Is Mexico’s Kavak Headed Down the Same Road as Carvana?

Over the last nine months, the U.S.-based used car platform has seen its shares tumble, arousing fears that Mexican unicorn Kavak, which is based on the same business model, could also be heading for a crash

Image by Bloomberg Línea
June 02, 2022 | 02:55 PM

Mexico City — Carvana (CVNA), a U.S. online retailer of used cars that has been publicly traded for five years, has faced a plunge in its stock over the past nine months. As a result, the company’s founder, Ernie Garcia III, has suffered a 90% loss in his net worth.

This is unexpected considering that, as reported by Bloomberg, in August last year, Carvana’s shares had soared above $370, valuing the company at more than $60 billion, almost three times the market capitalization of leading used car retailer CarMax Inc (KMX) and eight times what AutoNation Inc (AN), the leading U.S. car dealership chain, was worth.

Carvana’s business model has suffered from the effects of supply chain and auto parts shortages, in addition to the global crisis in new and pre-owned car prices. And it has also been affected by its accelerated growth, which has left the cartech with negative cash flow.

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Domino effect

Due to the integration of economic blocs in the region, the variables that led Carvana to fall into a slump could affect the online pre-owned car buying and selling market in Mexico and Latin America in a domino effect. Such a debacle, say experts consulted, would affect Kavak, the Mexican startup that claims to be a factor in a market revolution in the region, and which currently has a presence in Mexico, Argentina and Brazil.


Bloomberg Línea consulted specialists in the automotive industry and venture capital firms to understand whether Kavak could be headed down the same road as Carvana.

Guillermo Rosales, executive president of the Mexican Association of Automotive Distributors (AMDA) said that the fall in Carvana’s shares may be due to the fact that “markets are anticipating expectations from the real economy, and this could explain to some extent what is happening in terms of supply expectations, not only in the United States, which, of course, it is the largest and most important market and which, to some extent, sets and anticipates trends”.

For his part, Alberto Torrijos, lead partner for the automotive industry at Deloitte, says the domino effect is going to reach Mexico and Latin America.


“Some variables will be complicated and will cause the used car market to decline, but it will not happen immediately because what we are seeing in the United States is a matter of actions, expectations, and dependencies towards electrification, and this changes the expectations of investors. The domino effect could be seen, from our perspective, in 12 to 15 months,” Torrijos said.

Bloomberg Línea has identified five risk factors faced by the online used car industry:

1. Macro crisis

In the U.S., used car buyers suffer from exorbitant prices and few options. In addition, the pandemic semiconductor shortage crisis is still affecting new car prices and manufacturing. This year, buying a used car is equally or more expensive than buying a new one.

In 2021, the rise in used car and truck prices totaled a year-over-year increase of 37.3%, according to data from the U.S. Bureau of Labor Statistics.

In Mexico, the effects of the crisis in the production and logistics chain have not been as severe. Rosales points out that the price of new cars increased by 9% in April 2022 against April 2021, and estimates that the price of used cars increased by 15%.


In the case of Carvana, the company had been growing, but “the reckoning came in February, when Carvana succumbed to the shortages plaguing the industry and reported its first sequential decline in quarterly retail sales”, according to a Bloomberg article, which demonstrated the decline with the following graph:

Carvana's Collapse | The used-car retailer's stock has plunged 90% from its August peakdfd

As a result, Carvana’s consistently negative free cash flow has worsened: the company has spent almost $4 billion since the beginning of last year. To get out of the slump, Carvana published an operating plan outlining how it will control expenses and prioritize profitability and positive free cash flow.

In the case of Kavak, the company’s COO Federico Ranero said that the effects of the shortage of auto parts and semiconductors do not affect the business.


He assures that they have diluted transportation costs (which have increased by up to 100%) in the purchase of auto parts by predicting how many they will need in their inventory through a routing and dispatch system, and by buying in bulk directly from manufacturers.

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The company, he says, holds its own inventory because the logistics cost for only a few units is too high.

“We realized that depending on third parties made us very inefficient, and we have developed many collaboration schemes with industry experts that allow us to vertically integrate,” he said regarding the company’s auto parts inventory.

That has allowed them a 30% efficiency, he says.


“That is much higher than the macro impact we have seen, which is an auto parts cost of (between) 5-10%,” he said during a media tour of the company’s reconditioning center in Lerma, in Mexico state, an industry-heavy state that horseshoes the northern fringe of Mexico City.

In the face of a price bubble, explains AMDA’s Rosales, “it is very likely that the markets are anticipating a decrease in prices given the prospect of a normalization of supply. Already in April in the U.S., prices of used vehicles did not see a substantial increase”.

He assures that, in the case of Carvana, the operational adjustments in terms of layoffs may be due to the trend of supply normalization, and which is something that also happened at the Indian startup Cars24 a few days ago, when it was announced that it had laid off 600 employees.


2. Accelerated growth

Bloomberg reports that in recent years Carvana pursued a growth-at-all-costs strategy to gobble up as much inventory as possible at a time when all industry players were feeling supply pressures and paying top prices for used vehicles.

Following the first-quarter drop in 2022, investors Tiger Global and Maverick opted to increase their stakes in the used-car dealer after a 65% plunge in its share value.

In Kavak’s case, growth has been cautious, Ranero said, as it studied its entire operation and refined it for four years before moving into other cities to replicate it.


The company founded in 2016 expanded to other cities in the country by 2020 after achieving unicorn status with a $1.15 billion valuation and following a $400 million investment from venture capital funds such as SoftBank, DST Global, Greenoaks, Kaszek Ventures and General Atlantic.

The first city with operating centers outside the metropolitan area of the Mexican capital was Guadalajara, with an investment of $32 million, followed by Monterrey with $260 million, Puebla with $200 million, Querétaro with $200 million, and, more recently, Cuernavaca with $120 million.

And last year, Kavak began operations in Argentina and Brazil.


Rosales assures that the effects of that accelerated growth and falling prices and declining demand for used cars can be diverse among different retailers, and that it all depends on inventory management.

“When there are price bubbles in the market, at the high end of the price escalation curve if the inventory is considerable, when the price decline begins, the acquisition value of the pre-owned cars can at a given time be higher than the sales value and cause losses,” the head of AMDA said.

He points out that in public companies such as Carvana - which is obliged to make its economic, financial and operating data transparent to the market - it is easy to notice those effects, but not in the case of a private company that is not listed on the stock exchange, such as Kavak.

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3. Business model

Like Kavak, selling or buying a car on Carvana can be done primarily online. However, as Bloomberg reports, the U.S. firm suffers from serious limitations in digitizing the work of inspecting and bidding on used vehicles, transporting them for reconditioning, and often moving them back to where they are resold. All of this is costly. Growing significantly faster than the retail chains and traditional dealers it competes with every day is no easy task for the U.S. company.

Kavak, which continued to expand in the second half of last year into Argentina with a $10 million investment, has insisted in interviews granted by its executives, and documents that its business is not just a used car buying and selling platform. Recently, Ranero said that Kavak offers “a data science solution” that uses artificial intelligence to enable the used car industry, Ranero says.

That’s a similar approach to what other firms are offering in the technology sector, a sign that the AI part of the business is being commoditized. The risk here, warn experts such as Abdullah A. Abonamah, of the Abu Dhabi School of Management, and Adrian Bridgwater, of IDG, is that AI tools could be used and traded by almost any company.

Last year, Kavak said it would invest $500 million on its arrival in Brazil, a market worth more than $120 billion in its line of business.

The complexity of Kavak’s business model required generating an artificial intelligence algorithm, fed by publicly available pricing information from lots, agencies and automotive markets to generate a database capable of predicting the behavior of the used car market and setting competitive prices.

In the more than 20 showrooms that Kavak operates in the metropolitan area and in greater Argentina (in Mendoza and Tigre), and in Brazil (in São Paulo and Rio de Janeiro), the startup shows customers that it is possible to carry out the entire process of buying or selling cars online, or through the mobile app, and offers them a multi-channel experience, as that users can search for the car they are interested in and find the price and specifications on its website.

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In the case of Carvana, according to Rajat Gupta of JPMorgan, “we don’t necessarily see the company’s business model as far superior or disruptive to the market, with well-capitalized physical dealers finding ways to grow and generate solid returns in an increasingly competitive environment”.

The business that Kavak built is also capital-intensive and requires infrastructure. Its founders, brothers Carlos and Loreanne Garcia Ottati, and Roger Laughlin base their idea on correcting the information asymmetry of used car sales, in which the seller knows what they are selling but the buyer does not know what they are buying. Today, the company is the most valued startup in Latin America, with an estimated value of $8.7 billion.

Carvana, like Kavak, was one of the companies that benefited from changes in consumer behavior during the Covid-19 pandemic. But as restrictions disappear and vehicle prices rise, the business model struggles to grow.

Using data from a variety of global sources, Statista concludes that the used car market will continue to increase at an annual rate of around 3% worldwide. It recorded a value of approximately $1.2 trillion in 2020 and forecasts from industry specialists point to the value of used car sales growing to around $1.5 trillion by 2027.

The pandemic was an opportunity to innovate new products and solutions for Kavak. Ranero explains that many people wanted to sell their cars for liquidity, so a new line of business emerged: lending against their cars as collateral. People wanted to move into secure environments in the new normal. So Kavak offered financing at rates as low as 14% and down payments of 15%.

Rosales, who represents the mainstream industry, points out that the placement of automotive credit for used vehicles granted by banks and brand-name finance companies specializing in automotive credit shows an increase of 12% compared to the first quarter of last year, which contrasts with the behavior of credit for the acquisition of new vehicles, which continues to decline.

“We see a very important potential in the used car market, especially in Latin American markets”, Rosales said.

Deloitte’s Torrijos predicts that demand for used cars in Mexico will continue until the lack of new vehicle inventory stabilizes, and estimates that by the second half of 2023 there will be a recovery.


4. Discrepancy between market and reality

In Latin America we always go at different speeds from what is happening in other countries, says Torrijos, who does not rule out a domino effect, but does not see it happening immediately.

Carvana’s founders Ernie Garcia II and Ernie Garcia III have together lost more than $11 billion so far this year. With this draining of capital, they no longer rank among the 500 largest fortune holders in the Bloomberg Billionaires Index.

But despite what has happened at Carvana, Kavak’s COO says the Mexican company’s business model is not in jeopardy.

“We continue to see increasing adoption and understanding from customers on both sides of the [car buying and selling] equation. They can find alternatives here that they didn’t have before, and we are solving problems that are very different from those being solved in the ‘first world’ with companies like Carvana,” Ranero said in an interview with Bloomberg Línea.

Torrijos affirms that Kavak, and other retail solutions providers such as OXL, are entering a market of formality that consumers have been looking for for years. “They have understood what the customer is looking for in their niche market and doing everything a brand does to sell a new car, in addition to using technological tools.”

But in the real world, Kavak has struggled to satisfy its customers, with users voicing their dissatisfaction with the service on social networks. A former Kavak employee who worked in after-sales service and who asked that their name be withheld having signed a confidentiality agreement) told Bloomberg Línea that of total sales, about 30% incur complaints, although some of those are only minor problems.

In an earlier interview with Bloomberg Línea, Juan Franck, managing partner of SoftBank Latin American Fund, said that “when we make comparisons with other parts of the world, in general, developed markets invest more in innovation, but here they invest in inclusion, which is being enhanced through innovation”.

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“Given such deep value symmetry, the dynamics of a first-world market like Carvana are very different from those of a player like Kavak that goes after different markets, which are broken, are asymmetric, where therefore penetration is so low because you are solving very deep problems. So I think it is very difficult to compare and draw conclusions on problems which are fundamentally different,” Ranero said.

According to Franck, “for example, Carvana or OpenDoor, which could be analogous to [Colombian proptech unicorn] Habi or Kavak, in general, Latin American platforms are solving a lot more problems than those companies in more developed markets”.

“These platforms in Latin America are solving an anchor problem, and around that problem there are many, many other opportunities and problems that can be solved,” Franck said, while acknowledging that making comparisons is useful to understand the core business model.

5. The potential of the Latin American market

Over the last year, Kavak enjoyed triple-digit growth amid greater demand for used cars and more economic pressures, according to Ranero, who didn’t provide actual figures in the Lerma media tour earlier in May.

The used car market in Mexico, Kavak’s home base, is worth $60 billion annually, according to Statista (using data from Inegi and automotive industry sources), and more than seven million transactions take place annually. Kavak says that it has only 1% market penetration, with 120,000 transactions completed per year in Mexico. In Brazil, the sector is worth more than twice as much.

There is great potential in the used vehicle market, Rosales says.

“To put it in perspective, in the case of the U.S. market, we estimate that for every 10 new vehicles sold at a dealer, 12 used vehicles are sold, while in Mexico for every 10 new vehicles, between two and three used vehicles may be sold,” according to Rosales.


Kavak is not yet profitable because it is financing its growth and expansion. Before generating liquidity for its investors with an IPO, which will not happen this year, co-founder Roger Laughlin told Bloomberg Línea early this year, Kavak has a growth strategy not only in Latin America, but also outside the region.

“We’ve always looked at Kavak as a global solution,” Laughlin said.

A person familiar with the business told Bloomberg News that the startup was looking at Turkey as its next target. “We’re looking at large, complex markets where the experience of buying and selling a car is very problematic,” according to the source.

Torrijos says that as long as Kavak remains focused on its mission of making it easier to buy a used car, the company is going to continue capturing market share. “But it will not last forever, because in the future customers will opt for clean energy, and so there will be a time when there will be fewer internal combustion vehicles, although for the Latin American market this is a long way off, about 10 years away”, he said.

-- Alejandro Ángeles, Isabela Fleischmann and Bloomberg News contributed to this article

Translated from the Spanish by Adam Critchley

-- This article was updated on Friday June 3 to reflect the origin of data used from Statista, as well as references to AI as a commodity, and clarified some sayings by Kavak’s executive.