We See Copart's Wide Moat Enabling Long-Term Earnings Growth

Strategist

David Whiston

Since its 1982 inception, Copart has grown into the largest online salvage vehicle auction operator in the United States, connecting buyers and sellers around the world. The company has grown its top line nearly five-fold since 2009 due to a combination of significant land expansion and robust service quality to drive higher salvage vehicle volume. Copart receives the majority of its vehicle volume through contracts with large auto insurers and sells them on consignment for high margins. The company prioritizes maintaining amicable insurance relationships which are fostered by having adequate storage capacity and being a flexible service provider. All auctions have been online since 2003.

For Copart, strong customer service means having plentiful land capacity and adequate staffing levels to handle an influx of salvage vehicle volume on short notice such as after a disaster. Since 2015, Copart has more than doubled its total acreage and emphasized expanding capacity in areas at high risk of suffering from natural disasters in the southern U.S. In 2017, Copart took assignment of over 90,000 damaged vehicles from Hurricane Harvey by temporarily leasing additional swaths of land and contracting with numerous towing companies. The company’s impressive service prompted market share gains over the last five years as a major U.S. auto insurer subsequently shifted portions of its salvage vehicle volume to Copart from competitor IAA (now owned by RB Global) following the hurricane. Copart typically incurs a loss when serving an area affected by a severe natural disaster as labor and subhaul costs exceed revenue from additional vehicle volume. However, management steadfastly believes that superior customer service during these times helps foster stronger insurance relationships and future volume growth.

Copart has continued to aggressively add land (which it owns unlike IAA) both domestically and internationally over the last three years, though international expansion remains more nascent. Copart has integrated itself into the salvage vehicle resale process by emphasizing its ancillary service offerings such as vehicle title transfer and salvage estimation services.

Business Strategy & Outlook

We award Copart a wide economic moat based on intangible assets and a powerful network effect. The salvage vehicle auction industry differs from traditional used vehicle auctions (done by the likes of Manheim) due to its importance of insurance relationships, land capacity, and flexible service in particular areas. We view the combination of these elements as an intangible asset. Maintaining strong auto insurance relationships is imperative because of the industry’s highly concentrated seller base. Approximately 80% of Copart’s salvage vehicle volume comes from auto insurance companies, and in the case of IAA, around 40% of 2022 (its last year as a public company before being acquired by RB Global) revenue was tied to volume from the four largest auto insurers alone. We believe Copart and IAA have similar customer concentration profiles.

Since volume is obtained primarily from insurance providers, Copart is dedicated to making the salvage vehicle resale process as seamless as possible for auto insurers, which has built strong brand equity in the space over time. Thus, having adequate service and land capabilities to foster insurance relationships creates a sturdy moat around the duopolistic market. Both Copart and IAA refine and make additions to their service offerings for the benefit of insurers and adjusters, while also being cautious with overextending their pricing power. We believe the importance of maintaining fruitful insurance relationships is proxied by the fact that IAA and Copart generate only one third of total revenue from insurance companies. As such, both companies primarily flex their pricing power on buyers, which is a highly fragmented group.

Having a vast land presence is unique and necessary to appropriately serve insurance companies, particularly in areas at high risk of suffering from a natural disaster. Natural disasters are costly for insurance companies, and this has been especially true for insurers with a presence in the southern United States. In the event of a natural disaster, auto insurers typically become inundated with customer claims and must manage thousands of damaged vehicles. For reference, Copart and IAA combined to sell over 150,000 vehicles damaged from Hurricane Harvey in 2017. From an insurer’s perspective, managing the repossession and sale of totaled vehicles is outside of its core competency, results in higher expenses, and averts time away from processing claims and dealing with customers. As a commodity industry, insurance companies are looking to optimally manage its cost structure and minimize its combined ratio. As a result, insurance companies rely heavily on salvage vehicle auction operators like Copart to handle the transportation, title processing with state DMV’s, storage, and eventual sale of vehicles.

However, taking possession of tens of thousands of salvaged vehicles on short notice requires flexibility and significant amounts of available land. In 2018, Copart’s management team noted that the company operates at around 85% capacity for noncatastrophic, or non-CAT, and 70% for catastrophic, or CAT, areas. Essentially, 20%-25% of Copart’s owned acreage is likely sitting idle at any given time, allowing the company to quickly absorb capacity after a major disaster. For potential new entrants, purchasing land (or rights to operate on land) creates an initial capital expenditures hurdle and operating idle land creates a fixed cost hurdle that is difficult to overcome without scale. Plus, an entrant has to find suitable land allowed to be zoned as vehicle storage yards. Copart operates around 17,000 acres of land (90% owned, 10% leased) and IAA, before being acquired, operated around 12,000 acres (10% owned, 90% leased). We believe Copart’s land ownership is advantageous over leasing as operating expenses are more predictable. By owning land, the company is not required to regularly renegotiate lease terms and compete with more lucrative uses of the leased land for landowners. We suspect this also provides insurance companies with more confidence in Copart’s perpetual presence in a given location. Many traditional used vehicle auction companies fail to match Copart’s land capacity (and IAA in turn can’t match Copart’s since IAA leases) and potential service capabilities. Copart holds $1.8 billion in land on its balance sheet (27% of total assets).

Given that the salvage vehicle auction process deviates from auto insurers’ core operations, insurers gladly outsource these services to Copart. Acquiring land, maintaining yards, handling salvage title transfer with state DMVs, transporting totaled vehicles, and managing service personnel deviates significantly from insurers’ core competency of underwriting insurance and paying out claims. Hypothetically, insurers that insource salvage vehicle operations would also need to build a repository of potential buyers, something Copart and IAA have already established. Copart entered the salvage vehicle auction market in 1982 and grew via acquiring independent junkyards and streamlining operations. Therefore, we suspect that the salvage vehicle resale process has long been outsourced by insurance companies but was simply a fragmented and unnoteworthy business. As such, we view the risk of insurance companies insourcing Copart and IAA’s existing operations as minimal. The consistency of Copart’s excellent return on invested capital over the last two decades, recently over 20%, displays the durability of the wide-moat duopolistic market that Copart and IAA collectively dominate.

Copart boasts an expansive membership network (registered buyers at its auctions are called members) that helps maintain liquid auctions. Copart’s member base surpassed 400,000 in 2010 and nearly doubled to 750,000 members just 3 years later. Today, Copart has well over that number of registered buyers around the world consisting of vehicle dismantlers, rebuilders, exporters, used car dealerships, and individuals. Copart’s buyer network outpaces IAA’s network of 150,000 registered buyers (as of 2019), which we believe is partially attributable to Copart’s early adoption of online auctions in 2003 versus 2015 for IAA. We surmise that Copart’s early success in internet auctions enabled a first mover advantage in solidifying its membership base.

Copart’s two-sided network creates a fly wheel effect. Essentially, sellers benefit from a wide buyer network due to increased bidding competition, and buyers benefit from higher vehicle volumes. From the seller’s point of view, more potential buyers translates into more bids and thus higher selling prices. Better auction liquidity and selling prices subsequently entices sellers to pass more vehicle volume to Copart. As such, Copart’s growing size means it can procure or have access to more vehicles to sell on consignment than a small player. 

On the other side of the transaction, buyers benefit from seeing higher vehicle volumes. Since Copart’s buyer network consists of many professional rebuilders and dismantlers, the ability to seamlessly bid on multiple vehicles per day is valuable. Buyers are disadvantaged when auctions become overcrowded and therefore continuously seek additional volume, thus benefitting sellers. The network effect becomes self-reinforcing as more vehicle volume is added and the buyer network expands.

Copart also benefits from and has proven capable of monetizing this network effect. Higher vehicle volume from sellers equates to a larger quantity of cars that Copart may collect fees on, while a larger buyer network prompts a competitive bidding environment and results in higher selling prices, increasing Copart’s profit per vehicle. Although subject to fluctuation, our calculations suggest that Copart typically keeps around 20%-22% of each vehicle’s average selling price as revenue (for vehicles sold on consignment).

Wide

Economic Moat

Copart

Copart, Inc. engages in the provision of online auctions and vehicle remarketing services. It provides vehicle sellers with a full range of services to process and sell vehicles primarily over the internet through Virtual Bidding Third Generation Internet auction-style sales technology. The firm sells the vehicles principally to licensed vehicle dismantlers, rebuilders, repair licensees, used vehicle dealers, and exporters and at certain locations, as well as to the general public. The company’s services include online seller access, salvage estimation services, estimating services, end-of-life vehicle processing, virtual insured exchange, transportation services, vehicle inspection stations, on-demand reporting, DMV processing, and vehicle processing programs. It operates through the United States and International segments. Copart was founded by Willis J. Johnson in 1982 and is headquartered in Dallas, TX.

Earnings data Q1 2024

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