ENVX - Enovix: Shorts Could Be Playing With Dynamite

2023-05-19 10:57:10 ET

Summary

• Enovix has developed a value proposition that is set to capture a massive portion of the lithium-ion battery market.
• The management team encompassed by board chair T.J. Rodgers and Raj Talluri should provide investors with confidence that the company can deliver on its promises.
• Short-sellers could be in trouble as shares short as a percentage of float reaches 20% and continues to grow.
• Enovix is undervalued when considering that there trading 13x 2025 estimated sales.

Introduction: Overview of a Controversial Company

Enovix (ENVX) is arguably one of the most controversial small cap stocks in financial media today. One side argues (bulls) that Enovix, backed by Silicon Valley legend T.J. Rodgers, will produce a groundbreaking technological advancement in lithium-ion batteries that will create so much value in the global marketplace that they could become as big as NVIDIA (NVDA). The other side (bears) argues that Enovix is overvalued because there is intense competition to achieve such innovation within the lithium-ion battery market. Furthermore, the price performance among other battery stocks has been much worse than Enovix, leading some people to believe that the company is overvalued.

The divergence in price returns has led shorts to smell blood as the company currently has around 20% of its entire float being shorted. A number that has been growing exponentially.

The rising short interest has generated significant debate surrounding the future of the battery manufacturer, with many people being extremely bullish, while others having an extremely bearish view on the company. The purpose of this article is to explain why I'm bullish on Enovix and that shorts could be playing with dynamite if short interest keeps increasing. Firstly, in an industry where you have to bet the jockey and not necessarily the horse, the management team provides me with a lot of confidence that they'll be able to deliver on its strategic initiatives. Secondly, the technology has already been developed, it's only a matter of streamlining their manufacturing to meet their rising customer demand. Finally, Enovix has already begun to show signs that they'll be able to meet their production estimates in 2024 and 2025. Overall, although bears are correct in that the investment is highly speculative, the realm of probabilities favors a bullish outcome.

Management Overview

Since we're in the middle of an intense battery race, it is clear that investors should be betting on the jockey and not the horse. Human capital is arguably the greatest driver of who will win the race in this information-driven industry. The executive overview first begins with Enovix's chairman and largest shareholder T.J Rogers. T.J Rodgers is considered a Silicon Valley legend having found Cypress Semiconductor Corporation and having generated billions of shareholder value during his 34-year-long tenure as CEO. In addition to his success as an entrepreneur, T.J. Rodgers went on to make a series of highly successful investments in the solar energy and battery space. One of his notable investments included a $750 thousand investment into SunPower Corporation in 2001 where he became the chairman of the board. He then proceeded to lead the company to become the 2nd largest solar energy company in terms of revenue. A second notable investment of his was in 2017 when he and venture capitalist John Doerr invested $10 million and replaced the management of Enphase Energy (ENPH). The share price of Enphase has since increased from $0.92 per share when the investment was made, to around $160 per share. There is no doubt that T.J. Rodgers is an exceptional individual, however, the newly added CEO Raj Talluri is very impressive as well. Raj Talluri was the Senior VP at Micron Technology (MU) where he was responsible for the mobile business segment's profit and loss. Talluri was brought on board earlier this year with the expectation to streamline Enovix's battery operations into mass production. During his tenure as senior VP at Micron, the company's mobile business unit segment EBT grew more than any other segment in the company.

In addition to Raj's time at Micron Technology, he also worked at Qualcomm (QCOM) as a senior VP where its share price had risen 9.7% annually during his tenure. Both Raj and T.J. should provide bulls with confidence that Enovix could become a major player in the Lithium-ion battery space. Although the company's top executives come from incredible backgrounds, the employee reviews at the company have been extremely poor, with current and former employees claiming that the company mistreats their staff and has bad office politics. This of course is a problem because the company needs to be able to retain top talent (engineers notably) if they want to out-innovate their competitors and run a superior value chain.

Despite the company's underwhelming employee reviews, it should be important to highlight that there has been a management shakeup recently. Therefore, we would need to wait to assess how the new management addresses the employee work environment before baking it into our investment conclusion. Overall, I think shorts could be making a big mistake betting against both Raj and T.J.

Battery Technology: Enovix's Audacious Endeavor

Enovix has a pretty direct value proposition. The company claims it has fixed the 4 significant problems of silicon anodes used in batteries. For those unaware of the importance of silicon anodes, silicon anodes are a type of material used in some batteries, specifically in the anode part of the battery. They are made up of tiny particles of silicon and can store more energy than traditional anode materials. This is because silicon can hold more lithium ions, which are the key to generating electrical energy in a battery. However, silicon anodes can also experience swelling and cracking during charging and discharging cycles, which can reduce their effectiveness over time. Enovix proclaims that they've solved these issues with their superior battery. These improvements include:

1. First Charge Expansion: Enovix batteries have a special design that prevents them from swelling when they are charged for the first time. This is done by using a stainless-steel system around the battery and reorienting the electrodes to face a smaller side of the battery.

2. First Charge Efficiency: Enovix batteries have a process called "pre-lithiation" during manufacturing that adds extra lithium to the battery. This helps the battery perform better when it is first charged because the extra lithium can easily move to where it is needed.

3. Cycle Swelling: Enovix batteries have a built-in system that limits how much the battery can swell over time. This is important because too much swelling can damage the battery and make it less effective. Enovix batteries can limit swelling to less than 2% of the battery's thickness after 500 charging cycles.

4. Cycle Life: Enovix batteries are designed to last for a long time, even after many charging cycles. This is important because batteries that wear out quickly are not as useful and also not as environmentally friendly.

In addition to these four improvements, the company's Brakeflow technology increases the batteries' abuse tolerance and provides a whole other level of safety. The real compelling factor behind the Brakeflow technology as well as the other issues Enovix has claimed to solve is that their batteries would be arguably as good as the proclamations made about solid-state batteries. These are the type of batteries many had predicted to replace lithium-ion batteries. Further, it is estimated that solid-state batteries could take up to more than a decade to be available for sale. This means that if Enovix was able to commercialize even within the next 4-5 years, it would likely hit the global marketplace before the solid-state producers could even commercialize. This provides the company with enormous potential as it could become a major supplier to some of the largest and most important companies in the world, while also creating an inimitable type of technology that makes constituents have to play "catch-up". In summary, Enovix's proclamations are that they've built a battery for the future and one that will be used in wearables, phones, and electric vehicles. The company's innovative battery would not only place them at the top of the mountain in terms of quality batteries, but they would capture the majority of the Lithium-ion battery market which is expected to grow 33% annually and accumulate over $400 billion in aggregate revenues by 2030.

Although Enovix's technology looks promising, the real hurdle will be to commercialize them. The ability to commercialize these incredible batteries is what will determine if the company becomes a dominant global player in the battery market.

Path to Profitability: The Billion Dollar Question

The path to profitability begins with their CEO Raj Talluri and his plan to streamline the company's battery operations. The steps towards profitability appear to be to produce batteries for IoT and wearables, then mobile devices, and finally electric vehicles. Enovix has already begun building the foundation for commercialization by creating its Fab 2 facility located in Malaysia. Thus far, everything appears to be looking good in 2023. Firstly, the company has achieved a $1.46 billion revenue funnel built on customer engagement, active designs, and design wins.

Secondly, the company has beaten its production expectations in Q1 by 3500 units. This is potentially indicative that its 180 thousand unit target will be reached or even beaten.

Therefore, investors should be feeling confident based on the company's recent operational developments and their path towards eventually getting the Gen 2 Autolines operating.

Financial Analysis

The company's financials remain robust with adequate runway and financing to support the build-out of its manufacturing. The company finished Q1 with a $293 million cash balance and only went through $29 million in cash during the quarter. Additionally, Enovix obtained an additional $148 million in proceeds through a $150 million convertible debenture offering. Notably, T.J. Rodgers as well as his business partner in the Enphase turnaround John Doer purchased a portion of the offering. Finally, the company is in talks of obtaining another $70 million in non-dilutive financing to fund Gen 2 line 1 in its Malaysia location. Therefore, Enovix has plenty of capital available and financing sources to support its estimated $120 million of capital spending estimate for the year.

Valuation

Enovix is undervalued based on the fact that they've already begun to beat their production guidance, therefore, reducing the chances that the company is unable to commercialize and fail to satisfy demand. Based on my 2025 revenue estimate of $142 million, that would price the company's shares at around 13 times its 2yr forward sales. This is relatively cheap compared to the multiple that the firm is trading at today. In addition, by 2025 the company will have commercialized their IoT, wearable, and mobile batteries, reducing the majority of the uncertainty that surrounds the company today. Therefore, based on a forward outlook of less uncertainty and lower multiples, the stock is undervalued.

Base Case Price Target for End of 2025

As noted in the valuation section, my revenue estimate for 2025 is approximately $142 million. This is based on the company's timeline of getting the Gen 2 line operating and its estimated production of 9.5-18.9 million batteries, as well as factoring the opportunity costs associated with producing a mobile battery over a wearable or IoT battery. Since the company will be spending all of 2024 producing wearables and IoT batteries, I am making the assumption that in 2025 production will be around an 80/20 split between IoT and wearable batteries, and mobile device batteries. Using Lawn Love for some pricing guidance on lithium-ion batteries, I got my 2025 revenue estimate. Next, by assuming a P/S of 30x, and a market cap of $4.236 billion, I get a price target of $26.96. The base case does not include the possibility of a short squeeze or any other significant euphoric event. Based on the neutral case scenario, Investing in Enovix today and holding the stock until the end of 2025 could yield investors a 72% annual return.

Risks: Negative Market Sentiment

The greatest risk to Enovix in the near term is the much less euphoric environment that we're in relative to 2021 and even early 2022. The reason this is such a concerning risk is that positive catalysts will likely not move the needle like they would in 2021. However, if a negative catalyst or news item were to appear such as a delay in production or a competitor obtaining similar technology, the market would react much more aggressively to the downside. For this reason, I do not see Enovix taking out their 2021 highs until at least 2026 or later. The potential for big market reactions to the downside does hurt this stock's risk/reward profile, however, I'd say that the risk/reward profile for the shorts is much, much worse if short interest continues to rise.

Conclusion

To conclude my bullish thesis, Enovix has a highly competent and accomplished management team in an industry that's heavily dependent on specialized labor and human capital to deliver results. Additionally, the company has already made strides in commercializing its superior battery technology by beating its own production guidance. This bakes into my base case scenario 2025 price target of $26.96 per share and emphasizes the point that shorts could be playing with dynamite. Overall, bulls need to hang on tight because although I like what I've seen so far from Enovix, this long position is a work in progress.

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