | 165.0 | | | 24.2 | % |
| Advertising expense | 58.7 | | | 76.1 | | | (22.9) | % | | 230.5 | | | 233.6 | | | (1.3) | % |
Other overhead costs (3) | 139.5 | | | 98.9 | | | 41.0 | % | | 430.0 | | | 313.4 | | | 37.2 | % |
| Total SG&A expenses | $ | 591.7 | | | $ | 575.9 | | | 2.7 | % | | $ | 1,914.5 | | | $ | 1,704.3 | | | 12.3 | % |
| SG&A as % of gross profit | 102.6 | % | | 68.8 | % | | 33.8 | % | | 87.5 | % | | 66.1 | % | | 21.4 | % |
(1) Amounts are net of intercompany eliminations.
(2) Excludes compensation and benefits related to reconditioning and vehicle repair service, which are included in cost of sales. See Note 11 for details of share-based compensation expense by grant type.
(3) Includes IT expenses, non-CAF bad debt, preopening and relocation costs, insurance, charitable contributions, travel and other administrative expenses.
SG&A expenses increased 2.7% in the third quarter of fiscal 2023. Factors contributing to the net increase include the following:
•$40.6 million increase in other overhead costs, which included a $22.6 million one-time benefit in the prior year quarter related to the receipt of settlement proceeds in a class action lawsuit. The remaining increase was driven by investments to advance our technology platforms and support our strategic and growth initiatives.
•$10.8 million increase in store occupancy costs driven by the 4.4% increase in our store base since the beginning of last year's third quarter as well as other growth- and capacity-related costs.
•$17.4 million decrease in advertising expense driven by our deliberate efforts to reduce marketing spend to align with sales.
•$16.1 million decrease in stock-based compensation expense, primarily related to cash-settled restricted stock units, as the expense associated with these units was primarily driven by the change in the company's stock price during the relevant periods.
Adjusting for the settlement proceeds of $22.6 million received in the prior year quarter, as discussed above, SG&A expenses would have declined 1.1% versus the prior year quarter. Similarly, we expect SG&A expenses in the fourth quarter of fiscal 2023 to decrease from the prior year quarter.
SG&A expenses increased 12.3% in the first nine months of fiscal 2023. Factors contributing to the net increase include the following:
•$116.6 million increase in other overhead costs, driven by investments to advance our technology platforms and support our strategic and growth initiatives. The increase also included a $22.6 million one-time benefit in the prior year related to the receipt of settlement proceeds in a class action lawsuit. Other overhead costs were also negatively impacted by a year-over-year increase in non-CAF uncollectible receivables. This increase reflects several factors including, but not limited to, ongoing DMV processing delays, costs associated with our Love Your Car Guarantee program and field execution opportunities stemming from the dynamic operating environment.
•$93.4 million increase in compensation and benefits expense, excluding share-based compensation expense, driven by increased staffing and wage pressures as well as the inclusion of Edmunds for nine months in the current year compared to six months in the prior year, partially offset by a $14.4 million decrease in bonus compensation expense.
•$39.8 million increase in store occupancy costs driven by the 6.8% increase in our store base since the beginning of the last fiscal year as well as other growth- and capacity-related costs.
•$36.5 million decrease in stock-based compensation expense, primarily related to cash-settled restricted stock units, as the expense associated with these units was primarily driven by the change in the company's stock price during the relevant periods.
Interest Expense. Interest expense includes the interest related to short- and long-term debt, financing obligations and finance lease obligations. It does not include interest on the non-recourse notes payable, which is reflected within CAF income.
Interest expense increased to $30.2 million and $91.7 million in the third quarter and first nine months of fiscal 2023, respectively, compared with $24.3 million and $67.2 million in the third quarter and first nine months of fiscal 2022, respectively. The increase for the quarter primarily reflected higher interest rates. The increase for the nine month period primarily reflected higher outstanding debt balances in the current fiscal year, including the $700 million term loan issued in October 2021, as well as higher interest rates.
Other Income. Other income was $0.4 million and $2.3 million in the third quarter and first nine months of fiscal 2023, respectively, compared with $8.1 million and $35.5 million in the third quarter and first nine months of fiscal 2022, respectively. The decrease for the quarter was primarily due to a gain recorded from the sale of our last new car franchise during the prior year quarter. The decrease for the nine month period was primarily due to net gains on an equity investment recorded during fiscal 2022.
Income Taxes. The effective income tax rate was 24.8% in the third quarter of fiscal 2023 and 25.0% in the first nine months of fiscal 2023 versus 24.3% in the third quarter of fiscal 2022 and 23.2% in the first nine months of fiscal 2022. The increase in the effective income tax rate for the nine month period was primarily driven by the difference in excess tax benefit related to settlements of share-based awards.
RESULTS OF OPERATIONS – CARMAX AUTO FINANCE
CAF income primarily reflects interest and fee income generated by CAF’s portfolio of auto loans receivable less the interest expense associated with the debt issued to fund these receivables, a provision for estimated loan losses and direct CAF expenses. Total interest margin reflects the spread between interest and fees charged to consumers and our funding costs. Changes in the interest margin on new originations affect CAF income over time. Increases in interest rates, which affect CAF’s funding costs, or other competitive pressures on consumer rates, could result in compression in the interest margin on new originations. Changes in the allowance for loan losses as a percentage of ending managed receivables reflect the effect of changes in loss and delinquency experience and economic factors on our outlook for net losses expected to occur over the remaining contractual life of the loans receivable.
CAF’s managed portfolio is composed primarily of loans originated over the past several years. Trends in receivable growth and interest margins primarily reflect the cumulative effect of changes in the business over a multi-year period. Historically, we have sought to originate loans in our core portfolio, which excludes Tier 2 and Tier 3 origination, with an underlying risk profile that we believe will, in the aggregate result in cumulative net losses in the 2% to 2.5% range (excluding CECL-required recovery costs) over the life of the loans. Actual loss performance of the loans may fall outside of this range based on various factors, including intentional changes in the risk profile of originations, economic conditions (including the effects of COVID-19) and wholesale recovery rates. Current period originations reflect current trends in both our retail sales and the CAF business, including the volume of loans originated, current interest rates charged to consumers, loan terms and average credit scores. Loans originated in a given fiscal period impact CAF income over time, as we recognize income over the life of the underlying auto loan.
CAF also originates a small portion of auto loans to customers who typically would be financed by our Tier 3 finance providers, in order to better understand the performance of these loans, mitigate risk and add incremental profits. Historically, CAF targeted originating approximately 5% of the total Tier 3 loan volume. During the first quarter of fiscal 2022, we increased our Tier 3 loan volume beyond our target of 5% of total Tier 3 loan volume to 10% by the end of the first quarter of fiscal 2022. Additionally, in the second quarter of fiscal 2022, CAF began to originate loans in the Tier 2 space on a test basis. Any future adjustments in Tier 2 and Tier 3 will consider the broader lending environment along with the long-term sustainability of the change. These loans have higher loss and delinquency rates than the remainder of the CAF portfolio, as well as higher contract rates.
CAF income does not include any allocation of indirect costs. Although CAF benefits from certain indirect overhead expenditures, we have not allocated indirect costs to CAF to avoid making subjective allocation decisions. Examples of indirect costs not allocated to CAF include retail store expenses and corporate expenses.
See Note 4 for additional information on CAF income and Note 5 for information on auto loans receivable, including credit quality.
SELECTED CAF FINANCIAL INFORMATION
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| (In millions) | 2022 | | % (1) | | 2021 | | % (1) | | 2022 | | % (1) | | 2021 | | % (1) |
| Interest margin: | | | | | | | | | | | | | | | |
| Interest and fee income | $ | 365.4 | | | 8.8 | | | $ | 330.0 | | | 8.6 | | | $ | 1,069.3 | | | 8.8 | | | $ | 964.4 | | | 8.7 | |
| Interest expense | (88.8) | | | (2.1) | | | (53.6) | | | (1.4) | | | (200.1) | | | (1.6) | | | (180.0) | | | (1.6) | |
| Total interest margin | $ | 276.6 | | | 6.7 | | | $ | 276.4 | | | 7.2 | | | $ | 869.2 | | | 7.2 | | | $ | 784.4 | | | 7.1 | |
| Provision for loan losses | $ | (85.7) | | | (2.1) | | | $ | (76.2) | | | (2.0) | | | $ | (219.0) | | | (1.8) | | | $ | (87.3) | | | (0.8) | |
| CarMax Auto Finance income | $ | 152.2 | | | 3.7 | | | $ | 166.0 | | | 4.3 | | | $ | 539.5 | | | 4.4 | | | $ | 607.7 | | | 5.5 | |
(1) Annualized percentage of total average managed receivables.
CAF ORIGINATION INFORMATION (AFTER THE IMPACT OF 3-DAY PAYOFFS)
| | | | | | | | | | | | | | | | | | | | | | | |
| | Three Months Ended November 30 | | Nine Months Ended November 30 |
| | 2022 | | 2021 | | 2022 | | 2021 |
Net loans originated (in millions) | $ | 2,147.2 | | | $ | 2,420.3 | | | $ | 6,928.0 | | | $ | 7,276.1 | |
| Vehicle units financed | 79,967 | | | 95,997 | | | 264,073 | | | 314,031 | |
Net penetration rate (1) | 44.4 | % | | 42.2 | % | | 41.4 | % | | 43.0 | % |
| Weighted average contract rate | 9.8 | % | | 8.3 | % | | 9.4 | % | | 8.6 | % |
Weighted average credit score (2) | 712 | | | 706 | | | 708 | | | 702 | |
Weighted average loan-to-value (LTV) (3) | 88.9 | % | | 88.0 | % | | 88.1 | % | | 89.2 | % |
Weighted average term (in months) | 66.1 | | | 66.0 | | | 66.3 | | | 66.5 | |
(1) Vehicle units financed as a percentage of total used units sold.
(2) The credit scores represent FICO® scores and reflect only receivables with obligors that have a FICO® score at the time of application. The FICO® score with respect to any receivable with co-obligors is calculated as the average of each obligor’s FICO® score at the time of application. FICO® scores are not a significant factor in our primary scoring model, which relies on information from credit bureaus and other application information as discussed in Note 5. FICO® is a federally registered servicemark of Fair Isaac Corporation.
(3) LTV represents the ratio of the amount financed to the total collateral value, which is measured as the vehicle selling price plus applicable taxes, title and fees.
LOAN PERFORMANCE INFORMATION
| | | | | | | | | | | | | | | | | | | | | | | |
| | As of and for the Three Months Ended November 30 | | As of and for the Nine Months Ended November 30 |
| (In millions) | 2022 | | 2021 | | 2022 | | 2021 |
| Total ending managed receivables | $ | 16,652.7 | | | $ | 15,524.0 | | | $ | 16,652.7 | | | $ | 15,524.0 | |
| Total average managed receivables | $ | 16,540.2 | | | $ | 15,288.8 | | | $ | 16,177.8 | | | $ | 14,706.9 | |
| Allowance for loan losses | $ | 491.0 | | | $ | 426.5 | | | $ | 491.0 | | | $ | 426.5 | |
| Allowance for loan losses as a percentage of ending managed receivables | 2.95 | % | | 2.75 | % | | 2.95 | % | | 2.75 | % |
| Net credit losses on managed receivables | $ | 72.2 | | | $ | 47.8 | | | $ | 161.0 | | | $ | 71.9 | |
| Annualized net credit losses as a percentage of total average managed receivables | 1.74 | % | | 1.25 | % | | 1.33 | % | | 0.65 | % |
| Past due accounts as a percentage of ending managed receivables | 4.99 | % | | 3.83 | % | | 4.99 | % | | 3.83 | % |
Average recovery rate (1) | 61.3 | % | | 71.9 | % | | 66.7 | % | | 67.3 | % |
(1) The average recovery rate represents the average percentage of the outstanding principal balance we receive when a vehicle is repossessed and liquidated, generally at our wholesale auctions. While in any individual period conditions may vary, over the past 10 fiscal years, the annual recovery rate has ranged from a low of 46% to a high of 71%, and it is primarily affected by the wholesale market environment.
•CAF Income (Decrease of $13.8 million, or 8.3%, and decrease of $68.2 million, or 11.2%, in the third quarter and first nine months of fiscal 2023, respectively)
◦The decrease in CAF income for the third quarter of fiscal 2023 reflects a decrease in the net interest margin percentage and an increase in the provision for loan losses, as discussed below, partially offset by an increase in average managed receivables.
◦The decrease in CAF income for the first nine months of fiscal 2023 reflects a year-over-year swing in the provision for loan losses, as discussed below, partially offset by an increase in average managed receivables.
•Provision for Loan Losses
◦The provision for loan losses resulted in expense of $85.7 million and $219.0 million in the third quarter and first nine months of fiscal 2023, respectively, compared with expense of $76.2 million and $87.3 million in the third quarter and first nine months of fiscal 2022, respectively.
◦The increase in the provision for both the third quarter and nine month period was primarily the result of the previously disclosed expansion of Tier 2 and Tier 3 originations within CAF’s portfolio. The nine month period was also impacted by a reduced provision coming out of the pandemic in the prior year period.
◦The allowance for loan losses as a percentage of ending managed receivables was 2.95% as of November 30, 2022, compared with 2.75% as of November 30, 2021 and 2.77% as of February 28, 2022. The increase in the allowance percentage from February primarily reflected the effect of the previously disclosed expansion of Tier 2 and Tier 3 originations within CAF’s portfolio.
•Total Interest Margin (Decreased to 6.7% and increased to 7.2% in the third quarter and first nine months of fiscal 2023, respectively, from 7.2% and 7.1% in the third quarter and first nine months of fiscal 2022)
◦The decrease in the total interest margin percentage for the third quarter was primarily driven by higher funding costs, partially offset by higher customer rates.
◦The increase in the total interest margin percentage for the first nine months of fiscal 2023 was primarily the result of higher interest and fees from consumers, partially offset by higher funding costs, as well as a $20.4 million benefit related to swaps not designated as hedges for accounting purposes.
•Loan Origination and Performance
◦The decrease in net loan originations in the third quarter of fiscal 2023 resulted from a decrease in used unit sales, partially offset by an increase in the average amount financed and an increase in the net penetration rate.
◦The decrease in net loan originations in the first nine months of fiscal 2023 resulted from a decrease in used unit sales and the net penetration rate, partially offset by an increase in the average amount financed.
◦CAF net penetration increased in the third quarter and declined in the first nine months of fiscal 2023 compared to the prior year periods, largely reflecting shifts in the mix of customers utilizing outside financing.
◦The weighted average contract rate increased to 9.8% in the third quarter of fiscal 2023, compared with 8.3% in the prior year quarter. The weighted average contract rate increased to 9.4% in the first nine months of fiscal 2023, compared with 8.6% in the prior year period. The increases for both periods were primarily due to higher rates charged to customers in response to the current interest rate environment.
◦The year-over-year increase in past due accounts as a percentage of ending managed receivables in the third quarter and first nine months of fiscal 2023 reflects an increase in delinquencies as well as our previously disclosed expansion of Tier 2 and Tier 3 originations within CAF's portfolio. The increase in delinquencies primarily reflects customer hardship in the current economic environment.
PLANNED FUTURE ACTIVITIES
We anticipate opening a total of ten stores in fiscal 2023. During fiscal 2023, we entered the New York City metro market by opening three stores. We anticipate opening two more stores in this market in the next fiscal year. For fiscal 2024, we have slowed our planned store growth to five stores while maintaining the ability to open more locations if market conditions change. We currently estimate capital expenditures will total approximately $450 million in fiscal 2023, an increase from $308.5 million in fiscal 2022. The increase in planned capital spending in fiscal 2023 largely reflects long-term growth capacity initiatives for our auction, sales and production facilities in addition to continued investments in technology. We expect approximately 25% of our capital expenditures in fiscal 2023 will be focused on investments in technology.
FINANCIAL CONDITION
Liquidity and Capital Resources
Our primary ongoing cash requirements are to fund our existing operations, store expansion and improvement, CAF and strategic growth initiatives. Since fiscal 2013, we have also elected to use cash for our share repurchase program. Our primary ongoing sources of liquidity include funds provided by operations, proceeds from non-recourse funding vehicles and borrowings under our revolving credit facility or through other financing sources.
Our current capital allocation strategy is to focus on our core business. Given our recent performance and continued market uncertainties, we are taking a conservative approach to our capital structure in order to maintain the flexibility that allows us to efficiently access the capital markets for both CAF and CarMax as a whole. We have taken steps to better align our expenses to sales, as well as paused our share repurchases and slowed the rate of our store growth and capital expenditures. We believe we have the appropriate liquidity, access to capital and financial strength to support our operations and continue investing in our strategic initiatives for the foreseeable future.
We currently target an adjusted debt-to-total capital ratio in a range of 35% to 45%. Our adjusted debt to capital ratio, net of cash on hand, was below our targeted range for the third quarter of fiscal 2023. In calculating this ratio, we utilize total debt excluding non-recourse notes payable, finance lease liabilities, a multiple of eight times rent expense and total shareholders’ equity. Generally, we expect to use our revolving credit facility and other financing sources, together with stock repurchases, to
maintain this targeted ratio; however, in any period, we may be outside this range due to seasonal, market, strategic or other factors.
Operating Activities. During the first nine months of fiscal 2023, net cash provided by operating activities totaled $1.66 billion, compared with cash used in operating activities of $2.08 billion in the prior year period. Our operating cash flows are significantly impacted by changes in auto loans receivable, which increased $1.17 billion in the current year period compared with $1.76 billion in the prior year period.
The majority of the changes in auto loans receivable are accompanied by changes in non-recourse notes payable, which are issued to fund auto loans originated by CAF. Net issuances of non-recourse notes payable were $770.6 million in the current year period compared with $1.65 billion in the prior year period and are separately reflected as cash from financing activities. Due to the presentation differences between auto loans receivable and non-recourse notes payable on the consolidated statements of cash flows, fluctuations in these amounts can have a significant impact on our operating and financing cash flows without affecting our overall liquidity, working capital or cash flows.
As of November 30, 2022, total inventory was $3.41 billion, representing a decrease of $1.71 billion compared with the balance as of the start of the fiscal year. The decrease was primarily due to a decrease in vehicle units reflecting lower sales volume and the seasonal pattern in inventory levels.
The change in net cash provided by (used in) operating activities for the first nine months of the current fiscal year compared with the prior year period reflected the changes in inventory and auto loans receivable, as discussed above, as well as the net impact of volume and timing-related changes in accounts receivable and accounts payable, partially offset by a decrease in net earnings when excluding non-cash expenses, which include depreciation and amortization, share-based compensation expense and the provisions for loan losses and cancellation reserves.
Investing Activities. During the first nine months of fiscal 2023, net cash used in investing activities totaled $318.7 million compared with $432.7 million in fiscal 2022. Capital expenditures were $319.5 million in the current year period versus $226.9 million in the prior year period. Capital expenditures primarily included store construction costs as well as investments in growth capacity initiatives and technology. We maintain a multi-year pipeline of sites to support our store growth, so portions of capital spending in one year may relate to stores that we open in subsequent fiscal years.
As of November 30, 2022, 153 of our 235 used car stores were located on owned sites and 82 were located on leased sites, including 26 land-only leases and 56 land and building leases.
Financing Activities. During the first nine months of fiscal 2023, net cash used in financing activities totaled $827.0 million compared with net cash provided by financing activities of $2.51 billion in the prior year period. Included in these amounts were net issuances of non-recourse notes payable of $770.6 million compared with $1.65 billion in the prior year period. Non-recourse notes payable are typically used to fund changes in auto loans receivable (see “Operating Activities”).
During the first nine months of fiscal 2023, cash used in financing activities was impacted by stock repurchases of $333.8 million as well as net payments on our long-term debt of $1.25 billion. During the first nine months of fiscal 2022, cash provided by financing activities was impacted by stock repurchases of $476.0 million as well as net proceeds on our long-term debt of $1.28 billion.
TOTAL DEBT AND CASH AND CASH EQUIVALENTS
| | | | | | | | | | | |
| (In thousands) | | As of November 30 | As of February 28 |
Debt Description (1) | Maturity Date | 2022 | 2022 |
Revolving credit facility (2) | June 2024 | $ | — | | $ | 1,243,500 | |
Term loan (2) | June 2024 | 300,000 | | 300,000 | |
Term loan (2) | October 2026 | 699,458 | | 699,352 | |
| 3.86% Senior notes | April 2023 | 100,000 | | 100,000 | |
| 4.17% Senior notes | April 2026 | 200,000 | | 200,000 | |
| 4.27% Senior notes | April 2028 | 200,000 | | 200,000 | |
| Financing obligations | Various dates through February 2059 | 517,349 | | 524,766 | |
| Non-recourse notes payable | Various dates through April 2029 | 16,237,419 | | 15,466,799 | |
Total debt (3) | | $ | 18,254,226 | | $ | 18,734,417 | |
| Cash and cash equivalents | | $ | 688,618 | | $ | 102,716 | |
(1) Interest is payable monthly, with the exception of our senior notes, which are payable semi-annually.
(2) Borrowings accrue interest at variable rates based on the Eurodollar rate (LIBOR), or successor benchmark rate, the federal funds rate, or the prime rate, depending on the type of borrowing.
(3) Total debt excludes unamortized debt issuance costs. See Note 10 for additional information.
Borrowings under our $2.00 billion unsecured revolving credit facility are available for working capital and general corporate purposes, and the unused portion is fully available to us. The credit facility, term loans and senior note agreements contain representations and warranties, conditions and covenants. If these requirements are not met, all amounts outstanding or otherwise owed could become due and payable immediately and other limitations could be placed on our ability to use any available borrowing capacity. As of November 30, 2022, we were in compliance with these financial covenants.
See Note 10 for additional information on our revolving credit facility, term loans, senior notes and financing obligations.
CAF auto loans receivable are primarily funded through our warehouse facilities and asset-backed term funding transactions. These non-recourse funding vehicles are structured to legally isolate the auto loans receivable, and we would not expect to be able to access the assets of our non-recourse funding vehicles, even in insolvency, receivership or conservatorship proceedings. Similarly, the investors in the non-recourse notes payable have no recourse to our assets beyond the related receivables, the amounts on deposit in reserve accounts and the restricted cash from collections on auto loans receivable. We do, however, continue to have the rights associated with the interest we retain in these non-recourse funding vehicles.
As of November 30, 2022, $12.82 billion and $3.42 billion of non-recourse notes payable were outstanding related to asset-backed term funding transactions and our warehouse facilities, respectively. During the first nine months of fiscal 2023, we funded a total of $4.54 billion in asset-backed term funding transactions. As of November 30, 2022, we had $1.98 billion of unused capacity in our warehouse facilities.
We have periodically increased our warehouse facility limit over time, as our store base, sales and CAF loan originations have grown. See Note 10 for additional information on the warehouse facilities.
We generally repurchase the receivables funded through our warehouse facilities when we enter into an asset-backed term funding transaction. If our counterparties were to refuse to permit these repurchases it could impact our ability to execute on our funding program. Additionally, the agreements related to the warehouse facilities include various representations and warranties, covenants and performance triggers. If these requirements are not met, we could be unable to continue to fund receivables through the warehouse facilities. In addition, warehouse facility investors could charge us a higher rate of interest and could have us replaced as servicer. Further, we could be required to deposit collections on the related receivables with the warehouse facility agents on a daily basis and deliver executed lockbox agreements to the warehouse facility agents.
The timing and amount of stock repurchases are determined based on stock price, market conditions, legal requirements and other factors. Shares repurchased are deemed authorized but unissued shares of common stock. In April 2022, our board of directors increased our share repurchase authorization by $2 billion. As of November 30, 2022, a total of $4 billion of board authorizations for repurchases was outstanding, with no expiration date, of which $2.45 billion remained available for repurchase. We paused the repurchase of our common stock during the third quarter of fiscal 2023 but may resume share
repurchases at any time in the future depending on market conditions and our capital needs, among other factors. See Note 11 for more information on share repurchase activity.
Fair Value Measurements
We recognize money market securities, mutual fund investments, certain equity investments and derivative instruments at fair value. See Note 7 for more information on fair value measurements.
FORWARD-LOOKING STATEMENTS
We caution readers that the statements contained in this report that are not statements of historical fact, including statements about our future business plans, operations, capital structure, opportunities, or prospects, including without limitation any statements or factors regarding expected operating capacity, sales, inventory, market share, online purchases of vehicles from consumers, gross profit per used unit, revenue, margins, expenditures, liquidity, loan originations, CAF income, stock repurchases, indebtedness, earnings, market conditions or expectations with regards to the continued impact of the COVID-19 pandemic, are forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. You can identify these forward-looking statements by the use of words such as “anticipate,” “believe,” “could,” “estimate,” “expect,” “intend,” “may,” “outlook,” “plan,” “positioned,” “predict,” “target,” “should,” “will” and other similar expressions, whether in the negative or affirmative. Such forward-looking statements are based upon management’s current knowledge, expectations and assumptions and involve risks and uncertainties and assumptions about future events and involve risks and uncertainties that could cause actual results to differ materially from anticipated results. We disclaim any intent or obligation to update these statements. Among the factors that could cause actual results and outcomes to differ materially from those contained in the forward-looking statements are the following:
•The effect and consequences of the Coronavirus public health crisis on matters including U.S. and local economies; our business operations and continuity; the availability of corporate and consumer financing; the health and productivity of our associates; the ability of third-party providers to continue uninterrupted service; and the regulatory environment in which we operate.
•Changes in general or regional U.S. economic conditions, including inflationary pressures, climbing interest rates and the potential impact of Russia's invasion of Ukraine.
•Changes in the availability or cost of capital and working capital financing, including changes related to the asset-backed securitization market.
•Changes in the competitive landscape and/or our failure to successfully adjust to such changes.
•Events that damage our reputation or harm the perception of the quality of our brand.
•Our inability to realize the benefits associated with our omni-channel initiatives and strategic investments.
•Our inability to recruit, develop and retain associates and maintain positive associate relations.
•The loss of key associates from our store, regional or corporate management teams or a significant increase in labor costs.
•Security breaches or other events that result in the misappropriation, loss or other unauthorized disclosure of confidential customer, associate or corporate information.
•Significant changes in prices of new and used vehicles.
•Changes in economic conditions or other factors that result in greater credit losses for CAF’s portfolio of auto loans receivable than anticipated.
•A reduction in the availability of or access to sources of inventory or a failure to expeditiously liquidate inventory.
•Changes in consumer credit availability provided by our third-party finance providers.
•Changes in the availability of extended protection plan products from third-party providers.
•Factors related to the regulatory and legislative environment in which we operate.
•Factors related to geographic and sales growth, including the inability to effectively manage our growth.
•The failure of or inability to sufficiently enhance key information systems.
•The performance of the third-party vendors we rely on for key components of our business.
•The effect of various litigation matters.
•Adverse conditions affecting one or more automotive manufacturers, and manufacturer recalls.
•The failure or inability to realize the benefits associated with our strategic transactions.
•The inaccuracy of estimates and assumptions used in the preparation of our financial statements, or the effect of new accounting requirements or changes to U.S. generally accepted accounting principles.
•The volatility in the market price for our common stock.
•The failure or inability to adequately protect our intellectual property.
•The occurrence of severe weather events.
•Factors related to the geographic concentration of our stores.
For more details on factors that could affect expectations, see Part II, Item 1A, “Risk Factors” on Page 49 of this report, our Annual Report on Form 10-K for the fiscal year ended February 28, 2022, and our quarterly or current reports as filed with or furnished to the U.S. Securities and Exchange Commission (“SEC”). Our filings are publicly available on our investor information home page at investors.carmax.com. Requests for information may also be made to our Investor Relations Department by email to investor_relations@carmax.com or by calling 1-804-747-0422, ext. 7865. We undertake no obligation to update or revise any forward-looking statements after the date they are made, whether as a result of new information, future events or otherwise.