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SHIFT TECHNOLOGIES, INC. – 10-K – Management's Discussion and Analysis of Financial Condition and Results of Operations
This discussion contains forward-looking statements about Shift's business, operations and industry that involve risks and uncertainties, such as statements regarding Shift's plans, objectives, expectations and intentions. Shift's future results and financial condition may differ materially from those currently anticipated by Shift as a result of the factors described in the sections entitled "Risk Factors" and "Cautionary Note Regarding Forward-Looking Statements." Throughout this section, unless otherwise noted "we", "us", "our" and the "Company" refer to Shift and its consolidated subsidiaries.
OnOctober 13, 2020 ,Insurance Acquisition Corp. ("IAC"), an entity listed on the Nasdaq Capital Market under the trade symbol "INSU", acquiredShift Platform, Inc. , formerly known asShift Technologies, Inc. ("Legacy Shift"), by the merger ofIAC Merger Sub, Inc. , a direct wholly owned subsidiary of IAC, with and into Legacy Shift, with Legacy Shift continuing as the surviving entity and a wholly owned subsidiary of IAC (the "Merger"). The public company resulting from the merger was renamedShift Technologies, Inc. , which we refer to as Shift, we, us, our, SFT, or the Company. Upon the consummation of the Merger, Shift received approximately$300.9 million , net of fees and expenses. See Note 3 - Merger, in the accompanying consolidated financial statements for additional details regarding this transaction. For financial reporting purposes IAC was treated as the "acquired" company and Legacy Shift was treated as the accounting acquirer. Overview
Shift is a leading end-to-end ecommerce platform transforming the used car
industry with a technology-driven, hassle-free customer experience.
Shift's mission is to make car purchase and ownership simple - to make buying or
selling a used car fun, fair, and accessible to everyone. Shift provides
comprehensive, technology-driven solutions throughout the car ownership
lifecycle:
•finding the right car,
•having a test drive brought to you before buying the car,
•a seamless digitally-driven purchase transaction including financing and
vehicle protection products,
•an efficient, fully-digital trade-in/sale transaction,
•and a vision to provide high-value support services during car ownership.
Each of these steps is powered by Shift's software solutions, mobile
transactions platform, and scalable logistics, combined with the Company's nine
centralized inspection, reconditioning and storage centers, called hubs.
Shift's vision is to provide a comprehensive experience for car owners, driven by technology at every step of the consumer lifecycle. Our continued investments in our research and discovery functionality create a platform that draws customers to engage with the Shift website and provide a seamless search experience.
There are three ways to purchase a car from Shift:
•On-demand test drive: Shift conveniently brings the customer's desired car to
the customer's desired location for a no-obligation, contactless test drive,
usually at their home or work. If the customer chooses to purchase the vehicle,
a Shift concierge staff can process the transaction on-the-spot via a mobile
app.
•Buy online: Customers can buy a car sight-unseen without a test drive and have
it delivered to their home quickly with the same seven-day return policy as is
offered on cars bought in person.
•Hub test drive: Customers may come to one of Shift's hub locations to see and
test drive multiple cars. When they arrive, customers can scan a QR code on each
car to immediately view all relevant details, including ownership & service
history, inspection reports, vehicle history reports, and most importantly,
dynamic pricing and market price comparisons. This immediate access to all
relevant information - without having to rely on a salesman - puts customers in
control.
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Launched in 2014, Shift operates nine vehicle inventory inspection, reconditioning and storage centers, with six spanning theWest Coast fromSan Diego toSeattle and three new facilities inAustin ,San Antonio , andDallas, Texas launched in 2021. The Company is also acquiring inventory in theHouston andLas Vegas markets. Once fully launched, each region is supported by one hub location that acts as the central point for reconditioning and vehicle storage that also enables customers to browse inventory onsite. For the year endedDecember 31, 2021 , the Company had$636.9 million in revenue, an increase of 225.4% compared to$195.7 million of revenue for the year endedDecember 31, 2020 . By targeting urban, densely populated markets, Shift has used direct-to-consumer digital marketing and a responsive ecommerce sales approach to grow its market penetration. With hub locations in only four states, Shift has significant runway for continued geographic expansion. Shift's differentiated strategy offers a wide variety of vehicles across the entire spectrum of model, price, age, and mileage to ensure that Shift has the right car for buyers regardless of interest, need, budget, or credit. Shift offers a fully omni-channel fulfillment model, led by Shift's patented system for managing on-demand test drives brought to customers at their preferred location, such as their home. Regardless of the approach chosen by the customer, they will be supported by friendly Shift Concierge and Advisor team members. For all ecommerce buyers, Shift offers a full suite of options to consumers to finance and protect their vehicle through our mobile point-of-sale solution. Through our platform, we connect customers to various lending partners for a completely digital end-to-end process for financing and service products. A customer can also complete a short online prequalification form and immediately see a filtered view of cars that meet their budget based on the financing options for which they are likely to be able to qualify. Customers can also get approved for financing before they even test drive a car, making it much more likely that the customer will purchase a car from us. Shift focuses on unit economics driven by direct vehicle acquisition channels, optimized inventory mix and ancillary product offerings, combined with streamlined inventory onboarding, controlled fulfillment costs, and centralized software. For the year endedDecember 31, 2021 , Shift sourced 94% of its inventory from consumer-sellers and partners driving improved margins and customer acquisition cost. Our data-driven vehicle evaluations help ensure acquisition of the right inventory at the right price to reduce days to sale. We believe that a differentiated ability to purchase vehicles directly from consumer-sellers as compared to our competitors,who purchase a higher percentage through the wholesale market, provides Shift access to a deeper pool of scarce, highly desirable inventory. Sellers are able to go to Shift.com, submit information on their car, and get a quote instantly. Shift uses a proprietary algorithm for pricing that utilizes current market information about market conditions, demand and supply, and car option data, among other factors. Using proprietary pricing and Shift-built mobile diagnostic tools, Shift provides an immediate quote for a customer's trade-in vehicle, and will schedule an on-demand evaluation at the customer's location by a member of Shift's concierge staff. Shift provides selling customers with information on market rates and, when a customer is ready to sell their car, we can digitally initiate e-contracting and an ACH transfer and conveniently take the car on the seller's behalf so the seller doesn't even have to leave his or her home to sell their car. Over time, we intend to expand our machine learning-enabled recommendation engine to better help customers find the cars best suited to them. Customer response to the Shift experience is extremely positive, resulting in a 70 Net Promoter Score ("NPS") in 2020, an order of magnitude higher score than traditional auto retailers. These positive experiences are expected to allow Shift to serve customers over the entire lifecycle of vehicle ownership and retain customers for repeat sales and purchases. By continuing to invest in services that benefit the customer throughout the ownership phase of the lifecycle (for example, vehicle maintenance plans), we will continue to establish a long-term customer base that will return for future transactions. 44
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Revenue Model
Shift's two-sided model generates value from both the purchase and sale of
vehicles along with financing and vehicle protection products. We acquire cars
directly from consumers, partners, and other sources and sell vehicles through
our ecommerce platform directly to consumers in a seamless end-to-end process.
This model captures value from the difference in the price at which the car is
acquired and sold, as well as through fees on the sale of ancillary products
such as financing and vehicle protection products, also referred to as finance
and insurance ("F&I"), and services. If a car that we purchase does not meet our
standards for retail sale, we generate revenue by selling through wholesale
channels. These vehicles are primarily acquired from customers who trade-in
their existing vehicles in connection with a purchase from us. Our revenue for
the years ended December 31, 2021 and 2020 was $636.9 million and $195.7
million , respectively. We expect significant growth going forward as we expand
geographically, increase market penetration, and increase ancillary product
sales.
Inventory Sourcing
We source the majority of our vehicles directly from consumers and partnerswho use the Shift platform to resell trade-in and other vehicles. These channels provide scarce and desirable local inventory of used cars of greater quality than those typically found at auction. In addition to those primary channels, we supplement our vehicle acquisitions with purchases from auto auctions, as well as some vehicles sourced locally through the trade-in program of an original equipment manufacturer ("OEM"). Proprietary machine learning-enabled software inputs vast quantities of data across both the supply and demand sides to optimize our vehicle acquisition strategy. As we grow volumes, we expect to improve the performance of our model to optimize our vehicle selection and disposal.
Vehicle Reconditioning
All of the cars Shift sells undergo a rigorous 150+ point mechanical inspection and reconditioning process at one of our nine regional reconditioning facilities (or at a third-party partner when additional capacity is needed, such as during the establishment of a new hub location) to help ensure that they're safe, reliable, up to cosmetic standards, and comfortable. We have created two classifications of inventory for reconditioning - Value and Certified - to optimize the level of reconditioning for each vehicle classification. This allows us to efficiently provide each customer with the greatest value through a tailored reconditioning approach. Value cars are typically sold at a lower price point and are sought after by consumerswho have different expectations and tolerances for cosmetic reconditioning standards - therefore, we focus on mechanical and safety issues for these vehicles, with less emphasis on cosmetic repair, in order to optimize reconditioning costs. This operational flexibility in our reconditioning process improves our ability to grow profitably and is a primary factor in our decision to conduct reconditioning in-house. With a test drive service radius from our hub to a customer's home averaging two hours of driving time, each reconditioning facility is able to cover a large geographic range and service the surrounding metropolitan area. We plan to grow our reconditioning center network as we expand geographically and launch new markets.
Logistics Network
The primary component of our logistics network consists of intra-city concierge personnel and inter-city third-party carriers. Shift concierges are able to transport vehicles to and from customers, while providing a customer friendly white glove experience, including delivery, disposal, and at-home test drives. This provides the benefit of a seamless experience as well as an on-site sales support agent to guide the customer through the process. Our agreements with long distance haulers allow us to combine the nodes in our network and deliver vehicles between cities. Strategically, this provides customers with a broad set of inventory and a great speed of delivery.
Financing and Vehicle Protection Products
We generate revenue by earning no obligation referral fees for selling ancillary
products to customers that purchase vehicles through the Shift platform. Since
we earn fees for the F&I products we sell, our gross profit on these items is
equal to the revenue we generate. Our current offering consists of financing
from third-party lenders, guaranteed asset protection ("GAP") waiver, vehicle
protection plans and vehicle service contracts. We plan to offer additional
third-party products to provide a wider product offering to customers and expect
these products to contribute to reaching our revenue and profitability targets.
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Factors Affecting our Business Performance
Various trends and other factors have affected and may continue to affect our
business, financial condition and operating results, including:
Deeper Market Penetration Within Our Existing Markets
We believe that there remains a substantial opportunity to capture additional market share within our existing service areas. We've proven our ability to command a strong market share through effective marketing channels, as demonstrated by our current market share in our most established cities. We believe that with effective brand marketing, we will be able to reach similar market penetration in our other geographic markets.
Expansion into New Markets
We believe that a phased, capital efficient expansion model results in the most cost-effective new market launch strategy in the industry. Our approach to market expansion is to implement controlled launches to expand our existing service territory. This approach both bolsters our existing markets (with new inventory being acquired in nearby cities), while simultaneously providing the new market with the local talent and resources required for a successful launch.
Improvements in Technology Platform
We are constantly investing in our technology platform to improve both customer experience and our business performance. We regularly implement changes to our software to help customers find the right car for them, while the machine learning component of our inventory and pricing model ensures we get the right cars at the right price. As our algorithms evolve, we are able to better monetize our inventory of vehicles through better pricing, while simultaneously customers are much more likely to purchase a car on our website, thus driving higher demand and sales volume.
Improvements in Reconditioning Processes
We learned early on from our experience in the used car sales business that to
be a reliable used car resource with desirable inventory for all customer types,
we needed to control our own reconditioning processes. Our reconditioning
program has constantly improved over the course of our history, and we are happy
with what we have achieved. Each unit of our inventory is reconditioned with a
focus on safety first, while optimizing for repairs that will have the highest
return on investment ("ROI"). We believe that our network of reconditioning
centers and connecting logistics routes have excess capacity, which we plan to
utilize as we increase retail sales volumes. Increasing capacity utilization
will positively affect gross profit per unit by reducing per unit overhead
costs. While 2020 and early 2021 were impacted by higher outsourced
reconditioning costs, we continued to increase the efficiency of our
reconditioning operations in the latter half of 2021 by expanding our in-house
reconditioning capabilities and reducing the use of third party reconditioning
in mature markets.
Growth in Other Revenue from Existing Revenue Streams
We have made great strides over the past two years developing our "other revenue" streams, which comprise the financing and vehicle protection products that we can offer on our digital financing platform, and other ancillary products. We have invested in the technology, as well as the sales team, to increase the likelihood that consumers will purchase ancillary products in connection with the sale of a vehicle, and we see more opportunity for additional revenue within our existing channels purely from further expansion of our attach rates for our entire financing and vehicle protection product suite.
Growth in Other Revenue from Expansion of Product Offerings
We see great opportunity to further expand our other revenue streams through
additional product offerings beyond the existing offerings on our platform.
These incremental revenue streams will come in the form of on-boarding new
lending partners to our existing loan program, as well as introducing entirely
new financing and vehicle protection products to offer our customers. We intend
to continue to grow this business segment to service every addressable need of
our customers during the vehicle purchase process.
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Seasonality
We expect our quarterly results of operations, including our revenue, gross profit, profitability, if any, and cash flow to vary significantly in the future, based in part on, among other things, consumers' car buying patterns. We have typically experienced higher revenue growth rates in the second and third quarters of the calendar year than in each of the first or fourth quarters of the calendar year. We believe these results are due to seasonal buying patterns driven in part by the timing of income tax refunds, which we believe are an important source of car buyer down payments on used vehicle purchases. We believe that continued investments in growth, including effective marketing and new market entry, will allow us to maintain sales growth through seasonality. However, we recognize that in the future our revenues may be affected by these seasonal trends (including any disruptions to normal seasonal trends arising from the COVID-19 pandemic), as well as cyclical trends affecting the overall economy, specifically the automotive retail industry.
Impact of COVID-19
InMarch 2020 , theWorld Health Organization declared a global pandemic related to the rapidly growing outbreak of a novel strain of coronavirus known as COVID-19, and in the following weeks, shelter-in-place ordinances were put into effect in regions where Shift operates. We saw a slowing of vehicle sales immediately following the shelter-in-place ordinances in March; however, within five weeks, we were back near our pre-COVID-19 weekly sales volumes. Although the ultimate impacts of COVID-19 remain uncertain, a 2020 survey found that 46% ofU.S. adults surveyed plan to use their cars more often and public transportation less often in the future. Additionally, the pandemic has accelerated trends of online adoption more broadly as consumers seek to avoid physical retail locations. We believe that this global pandemic will push people to look to alternative means of personal transportation, and our product is well suited to provide customers with a safe, clean means of transportation, through our contactless purchase and delivery processes. Therefore, while it remains possible that sustained or deepened impact on consumer demand resulting from COVID-19 or the related economic recession could negatively impact Shift's performance, we believe that Shift is well positioned to weather the pandemic. In 2021, pandemic-related economic stimulus and constraints in the supply of new and used vehicles have increased demand and pricing for our products, while labor shortages have abated since the initial pandemic lockdowns.
Ultimately, the magnitude and duration of the impact to Shift's operations is
impossible to predict due to:
•uncertainties regarding the duration of the COVID-19 pandemic and how long
related disruptions will continue;
•the impact of governmental orders and regulations that have been, and may in
the future be, imposed;
•the impact of COVID-19 on wholesale auctions, state DMV titling and
registration services and other third parties on which we rely;
•uncertainties related to the impact of COVID-19 variants and government actions
that that may be taken in response;
•uncertainties as to the impact of vaccination campaigns underway in key
markets; and
•potential deterioration of economic conditions in
could have an adverse impact on discretionary consumer spending.
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Key Operating Metrics
We regularly review a number of metrics, including the following key metrics, to evaluate our business, measure our progress and make strategic decisions. Our key operating metrics measure the key drivers of our growth, including opening new hubs, increasing our brand awareness through unique site visitors and continuing to offer a full spectrum of used vehicles to service all types of customers. Ecommerce Units Sold We define ecommerce units sold as the number of vehicles sold to customers in a given period, net of returns. We currently have a seven-day, 200 mile return policy. The number of ecommerce units sold is the primary driver of our revenues and, indirectly, gross profit, since ecommerce unit sales enable multiple complementary revenue streams, including all financing and protection products. We view ecommerce units sold as a key measure of our growth, as growth in this metric is an indicator of our ability to successfully scale our operations while maintaining product integrity and customer satisfaction.
Wholesale Units Sold
We define wholesale units sold as the number of vehicles sold through wholesale channels in a given period. While wholesale units are not the primary driver of revenue or gross profit, wholesale is a valuable channel as it allows us to be able to purchase vehicles regardless of condition, which is important for the purpose of accepting a trade-in from a customer making a vehicle purchase from us, and as an online destination for consumers to sell their cars even if not selling us a car that meets our retail standards.
Ecommerce Average Sale Price
We define ecommerce average sale price ("ASP") as the average price paid by a
customer for an ecommerce vehicle, calculated as ecommerce revenue divided by
ecommerce units. Ecommerce average sale price helps us gauge market demand in
real-time and allows us to maintain a range of inventory that most accurately
reflects the overall price spectrum of used vehicle sales in the market. We
believe this metric provides transparency and is comparable to our peers.
Wholesale Average Sale Price
We define wholesale average sale price as the average price paid by a customer for a wholesale vehicle, calculated as wholesale revenue divided by wholesale units. We believe this metric provides transparency and is comparable to our peers. Gross Profit per Unit We define gross profit per unit as the gross profit for ecommerce, other, and wholesale, each of which divided by the total number of ecommerce units sold in the period. We calculate gross profit as the revenue from vehicle sales and services less the costs associated with acquiring and reconditioning the vehicle prior to sale. Gross profit per unit is primarily driven by ecommerce vehicle revenue, which generates additional revenue through attachment of our financing and protection products, and gross profit generated from wholesale vehicle sales. We present gross profit per unit from our three revenues streams as Ecommerce gross profit per unit, Wholesale gross profit per unit and Other gross profit per unit.
Average Monthly Unique Visitors
We define a monthly unique visitor as an individualwho has visited our website within a calendar month, based on data collected on our website. We calculate average monthly unique visitors as the sum of monthly unique visitors in a given period, divided by the number of months in that period. To classify whether a visitor is "unique", we dedupe (a technique for eliminating duplicate copies of repeating data) each visitor based on email address and phone number, if available, and if not, we use the anonymous ID which lives in each user's internet cookies. This practice ensures that we do not double-count individualswho visit our website multiple times within a month. We view average monthly unique visitors as a key indicator of the strength of our brand, the effectiveness of our advertising and merchandising campaigns and consumer awareness.
Average Days to Sale
We define average days to sale as the number of days between Shift's acquisition
of a vehicle and sale of that vehicle to a customer, averaged across all
ecommerce units sold in a period. We view average days to sale as a useful
metric in understanding the health of our inventory.
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Ecommerce Vehicles Available for Sale
We define ecommerce vehicles available for sale as the number of ecommerce vehicles in inventory on the last day of a given reporting period. Until we reach an optimal pooled inventory level, we view ecommerce vehicles available for sale as a key measure of our growth. Growth in ecommerce vehicles available for sale increases the selection of vehicles available to consumers, which we believe will allow us to increase the number of vehicles we sell. Moreover, growth in ecommerce vehicles available for sale is an indicator of our ability to scale our vehicle purchasing, inspection and reconditioning operations.
Number of Regional Hubs
We define a hub as a physical location at which we recondition and store units
bought and sold within a market. Because of our omni-channel fulfillment model
with our on-demand delivery test drive offering, we are able to service
super-regional areas with a radius of approximately two hours of driving time
from a single hub location. This is a key metric as each hub expands our service
area inspection, reconditioning and storage capacity.
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Results of Operations
The following table presents our revenue, gross profit, and unit sales
information by channel for the periods indicated:
Years ended
2021 2020 Change
Revenue:
Ecommerce vehicle revenue, net$ 538,387 $ 158,037 240.7 % Other revenue, net 22,633 6,390 254.2 % Wholesale vehicle revenue 75,849 31,291 142.4 % Total revenue$ 636,869 $ 195,718 225.4 % Cost of sales: Ecommerce vehicle cost of sales$ 513,124 $ 153,914 233.4 % Wholesale vehicle cost of sales 74,957 29,623 153.0 % Total cost of sales$ 588,081 $ 183,537 220.4 % Gross profit: Ecommerce vehicle gross profit$ 25,263 $ 4,123 512.7 % Other gross profit 22,633 6,390 254.2 % Wholesale vehicle gross profit 892 1,668 (46.5) % Total gross profit$ 48,788 $ 12,181 300.5 % Unit sales information: Ecommerce vehicle unit sales 23,251 9,497 144.8 % Wholesale vehicle unit sales 7,067 3,638 94.3 % Average selling prices per unit ("ASP"): Ecommerce vehicles$ 23,155 $ 16,641 39.1 % Wholesale vehicles$ 10,733 $ 8,601 24.8 % Gross profit per unit(1): Ecommerce gross profit per unit $ 1,087$ 434 150.5 % Other gross profit per unit 973 673 44.6 % Wholesale gross profit per unit 38 176 (78.4) % Total gross profit per unit $ 2,098$ 1,283 63.5 % Non-financial metrics Average monthly unique visitors 659,358 369,292 78.5 % Average days to sale 54 55 (1.8) % Ecommerce vehicles available for sale, end of period 4,337 2,378 82.4 % Number of regional hubs, end of period 9 6 50.0 % ____________ (1)Gross profit per unit is calculated as gross profit for ecommerce, other and wholesale, each of which divided by the total number of ecommerce units sold in the period. 50
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We present operating results down to gross profit from three distinct revenue
channels:
Ecommerce Vehicles: The ecommerce channel within our Retail segment represents
sales of used vehicles directly to our customers through our website.
Other: The other channel within our Retail segment represents fees earned on
sales of value-added products associated with the sale of ecommerce vehicles.
Wholesale Vehicles: The wholesale channel is the only component of our Wholesale
segment and represents sales of used vehicles through wholesale auctions.
Year endedDecember 31, 2021
Ecommerce Vehicle Revenue, Net
Ecommerce vehicle revenue increased by$380.4 million , or 240.7%, to$538.4 million during the year endedDecember 31, 2021 , from$158.0 million in the comparable period in 2020. This increase was primarily driven by an increase in ecommerce unit sales, as we sold 23,251 ecommerce vehicles in the year endedDecember 31, 2021 , compared to 9,497 ecommerce vehicles in the year endedDecember 31, 2020 . The increase in unit sales was driven by increased investment in marketing and by increased inventory units available for sale. The increase in sellable inventory levels was partly due to investments that increased our reconditioning throughput. The increase in ecommerce vehicle revenue was also partly due to an increase in ecommerce ASP, which was$23,155 for the year endedDecember 31, 2021 , compared to$16,641 for the year endedDecember 31, 2020 . This increase in ecommerce ASP was primarily a reflection of changes to our inventory mix as well as an increase in demand for used vehicles coupled with lower than average inventory levels across the auto market as a whole.
Other Revenue, Net
Other revenue increased by$16.2 million , or 254.2%, to$22.6 million during the year endedDecember 31, 2021 , from$6.4 million in the comparable period in 2020. This increase was primarily due to strategic investments to enhance our ancillary products to better monetize our growing unit sales.
Wholesale Vehicle Revenue
Wholesale vehicle revenue increased by$44.6 million , or 142.4%, to$75.8 million during the year endedDecember 31, 2021 , from$31.3 million in the comparable period in 2020. The increase was primarily due to an increase in wholesale unit sales as we sold 7,067 wholesale vehicles in the year endedDecember 31, 2021 , compared to 3,638 wholesale vehicles during the year endedDecember 31, 2020 . This increase in wholesale vehicle revenue was also partly due to a 24.8% increase in wholesale ASP.
Cost of Sales
Cost of sales increased by$404.5 million , or 220.4%, to$588.1 million during the year endedDecember 31, 2021 , from$183.5 million in the comparable period in 2020. The increase was primarily due to an increase in unit sales as we sold 30,318 total vehicles in the year endedDecember 31, 2021 , compared to 13,135 total vehicles in the year endedDecember 31, 2020 . The remainder of the increase is due to increased buying and selling prices in the used auto market as a whole, caused by constrained supplies of new and used vehicles. 51
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Ecommerce Vehicle Gross Profit
Ecommerce vehicle gross profit increased by$21.1 million , or 512.7%, to$25.3 million during the year endedDecember 31, 2021 , from$4.1 million in the comparable period in 2020. The increase was primarily driven by an increase in ecommerce units sold, as described in "Ecommerce Vehicle Revenue, Net" above. The increase in ecommerce vehicle gross profit was also partly due to an increase in ecommerce gross profit per unit, which grew to$1,087 per unit for the year endedDecember 31, 2021 , from$434 per unit in the comparable period in 2020. The increase in ecommerce gross profit per unit was largely driven by lower reconditioning costs resulting from decreased use of third party services and increased efficiency of internal reconditioning. Ecommerce vehicle gross profit also benefited from favorable conditions in the used auto market leading to favorable pricing. Other Gross Profit Other gross profit increased by$16.2 million , or 254.2%, to$22.6 million during the year endedDecember 31, 2021 , from$6.4 million in the comparable period in 2020. Other gross profit per unit increased to$973 during the year endedDecember 31, 2021 , from$673 per unit in the comparable period in 2020. Other revenue consists of 100% gross margin products for which gross profit equals revenue. Therefore, changes in other gross profit and the associated drivers are identical to changes in other revenue and the associated drivers.
Wholesale Vehicle Gross Profit
Wholesale vehicle gross profit decreased by$0.8 million , or 46.5%, to$0.9 million during the year endedDecember 31, 2021 , from$1.7 million in the comparable period in 2020. The decrease was primarily driven by a decrease in wholesale gross profit per unit, which shrank to$38 per unit for the year endedDecember 31, 2021 , from$176 in the comparable period in 2020. During the year endedDecember 31, 2020 , we sold a fleet of newer vehicles that had been purchased from a defunct rental car business on favorable terms, which increased the average wholesale margin in the comparable period. Components of SG&A Years ended December 31, 2021 2020 Change ($ in thousands) Compensation and benefits(1)$ 103,871 $ 33,565 209.5 % as a % of revenue 16.3 % 17.1 % Marketing expenses 49,807 23,271 114.0 % as a % of revenue 7.8 % 11.9 % Other costs(2) 66,377 27,060 145.3 % as a % of revenue 10.4 % 13.8 % Total selling, general and administrative expenses$ 220,055 $ 83,896 162.3 % as a % of revenue 34.6 % 42.9 % ____________ (1)Compensation and benefits includes all payroll and related costs, including benefits, payroll taxes and equity-based compensation, except those related to preparing vehicles for sale, which are included in cost of sales, and those related to the development of software products for internal use, which are capitalized to software and depreciated over the estimated useful lives of the related assets. (2)Other costs include all other selling, general and administrative expenses such as hub operating costs, vehicle shipping costs for internal purposes, corporate occupancy, professional services, registration and licensing, and IT expenses. Selling, general and administrative expenses increased by$136.2 million , or 162.3%, to$220.1 million during the year endedDecember 31, 2021 , from$83.9 million in the comparable period in 2020. The increase was partly due to an increase in compensation costs of$70.3 million , driven by the increase in average headcount from 569 to 1,037. The increase was also partly due to the increase in marketing expense of$26.5 million , which resulted from continued investment in brand marketing and opportunistic discretionary spending to leverage unusually favorable conditions in the used auto market. Lastly, other costs increased by$39.3 million due primarily to increased selling costs and costs associated with being a public company such as increased accounting, compliance, and legal costs. 52
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Selling, General, and Administrative expenses have decreased as a percentage of revenue as the Company increases in scale and begins to achieve operating leverage. The decrease in marketing expense as percentage of revenue is also due to investments in increasing brand awareness, which in turn increase the effectiveness of our other marketing channels.
Liquidity and Capital Resources
Sources of liquidity
Our main source of liquidity is cash generated from financing activities. Cash generated from financing activities since the Merger primarily includes proceeds from the Merger and PIPE financing completed inOctober 2020 , issuance of the Convertible Senior Notes, proceeds from the Flooring Line of Credit ("Ally FLOC") facility with Ally and proceeds from the Flooring Line of Credit ("FLOC") facility withU.S. Bank in 2021 and 2020. OnOctober 11, 2021 , the FLOC withUS Bank expired and was repaid in full. Refer to Note 7 - Borrowings and Note 10 - Related Party Transactions in our "Notes to Consolidated Financial Statements" for additional information. OnOctober 13, 2020 ,Insurance Acquisition Corp. ("IAC"), an entity listed on the Nasdaq Capital Market under the symbol "INSU", acquiredShift Platform, Inc. , formerly known asShift Technologies, Inc. , withShift Platform, Inc. continuing as the surviving entity. The public company resulting from the merger was renamedShift Technologies, Inc. , which we refer to as Shift, we, us, our, SFT, or the Company. Upon the consummation of the Merger, Shift received approximately$300.9 million net of fees and expenses. See Note 3 - Merger in the "Notes to Consolidated Financial Statements" for additional details regarding this transaction. OnMay 27, 2021 , the Company completed a private offering of its 4.75% Convertible Senior Notes due 2026 (the "Notes"). The aggregate principal amount of the Notes sold in the offering was$150.0 million . The Notes accrue interest payable semi-annually in arrears onMay 15 andNovember 15 of each year, beginning onNovember 15, 2021 , at a rate of 4.75% per annum. The Notes will mature onMay 15, 2026 , unless earlier converted, redeemed or repurchased by the Company. See Note 7 - Borrowings in the "Notes to Consolidated Financial Statements" for additional details regarding the Notes. The Company used approximately$28.4 million of the net proceeds from the sale of the Notes to pay the cost of the Capped Call Transactions (see Note 8 - Stockholders' Equity), and is using the remaining proceeds for working capital and general corporate purposes. OnDecember 9, 2021 , the Company entered into a new$100.0 million flooring line of credit facility withAlly Bank to finance its used vehicle inventory. Borrowings under the Ally FLOC bear interest at the Prime Rate (as defined in the agreement) plus 1.50%. See Note 7 - Borrowings in the "Notes to Consolidated Financial Statements" for additional details regarding the Ally FLOC. Since inception, the Company has generated recurring losses which has resulted in an accumulated deficit of$440.7 million as ofDecember 31, 2021 . During the year endedDecember 31, 2021 , the Company had negative operating cash flows of$211.0 million . In the future, we may attempt to raise additional capital through the sale of equity securities or through equity-linked or debt financing arrangements. If we raise additional funds by issuing equity or equity-linked securities, the ownership of our existing stockholders will be diluted. If we raise additional financing by incurring indebtedness, we will be subject to increased fixed payment obligations and could also be subject to restrictive covenants, such as limitations on our ability to incur additional debt, and other operating restrictions that could adversely impact our ability to conduct our business. Any future indebtedness we incur may result in terms that could be unfavorable to equity investors.
Debt obligations
See Note 7 - Borrowings of the "Notes to Consolidated Financial Statements" for
information regarding the Company's debt obligations.
Cash Flows - Years ended
The following table summarizes our cash flows for the periods indicated:
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Years ended December 31,
2021 2020
($ in thousands)
Cash Flow Data:
Net cash, cash equivalents, and restricted cash used in operating
activities $ (211,046) $ (85,852)
Net cash, cash equivalents, and restricted cash used in investing
activities
(14,143) (4,879) Net cash, cash equivalents, and restricted cash provided by financing activities 183,989 281,696 Operating Activities For the year endedDecember 31, 2021 , net cash used in operating activities was$211.0 million , an increase of$125.2 million from cash used in operating activities of$85.9 million for the year endedDecember 31, 2020 . The increase is primarily due to an increase in net loss of$107.1 million , partly offset by an increase in share based compensation expense of$22.5 million . The increase was also partly due to an increase in net inventory purchases of$42.8 million . The impact of net inventory purchases on our liquidity position was offset by a$71.0 million increase in cash provided by net borrowings on flooring line of credit facilities, which are included in financing activities on the accompanying consolidated statements of cash flows.
Investing Activities
For the year ended
internal-use software costs and purchases of capital equipment.
For the year ended
internal-use software costs and purchases of capital equipment.
Financing Activities
For the year endedDecember 31, 2021 , net cash provided by financing activities was$184.0 million , primarily due to$143.8 million in net proceeds from issuance of the Convertible Senior Notes and net proceeds from the flooring line of credit facilities of$68.8 million , offset by$28.4 million in premiums paid for the Capped Call Transactions (See Note 7 - Borrowings and Note 8 - Stockholders' Equity of the "Notes to Consolidated Financial Statements"). For the year endedDecember 31, 2020 , net cash provided by financing activities was$281.7 million , primarily due to net proceeds from the Merger and PIPE financing of$300.9 million , offset by net repayment of the Delayed Draw Term Loan of$12.5 million . Contractual Obligations As ofDecember 31, 2021 , the Company reported a liability for vehicles acquired under an OEM program of$3.6 million . The Company records inventory received under the arrangement with the OEM equal to the amount of the liability due to the OEM to acquire such vehicles. The liability due to the OEM provider for such acquired vehicles is equal to the OEM's original acquisition price. The Company has various operating leases of real estate and equipment. See Note 11 - Commitments and Contingencies to the accompanying consolidated financial statements for further discussion of the nature and timing of cash obligations due under these leases.
Off-Balance Sheet Arrangements
We are not a party to any off-balance sheet arrangements, including guarantee
contracts, retained or contingent interests, certain derivative instruments and
variable interest entities that either have, or are reasonably likely to have, a
current or future material effect on our consolidated financial statements.
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Critical Accounting Policies and Estimates
The preparation of financial statements in accordance with accounting principles generally accepted inthe United States requires management to make estimates and assumptions about future events that affect amounts reported in our consolidated financial statements and related notes, as well as the related disclosure of contingent assets and liabilities at the date of the financial statements. Management evaluates its accounting policies, estimates and judgments on an on-going basis. Management bases its estimates and judgments on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions and conditions. Critical accounting policies are those policies that management believes are very important to the portrayal of our financial position and results of operations, and that require management to make estimates that are difficult, subjective or otherwise complex. Based on these criteria, management has identified the following critical accounting policies:
Revenue
We recognize revenue upon transfer of control of goods or services to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. Control passes to the customer at the time of delivery or pick-up. We may collect sales taxes and other taxes from customers on behalf of governmental authorities at the time of sale as required. These taxes are accounted for on a net basis and are not included in revenues or cost of sales.
We have determined that a portion of the value associated with warrant
consideration paid to Lithia, as a customer of Shift, should be treated as
contra-revenue.
We recognize revenue at a point in time as described below.
Ecommerce Vehicle Revenue
We sell used vehicles to retail customers through our ecommerce platform. The price for used vehicles is the stand-alone selling price as set forth in the customer contract. Customers frequently trade-in their existing vehicle to apply toward the price of a used vehicle, which is included in the transaction price as non-cash consideration at the stated trade-in value within the contract. We satisfy our performance obligation and recognize revenue for sales of ecommerce vehicles at a point in time when the vehicles are delivered to or picked up by the customer. The revenue recognized by Shift is the amount equal to the stand-alone selling price, including any service fees, less any discounts and an estimate for returns. Revenue excludes any sales taxes, title and registration fees, and other government fees that are collected from customers. We receive payment for vehicle sales directly from the customer at the time of sale or, if the customer uses financing, from third-party financial institutions within a short period of time following the sale. Any payments received prior to the delivery or pick-up of used vehicles are recorded as deferred revenue within accrued liabilities on the consolidated balance sheets until delivery or pick-up occurs. Our return policy allows customers to initiate a return during the first seven days or 200 miles after delivery (whichever comes first). Ecommerce vehicle revenue is recognized net of a reserve for returns, which is estimated using historical experience and trends. The returns reserve was$1.0 million atDecember 31, 2021 and immaterial atDecember 31, 2020 .
Other Revenue
We provide buyers on our platform with options for financing and vehicle protection products. All such services are provided by unrelated third-party vendors, with whom we have agreements giving us the right to offer such services on its platform. When a buyer selects a service from these providers, we earn a commission based on the actual price paid or financed, respectively. We concluded that we are an agent for these transactions because we do not control the products before they are transferred to the customer and our risk related to these products is limited to the commissions that we receive. Accordingly, we recognize commission revenue at the time of sale. In the event that a customer cancels certain finance and insurance products, the Company may be obligated to return all or part of its commission. Other revenue is recognized net of a reserve for cancellations, which is estimated using historical experience and trends. The reserve for estimated cancellations atDecember 31, 2021 and 2020 was$2.3 million and$0.8 million , respectively, and is presented in accrued expenses and other current liabilities on the consolidated balance sheets. 55
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Wholesale Vehicle Revenue
We also sell vehicles through wholesale auctions. These vehicles sold to wholesalers are primarily acquired from customerswho trade-in their existing vehicles and such vehicles do not meet our quality standards to list and sell through our website. We satisfy our performance obligation and recognize revenue for wholesale vehicle revenue at a point in time when the vehicle is sold at auction or directly to a wholesaler. The transaction price is typically due and collected within one week of the date of the sale. InDecember 2018 , we agreed to sell cars to Lithia Motors, Inc. under a one-sided marketplace ("OSM") program whereby we acquire cars primarily from consumers in theOxnard, California market and re-sell them to Lithia. We recognize revenue at the agreed upon purchase price stated in the contract, plus charges such as repairs. Payment is normally made within two weeks of delivery.
Costs to obtain or fulfill a contract
We elected, as a practical expedient, to expense sales commissions when incurred because the amortization period would have been less than one year. These costs are recorded within selling, general and administrative expenses in the consolidated statements of operations and comprehensive loss.
Valuation of Inventory
Inventory consists of used vehicles, primarily acquired through auction and individual sellers, as well as some vehicles sourced locally through the trade-in program of an OEM. Inventory is stated at the lower of cost or net realizable value. Acquisition costs and vehicle reconditioning costs, including parts, applied labor, unapplied labor, inbound transportation costs and other incremental costs, are allocated to inventory via specific identification and standard costing, which approximate average costs. Net realizable value is the estimated selling price less costs to complete, dispose and transport the vehicles. Estimated selling price is derived from historical data and trends, such as sales price and average days to sell similar vehicles, along with independent market resources. To the extent that there are significant changes to estimated vehicle selling prices or decreases in demand for used vehicles, there could be significant adjustments to reflect our inventory at net realizable value.
Determination of the Fair Value of Common Stock
A public trading market for our common stock was established in connection with the completion of the Merger. As such, it is longer necessary for our board of directors to estimate the fair value of our common stock in connection with our accounting for granted stock options and other such awards we may grant, as the fair value of our common stock is now determined based on the quoted market price of our common stock. Prior to the Merger, there was no public market for our common stock. The estimated fair value of our common stock was determined by our board of directors as of the date of each option grant with input from management, considering our most recently available third-party valuations of common stock, and our board of directors' assessment of additional objective and subjective factors that it believed were relevant and which may have changed from the date of the most recent valuation through the date of the grant. These third-party valuations were performed in accordance with the guidance outlined in theAmerican Institute of Certified Public Accountants' Accounting and Valuation Guide , Valuation of Privately-Held-Company Equity Securities Issued as Compensation. The assumptions underlying these valuations were highly complex and subjective and represented management's best estimates, which involved inherent uncertainties and the application of management's judgment. As a result, if we had used significantly different assumptions or estimates, the fair value of our common stock and our stock-based compensation expense could be materially different. Income Taxes We account for income taxes using the asset and liability method. We recognize deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. 56
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In evaluating the ability to recover our deferred income tax assets, we consider all available positive and negative evidence, including our operating results, ongoing tax planning and forecasts of future taxable income on a jurisdiction-by-jurisdiction basis. In the event that we determine we would be able to realize our deferred tax assets in the future in excess of their net recorded amount, we would make an adjustment to the valuation allowance that would reduce the provision for income taxes. Conversely, in the event that all or part of the net deferred tax assets are determined not to be realizable in the future, an adjustment to the valuation allowance would be charged to earnings in the period when such determination is made. As ofDecember 31, 2021 andDecember 31, 2020 , respectively, we recorded a full valuation allowance on our deferred tax assets. Tax benefits related to uncertain tax positions are recognized when it is more likely than not that a tax position will be sustained during an audit. Interest and penalties related to unrecognized tax benefits are included within the provision for income tax.
Stock-Based Compensation Expense
We classify stock-based awards granted in exchange for services as either equity awards or as liability awards. Stock-based compensation expense related to awards to employees and non-employees are measured at the grant date based on the fair value of the award. The calculation of the stock-based compensation expense for stock options is based on the Black-Scholes valuation model, which requires significant estimates including the expected volatility of our common stock, expected dividend yield, option term and risk-free rate. The fair value of the award that is ultimately expected to vest is expensed on a straight-line basis over the requisite service period, which is generally the vesting period. We elect to account for forfeitures as they occur by reversing compensation cost if the award is forfeited.
Determination of the Fair Value of Financial Instruments
Escrow Shares
The former Legacy Shift stockholders were entitled to receive up to an additional 6,000,218 shares of the Company's common stock (the "Escrow Shares"). The Escrow Shares were issued to a third-party escrow agent in connection with the closing of the Merger, with each former Legacy Shift stockholder listed as beneficiary in proportion to their percentage ownership of Legacy Shift common shares immediately prior to the Merger. The Escrow Shares will be released to the beneficiaries if the price of our common stock meets certain thresholds in the 30 months following the closing of the Merger (see Note 3 - Merger in the accompanying consolidated financial statements for additional information). The Escrow shares will be returned to the Company if these thresholds are not reached. OnOctober 13, 2021 , 50% of the Escrow Shares were returned to the Company as our common stock did not meet the required threshold for release of the first tranche. The Escrow Shares meet the accounting definition of a derivative financial instrument. Prior toOctober 13, 2021 , as the number of Escrow Shares that would ultimately be released was partially dependent on variables (namely, the occurrence of a change in control) that were not valuation inputs to a "fixed for fixed" option or forward contract, the Escrow Shares were not considered to be indexed to the Company's common stock and were therefore classified as a liability. The Company's obligation to release the Escrow Shares upon achievement of the milestones was recorded to financial instruments liability on the consolidated balance sheet at fair value as of the date of the Merger, with subsequent changes in fair value recorded in change in fair value of financial instruments on the consolidated statements of operations and comprehensive loss. Following the return of the first tranche of the Escrow Shares to the Company onOctober 13, 2021 , the Escrow Shares met the "fixed for fixed" option or forward contract criteria for equity classification. As such, changes in fair value of the Escrow Shares prior toOctober 13, 2021 were recorded in change in fair value of financial instruments on the consolidated statements of operations and comprehensive loss. The fair value of the shares onOctober 13, 2021 was reclassified to additional paid-in capital from financial instruments liability on the consolidated balance sheet. The fair value of the Escrow Shares was determined using aMonte Carlo valuation model, which requires significant estimates including the expected volatility of our common stock. Convertible Notes OnMay 27, 2021 , the Company completed a private offering of its 4.75% Convertible Senior Notes due 2026 (the "Notes"). The aggregate principal amount of the Notes sold in the offering was$150.0 million . The Notes accrue interest, payable semi-annually in arrears onMay 15 andNovember 15 of each year, beginning onNovember 15, 2021 , at a rate of 4.75% per year. The Notes will mature onMay 15, 2026 , unless earlier converted, redeemed or repurchased by the Company. Please see Note 7 - Borrowings to the accompanying consolidated financial statements for additional information. 57
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The Notes contain conversion and redemption features that were evaluated for separate accounting as bifurcated embedded derivatives under applicable GAAP. The conversion feature was determined to meet the scope exception for embedded features indexed to the Company's common stock, and therefore was not accounted for separately from the host debt instrument. The redemption feature was determined to meet the scope exception for embedded features that are clearly and closely related to the host instrument, and therefore was not accounted for separately from the host debt instrument. The Notes are presented on the consolidated balance sheets at par value, net of unamortized discounts and issuance costs.
Capped Call Transactions
OnMay 27, 2021 , in connection with the issuance of the Notes (see Note 7 - Borrowings), the Company consummated privately negotiated capped call transactions (the "Capped Call Transactions") with certain of the initial purchasers, their respective affiliates and other counterparties (the "Capped Call Counterparties"). The Capped Call Transactions initially cover, subject to anti-dilution adjustments substantially similar to those applicable to the Notes, the number of the Company's Class A common shares underlying the Notes. The Capped Call Transactions are expected generally to reduce the potential dilution to holders of the Company's Class A common stock upon conversion of the Notes and/or offset the potential cash payments that the Company could be required to make in excess of the principal amount of any converted Notes upon conversion thereof, with such reduction and/or offset subject to a cap. The Capped Call Transactions are settled from time to time upon the conversion of the Notes, with a final expiration date ofMay 15, 2026 . The Capped Call Transactions are settled in the same proportion of cash and stock as the converted Notes. The proportion of cash and stock used to settle the Notes is at the discretion of the Company. The Capped Call Transactions are separate transactions entered into by the Company with the Capped Call Counterparties, are not part of the terms of the Notes and will not change any holder's rights under the Notes. Holders of the Notes will not have any rights with respect to the Capped Call Transactions. The Company used approximately$28.4 million of the net proceeds from the offering of the Notes to pay the cost of the Capped Call Transactions. The Capped Call Transactions do not meet the criteria for separate accounting as a derivative as they are indexed to the Company's stock. The premiums paid for the Capped Call Transactions have been included as a net reduction to additional paid-in capital on the consolidated balance sheets.
Recently Issued Accounting Standards
See "Note 2 - Recently Issued Accounting Standards" in Part II, Item 8 of this
Annual Report on Form 10-K for additional information.
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