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Copart's (CPRT) Real Product Isn't Cars: Jay Adair’s Return and the Road Ahead
In my last post, I discussed why I decided to go down the Copart rabbit hole. As many of you know, it is easy to tumble down the wrong one, so I always scrutinize a company prior to starting an in depth investigation to the best of my ability to ensure a positive outcome. That said, I have no hesitation terminating my research if I find an unreconcilable risk that puts my investment in jeopardy.
Normally, the first step I take when investigating a company in depth is to understand the health of its finances. As most of you are probably aware, Copart's finances are in very good shape: they have negligible debt and an exceptional return on invested capital. ROIC has been above 20% for long periods of time and has slowly declined to 17% since 2023, and net margins tell a similar story with an EBIT-to-FCF conversion of more than 70%. Other indicators like intrinsic value to book value also demonstrate good financial health, even with the recent slowdown.
That small decline can be read in many ways, but it is mostly related to inflation, which in my opinion directly affects three key variables for this company: vehicle inflow, value per vehicle, and earnings power. These inflationary effects are magnified by various circumstances in each of these variables, but everything ultimately comes down to a fragile balance between the cost of repairs and vehicle intake, which correlates directly with insurance claims and the percentage of total losses. This balance is hard to measure because a slowdown in vehicle supply caused by lagging insurance claims can happen simultaneously while rising repair costs offset those volume losses.
However, there is a sweet point where growth starts taking a hit as that balance breaks. This raises an obvious question: How bad has the slowdown been over the last few years, and can it get worse? This is largely a short term investor question regarding entry points and near term profit, but I am starting to think these guys have just faced a worst case scenario stress test. Consider the macro environment they just endured: peak inflation, peak petrol prices, peak shipping costs, and a constrained pipeline of post COVID vehicles due to semiconductor shortages hitting supply lines. Despite being hit by all of this at once, they managed to keep double digit ROIC and earnings. That sounds like a great news story to me, and the stock's decline is not as severe as it looks given the circumstances. Operating as a duopoly in the world's largest economy certainly helps, alongside profit margins that triple those of their closest competitor, IAA, through technology and workflow automation. Having survived this stress test under our very eyes while staying profitably in the double digits, the recent decline may just be a temporary dip in a long term compounding growth trajectory. Even so, navigating headwinds of an unknown length requires a steady hand at the helm, which brings us to Jay Adair.
**The New CEO That Isn’t New**
Jay Adair took over from Jeff Liaw, who in turn had taken over from Jay Adair—sounds a bit cyclical, right? It turns out that Jay was CEO of Copart from 2010, succeeding the founder and father in law, Willis Johnson. Being married to the founder's daughter has to be a plus, but his track record speaks for itself. Jay was key to transforming Copart from a traditional wreckage yard into a multinational digital powerhouse. He joined the company in 1989, and in 1998 he became president, leading the digital shift toward online auctions. In my mind, I imagine a regional yard full of scrap metal with a prefab office in the middle, followed by someone saying, "Why don’t we sell all this junk online using an eBay model?" Whether or not my mental imagery is entirely accurate, he was a key executive when that transformation happened on his watch.
After becoming CEO, he demonstrated a deep understanding of the business and capital allocation by expanding the yard footprint and scaling technology. This is evident when comparing Copart’s earnings to its closest competitor, IAA; using the latest reports published before IAA was acquired by RB Global, Copart tripled net earnings per car, which is easily reflected in the stock performance from 2010 onward. What caught my attention, though, was his return. The timing reads like a signal that we are facing challenges ahead and need someone who knows how to pilot the ship. During my investigation, projected growth rates pointed to a bottleneck: because Copart relies heavily on vehicle supply, if salvage volume grows at less than 5% annually, how can earnings compound at 20% at their current scale?
Fortunately, Jay has already provided strategic clues. First, he wants to continue expanding the yard network, though it is already massive, so additional levers are needed. Second, he wants to diversify beyond salvage vehicles into whole car auctions. While they already touch this space, making it a primary focus is a great idea, except they are stepping onto turf owned by a big beast: Manheim, who won't make it easy. Sourcing whole vehicles away from established dealer networks will be a key driver for long term growth. Combined with further international expansion and technological refinement, it's clear he has recognized the challenges ahead and developed a sound strategy. Given his past success and the vast resources he now has compared to 2010, his probability of execution is high. My read on this leadership transition is simple: we have headwinds, but we have the right man driving. That realization led me to a fundamental question about the business model itself.
**What Is Actually Copart's Product?**
The answer might surprise a few people, but it’s not the cars. The true product is their integrated operational ecosystem: an extensive yard network, a highly automated technology platform, and a global buyer network. From the moment a vehicle is totaled to the moment a buyer wins the online auction, they have automated nearly every step, giving them an immense edge that yields more than three times the net profit per dollar of revenue compared to their closest competitor.
Once you define the product this way, you realize they have a great shot at achieving Jay’s objectives because they already have the buyers and the infrastructure. The real challenge lies entirely in sourcing whole vehicles and convincing suppliers to choose Copart over Manheim.
While competition requires close monitoring, Copart operates in a duopoly for the salvage business, so I'm not expecting structural show-stoppers. The critical question for the next part of my investigation is what forecasted growth rate to use in an intrinsic valuation model incorporating these points. **Is it the 6% projected by some analysts, or can they sustain double digits? What is your take on Copart's forecasted earnings growth? Let me know in the comments, getting that number right can easily flip an investment decision.**
Note: I wrote this before Thursday and it does not incorporate any information from the results published that day.
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