Opendoor and Carvana Feel the Free Money Hangover

Hungover. (Photographer: Bloomberg/Bloomberg)

With the price of homes and used cars now plummeting as quickly as they soared, would-be digital disruptors like Opendoor Technologies Inc. and Carvana Co. have been humbled.

Investors had respectively tipped these platforms to become the “Amazon of homes” and the “Amazon of used cars” due to a shared ambition to improve an often lousy sales experience, and to buy and sell big-ticket items at scale.

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But flipping houses and cars in a bubble was storing up trouble: Together the two companies reported a combined $1.4 billion in losses on Thursday, as rising interest rates caused customers to pull back, leaving them sitting on rapidly depreciating inventory. From the peak, their shares have collapsed by more than 90% and their bonds are trading at distressed levels.

Although Opendoor’s losses were larger, I think it’s better positioned to overcome what Chief Executive Officer Eric Wu called a “crucible moment,” thanks partly to a strategy pivot to a less capital-intensive method of home selling. In contrast, Carvana’s weak balance sheet remains a worry.

These two companies were leading beneficiaries of the cheap money era — low interest rates provided cheap capital to expand rapidly, while helping customers afford increasingly expensive assets — but they were too slow to recognize that a storm was brewing. As were the hedge funds that backed them.

In February, Carvana announced the $2.2 billion takeover of the ADESA Inc. US auction business, which added to its indebtedness at precisely the wrong moment. Investors recoiled, forcing it to agree to pay more than 10% interest on $3.3 billion of new borrowings in April, a burden that imperils its battle to break even.

Meanwhile, Opendoor purchased more than 14,000 houses between April and June, and thus paid top-of-the market prices. While it is now trying to offload those homes pretty damn quick, the damage is done: On Thursday, it announced a $573 million impairment for anticipated losses. Worryingly, a majority of those high-priced houses still remain on its books.

At least Opendoor seems to have recognized its core business model is too risky in such a volatile environment. Even though it continues to purchase houses (albeit at a slower pace and at far more conservative prices), the company plans to facilitate more home sales, including to institutional buyers.

Instead of putting capital at risk, it will now also bring buyer and seller together on its platform and collect a fee. These third-party sales are inherently higher-margin, and it hopes they will account for more than 30% of transactions by the end of next year.

Adjusted earnings will likely deteriorate before they get better, but Opendoor’s strategy pivot at least gives investors reason for hope. Plus it has a decent $1.3 billion buffer of unrestricted cash to tide it over. “Companies without the conviction, perseverance, and capital will not be able to weather the storm,” Wu warned.

Was he talking about Carvana? The used-car dealer claims to have switched from a “grow as fast as we can to get profitable as fast as we can” approach but that’s easier said than done. Like Opendoor, it’s slashing jobs and marketing costs, but after expanding too rapidly it owns too much car-refurbishing capacity.

Profit per vehicle sold has been impacted by rising interest rates (Carvana relied heavily in the past on selling loans), while cash has dwindled to $316 million. While the company boasted of $4.4 billion in total liquidity, almost half relates to real estate it could monetize via sales and leaseback transactions.

On the investor call, management insisted this puts them “in a good position to ride out this storm,” but analysts questioned whether the company would need a dilutive equity raise. At this rate, it might.

Aiming to improve the home- and car-selling experience was admirable, and both of these companies have had to navigate incredibly volatile conditions: first a pandemic, and then the fastest rise in interest rates in decades. But when historians come to write the history of the easy money era, the hubris of the Amazon copycats will surely merit a few words.