VWAGY - NIO: Decent Upside But Economic Data Could Ruin The Rebound

2023-09-11 09:30:00 ET

Summary

• NIO is a notable EV manufacturer and tech company that has expanded its product lineup and ventured into global markets.
• The company provides electric vehicles, battery subscription services, autonomous driving technologies, power solutions, lifestyle products, and exceptional customer services.
• NIO faces challenges in the Chinese economic environment, particularly in the struggling property sector and manufacturing declines, but the EV market holds growth promise.
• We currently rate NIO as a hold, due to the current market outlook and significant headwinds.

Introduction

Founded in 2014 as NextEV and headquartered in Shanghai, China, NIO Inc. (NIO) is a notable electric vehicle (EV) manufacturer and tech company. It gained recognition with the debut of its high-performance electric concept car, the NIO EP9 in 2016.

NIO entered mass production in 2017 with the launch of the NIO ES8, an electric SUV. In 2018, the company went public on the New York Stock Exchange (NYSE). Over the years, NIO has expanded its product lineup to include models like the ES6 and EC6 and has ventured into global markets. Despite facing financial challenges in 2020, NIO received crucial support and has continued to innovate, cementing its position as a prominent player in the EV industry.

While NIO is a very promising company, we currently rate NIO as a hold. You can find out why in this in-depth article.

NIO: A Multi-Faceted Business

Before we go into NIO’s financial numbers, we would like to give a short overview of NIO’s business. Although NIO might be most known for making EVs, they do so much more than that. Let us take a look a look at the services NIO provides:

Electric Vehicles : NIO's primary business is producing high-quality, premium electric vehicles. Established in 2014, the company has introduced multiple vehicle models, such as the ES8, a seven-seater all-electric SUV; the ES6, a five-seater electric SUV; and the EC6, a five-seater premium electric coupe SUV. In 2020, NIO expanded its lineup by introducing the ET7, a cutting-edge smart electric sedan. NIO achieved a significant milestone in 2022, delivering 122,486 vehicles, reflecting an impressive 34.0% growth from the previous year.

Electric Vehicles Battery as a Service (BaaS): NIO has pioneered the electric vehicle industry by introducing a distinctive battery subscription service called Battery as a Service (BaaS). This innovative approach enables customers to purchase NIO vehicles without the battery, making the cars more cost-effective. Subsequently, customers can subscribe to a battery plan and conveniently exchange batteries at NIO's dedicated battery swap stations. NIO has ambitious plans for 2023, aiming to deploy 1,000 swap stations to enhance this service further.

Autonomous Driving Technologies : NIO has substantially invested in developing autonomous driving technologies. The company has expanded its proprietary autonomous driving system, NIO Pilot, which leverages Mobileye's advanced EyeQ4 chip to provide level 2-3 autonomous driving capabilities. With the launch of the ET7 sedan, NIO introduced an innovative autonomous driving package featuring LIDAR technology, emphasizing its commitment to cutting-edge self-driving advancements.

NIO Power Solutions: In addition to BaaS, NIO offers a range of other power solutions, including Power Home—a home charging station, Power Swap—a proprietary automated battery swap technology, and Power Mobile—a mobile charging service delivered through specially designed trucks.

NIO Life: NIO has extended its brand presence beyond vehicles by introducing NIO Life—a lifestyle brand that offers NIO users premium services and products. NIO Life encompasses many offerings, including fashion, home and living products, and gourmet food items, all designed to align with the brand's image and resonate with its discerning customer base.

NIO Services : NIO strongly emphasizes providing exceptional services to its customers. This commitment is exemplified through NIO Houses, which serve as both showrooms for their vehicles and communal spaces for NIO owners, fostering a sense of community and shared experiences among NIO enthusiasts.

It should be noted that NIO does not manufacture their vehicles themselves, but through JAC (a Chinese state-owned company). This is an interesting strategic choice, which we don’t see often. Nonetheless, NIO has been able to achieve a solid output of vehicles, and it seems to be functioning well.

China Could Be The All-Deciding Factor

With NIO being a Chinese company, it will always be at risk of influence from the Chinese government. However, our focus will be on an economic perspective of China rather than a political one.

For quite some time, China has been the center of attention for investors as they try to gauge the economic environment in the nation. The overall COVID-recovery narrative has not played out the way many people believed it would.

In short, China has been grappling with many economic challenges beyond slow growth and the need for economic support. A significant concern is the struggling property sector, which started showing issues in August 2021 and has worsened. For instance, new home prices dropped by 0.1% in June, and year-over-year sales growth plummeted by 14% in the same month.

The property sector's troubles have far-reaching effects, as real estate contributes about 30% of China's GDP . In addition, Chinese manufacturing, which briefly rebounded, is now back in contraction. In July , China's official PMI and the Caixin Manufacturing PMI indicated a decline in activity for the fourth consecutive month. Industrial production growth also slowed to 3.7% year-on-year in July.

Many of these manufacturing challenges stem from the global economy's slowdown, reducing demand for Chinese exports. Youth unemployment is another pressing issue, reaching a record high of 21.3% in June. Factors contributing to this include the impact of zero-COVID measures on service industries, crackdowns on various sectors, and China's GDP growth falling below its target in 2022.

In addition, China experienced deflation in July , with producer and consumer prices falling for the first time since November 2020. This contrasts with the global trend of rising costs and is attributed to factors such as the prolonged property slump, reduced consumer spending, declining international energy and commodity prices, a price war among car manufacturers, falling pork prices, and price cuts by consumer goods companies to clear excess stock from the pandemic.

China's economic challenges are multidimensional and extend beyond the immediate impact of COVID. These signs of weakness and official recognition of these issues may indicate a shift in China's economic growth model, possibly returning to market-oriented reforms. Market-oriented reform should benefit companies such as NIO. However, initial interventions from the Chinese government have , although they still have options left in the toolbox. In addition, history would tell us that the Chinese market should eventually get back on track despite the recent obstacles.

Now, it would also make sense to talk about the general outlook of the EV market. However, we have covered this in our BYDDF and RIVN articles. In short, the EV market is expected to grow significantly in the following years going into 2030, and the demand for everyday EV vehicles will rise significantly worldwide. This would everything else equal benefit NIO.

But What Happened In Q2?

After posting their second-quarter earnings, NIO’s stock price went on a volatile ride throughout the day. The market's primary focus likely centered on the company's guidance for the year's second half. NIO must address the shortfalls from its initial target of 240K to 250K deliveries set at the beginning of 2023 .

However, the initial reaction to NIO's guidance may have disappointed the market, as the stock declined post-earnings. Management indicated a Q3 deliveries outlook of 56K , falling in the middle of its target range. This translates to an average of approximately 17.8K monthly deliveries for August and September, notably below analysts' expectations of 60K deliveries for Q3. This suggests that investors should brace themselves for another round of underperformance.

Despite this disappointment, market participants may have already anticipated the tepid guidance, especially following the surge in July, driven by positive sentiments surrounding XPeng's ( XPEV ) partnership with Volkswagen. However, the post-earnings selloff prompted investors to assess whether NIO's ambitious Q4 outlook could fall short.

Consequently, NIO's stock dipped to levels last seen in early July, serving as a reminder of the risks associated with chasing sharp surges in unprofitable stocks. It's worth noting that I previously cautioned against pursuing the rise in my July update, even for those optimistic about NIO's delivery performance improving.

Although NIO's delivery growth performed well in July, the stock peaked in early August before the recent significant sell-off. In light of this, it's reasonable to assume that the market has factored in substantial downside risk to NIO's recovery in the second half. This could potentially present an entry point for speculative investors who believe that conditions may not deteriorate significantly from this point.

The company reported a 14.8% YoY decline in Q2 revenue and a nearly 18% sequential decline. While the vehicle gross margin improved from 5.1% in Q1 to 6.2% in Q2, the overall gross margin of 5% in TTM might have concerned investors regarding the timing of NIO's profitability goals.

There is still potential for a delayed bull thesis, given that NIO cloud scales significantly in FY24 to instill greater market confidence in its recovery narrative. However, their inability to maintain a 60K Q3 delivery guidance suggests that fierce competition in China's EV market is expected to persist. However, management remains optimistic about a Q4 performance ramp-up.

Historical Financials

Let’s take a look at NIO’s historical financials, which may help us understand where the company is headed. Over the last five years from 2018 to TTM, NIO has demonstrated impressive financial growth and operational improvement.

Starting with a revenue of $719.8 million in 2018, the company's top-line performance has soared to $6,686.3 million in the TTM, showcasing significant expansion. Similarly, the gross profit, which began at a negative -$37.2 million in 2018, has steadily turned positive, reaching $365.3 million in the TTM.

This transformation signifies enhanced efficiency in managing production costs and generating profits from core operations. Notably, the gross margin has seen a remarkable turnaround, shifting from a negative -5.17% in 2018 to a positive 5.46% in the TTM. This signifies the company's ability to cover production costs with revenue, reflecting its improved profitability and operational effectiveness over the five years.

Between 2018 and 2022, NIO underwent significant shifts in its financial performance. Notably, the company's revenue steadily climbed, soaring from $719.80 in 2018 to a substantial $6,686.30M in TTM, marking a robust expansion in its top-line figures.

However, the company's capacity to generate free cash flow followed a more erratic trajectory. It swung from a significant negative value of -$1,600M in 2018 to a positive $119.27M in 2020 and down again to -1.460M in 2022. In short, their free cash flow generation is going wrong.

Similarly, the operating margin displayed a noticeable pattern. It began at a dismal -201.44% in 2018 but gradually improved to -12.68% in 2021. However, it took a step backward in the TTM, dropping to -47.71%. The operating income mirrored this trend, experiencing fluctuations from a substantial loss of -$1,450M in 2018 to -$3,190M in the TTM. Operating cash flow exhibited a similar pattern, commencing at -$1,200M in 2018, then improving to $282.65M in 2020, only to turn negative again in 2022.

Moreover, NIO's CAPEX showcased changes in investment strategies, declining from -$399.57M in 2018 to -$1,040M in 2022. Thus, NIO improved its operations significantly in 2020-2021 but started to revert in 2022 – an overall worrying sign.

Now, let's examine NIO's stock price (blue line) in relation to analyst target prices (red line) since major institutions began covering the company. Initially, analysts set their targets well above the actual share price, indicating optimism about the stock's potential by the end of 2021.

However, the graph below reveals a gradual reduction in these targets, averaging nearly $15. This still represents an almost 50% upside compared to the current price of around $10.

While NIO's initial growth narrative didn't unfold as expected post-IPO, there remains notable potential for growth at current levels, a topic we'll delve into in the upcoming section.

When comparing NIO with its competitors based on various value metrics, distinct differences emerge. NIO's P/S ratio stands at 2.48, while LCID and RIVN command significantly higher P/S ratios at 14.2 and 7.3, respectively. In addition, NIO performs reasonably well in terms of EV/Sales ((TTM)) with a ratio of 2.78, closely resembling TSLA at 8.29, while Lucid LCID and Rivian RIVN exhibit notably higher ratios.

Overall, NIO appears to be trading at a relatively low price compared to its peers.

Looking at the P/B ratios, NIO stands out with a relatively high ratio of 8.36, which is only rivaled by TSLA. In contrast, WKHS and RIVN have notably lower P/B ratios of 1.17 and 1.89, reflecting better valuations at current prices.

Overall, NIO's valuation metrics, while not as high as some of its peers like Lucid and Rivian, still show a moderate premium for its sales and a significant premium on its book value.

When comparing NIO's financial performance metrics to other key players in the automotive and electric vehicle (EV) sector, notable distinctions emerge. NIO's negative FCF Yield of -9.0% is surprisingly the best among the negative FCF-yield companies. It is only overshadowed by Tesla ( TSLA ) and BYDDF, which boast positive FCF Yields of 1.0% and 6.8%, respectively.

NIO also falls behind in RoE at -77.6%, compared to RIVN’s RoE of -41.9%. However, the two have very similar RoTC. The main point here is that NIO faces challenges similar to many of the up-and-coming EV makers do; however, with a RoE of -77.6%, we believe it’s slightly worse than what you want to see for a company at this stage in its lifetime.

Technical Analysis

When we look at NIO’s 1-year chart, we first notice that NIO broke out of an upward channel and then proceeded to find a consolidation zone in the $10.50-$11.50 range. Now, however, the stock finds itself with a price at almost $10 after a sizeable gap down on September 7 ^th . If we look back to August 29 ^th, when NIO released their Q2 earnings, buyers stepped in significantly when the price dropped to $9.50.

Investors can use this as a place to define the near-term downside risk of the stock, which, combined with a local high at around $15.5 (which coincidentally aligns well with the average target price analysts set), presents an interesting buying opportunity.

That said, it should also be noted that the stock currently trades under all included EMA’s, making a move up quite tricky. In addition, the stock would also have to break the 0.618 Fibonacci number at $10.51.

In short, although the downside risk may be somewhat limited for NIO on a technical level, it also looks difficult to break to the upside as things stand currently. It would, therefore, be advised to remain patient before opening a position, as a better opportunity could present itself sooner rather than later. In addition, it is possible the stock will break the aforementioned levels, which would confirm a likely move to the upside, which could be a decent place to start a position.

For these reasons, we believe holding on to any shares already owned is best. Overall, we believe a range between $15.00 - $15.50 is the price target for a longer-term position if any investor chooses to open a position now.

Conclusion

In conclusion, NIO has since its IPO been a prominent player in the EV sector. Currently, it operates in a complex economic environment marked by China's ongoing economic challenges, particularly in the struggling property sector and manufacturing declines, which heavily influence the overall economic activity in the country.

While NIO's strategic choice of manufacturing through JAC has yielded solid vehicle output, it remains susceptible to potential government influence as a Chinese company. Although their output has been solid, it still falls below overall market expectations. However, The EV market holds growth promise, aligning with NIO's future production plans.

Financially, NIO has demonstrated impressive growth but faces challenges in free cash flow generation and profitability. Valuation metrics suggest a relatively competitive position among peers. Despite challenges, NIO's technical chart shows potentially good buying opportunities, but further negative economic data from China could mean additional downside risk. We rate NIO a hold in the current economic environment.

For further details see: