02/04/2020

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Copart: A Great Business in a Great Niche

Texas-based Copart Inc. (NASDAQ:CPRT) is the leading provider of online auctions and vehicle remarketing services...

Texas-based Copart Inc. (NASDAQ:CPRT) is the leading provider of online auctions and vehicle remarketing services with operations in the U.S. (81% of fiscal 2019 sales) and abroad (19%). What sets the business apart is its focus on the niche market of damaged vehicles deemed a total loss or not economically repairable as well as recovered stolen cars. Its platform connects vehicle buyers (principally dealers, dismantlers, rebuilders and exporters) and sellers (primarily insurance companies).

With just one salvage yard in California, Copart was founded by Willis Johnson in 1982. While the company went public in 1994, it did not see its business model entirely online until 2003. Today, Copart has transformed itself into a technology-driven company offering a remarketing and auction platform of salvage vehicles worldwide. Meanwhile, Johnson remains executive chairman of the company and holds more than 8% of the total shares outstanding, per the latest filing.

Every day, Copart operates in 11 countries, with over 175,000 vehicles up for auction. As of fiscal 2019, the business sold more than 3 million cars and transacted roughly $9 billion. At the same time, service (i.e., transaction fees) represented 86% of the total revenue, while vehicle resale (i.e., own account) accounted for the remaining 14%.

When it comes to the typical marketplace model like Copart’s, the scale is a critical competitive advantage. Buyers prefer a massive range of listings, while sellers favor the platform with the most substantial volume. We note that the salvage auto auction niche is a duopoly with Copart and Insurance Auto Auctions (NYSE:IAA), a spinoff from KAR Auction Services (NYSE:KAR), each controlling a nearly 40% market share in the North American market. Between the two, Copart almost tripled Insurance Auto in terms of annual sales in fiscal 2018.

Per the chart below, Copart generated high returns on assets for the last decade and consistently outperformed Insurance Auto and KAR Auction with respect to this metric.

We think the high barrier to entry further strengthens the economic moat at Copart. Besides a robust buyer base, the company possesses over 150 permitted salvage yards with proximity to major metropolitan areas in the U.S.

Moreover, as you can see below, the salvage auto business was not significantly impacted by macroeconomic conditions. This is mainly because if used car pricing goes down, the insurer is unlikely to pay for repairs that exceed its value. As a result, while Copart generates less revenue per car, it gets more cars onto its platform.

Going forward, management expects the increasing complexity of end-products in the auto industry to benefit the company’s business. It cited the following in the annual report:

“Automobile manufacturers continuously incorporate new standard features, including unibody construction utilizing exotic metals, passenger safety cages with surrounding crumple zones to absorb impacts, plastic and ceramic components, airbags, adaptive headlights, computer systems, advanced cameras, collision warning systems, and navigation systems. We believe that one effect of these additional features is that newer vehicles involved in accidents are more costly to repair and, accordingly, more likely to be deemed a total loss for insurance purposes.”

In the meantime, the company continues to execute its growth strategy focused on expansion internationally (19% of the fiscal 2019 sales) as well as in terms of service offerings. For the ultra-long run, management acknowledges the risks due to accident avoidance technology and self-driving cars. In the further response to the latter, it pointed to the so-called natural hedge, where repair costs are expected to be higher for autonomous vehicles (so that the percentage of cars sent to salvage would go up).

Disclosure: The mention of any security in this article does not constitute an investment recommendation. Investors should always conduct careful analysis themselves or consult with their investment advisors before acting in the stock market. We do not own any security mentioned in the article.

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About the author:

Steven Chen

Steven CHEN is a quality-focused investor (with bottom-up opportunistic approaches), an ex-hedge fund analyst on Wall Street, a serial entrepreneur, computer scientist, and free-market capitalist.

Steven is the Managing Partner of Urbem Partnership, a value/quality-focused investment partnership fund (www.urbem.capital), and Urbem Capital, the research boutique that focuses on the highest-quality 0.1% of all public companies worldwide.

Steven can be reached at [email protected] or through LinkedIn.

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