Kandi Technolgies Corp (KNDI)

[tchauncy]

KNDI Shelf Registration. Good or Bad? Good. Read Why..

On Nov. 19, KNDI filed a Registration Statement with the SEC for a Form 3 Shelf Registration. After spending a few hours last night in discussion with several large savvy shareholders to include a couple of Institutional holders, we came to the conclusion that the Company was wise in doing so for several reasons. Not the least of which answers the question of how the Company was planning on funding the up-front costs to manufacture the quantum jump in vehicles that it now appears will be needed to fill prospective orders over the next year. Had this filing been made as little as a couple of weeks ago, it would have been a "head scratcher" as to timing, but with the recent disclosure of large new prospective orders out of China, and tax credits in the US, it is not hard to see the Company needing to quickly fill orders totaling in the nine digits. Like in most manufacturing environments, the Company is paid After it delivers the product. And while in the case of KNDI, cash flow is expected to ramp up fast, the up-front requirement is still going to be some 75% of the ultimate sales price. So an equity infusion gives banks comfort to increase credit lines, then pair this with cash flow and all of a sudden sales for the new year in the nine digits become logically realistic.

What I really like is the financial vehicle that the Company chose to get the equity funding. Form S-3 Shelf Registration. I like it for several reasons. I like it because it now shows that KNDI feels it has now matured past the level of more junior companies that are stuck with usually disastrous "Pipe Offerings" as their only recourse for equity funding. Some 95% of all NYSE Companies have a "Shelf Registration" filed and in effect at all times. The Beauty of an S-3 Shelf is that the Company not only has to "pass muster" with the SEC up front, but has total control over timing and pricing. But at the same time, the SEC rules protect shareholders by putting size restrictions based on shares in the float and stock price. The rules require for Companies that have less than $75 million market cap for the public float, the Company can only sell a number of shares equal to 1/3 of the public float. For example in KNDI's case this would be calculated as follows: 19,961,000 Total shares outstanding 12,000,000 held by insiders leaving 7,961,000 as the public float. S-3 rules require that the Company take 1/3 of this amount and you get 2,653,667 shares which would be the maximum that could be sold under this registration. Under this requirement, at the current price of $4 a share, the most the Company could raise if it were effective today would be a little over $10 million. Now we know the registered for up to $30 million on this registration statement. So in order for the Company to raise the full amount, the stock price would have to rise to just under $10 in the 60 day period prior to the sale and at a share with the share pricing around that level. The fact they put such a large number on the max size should give comfort that the Company must be anticipating a large salvo of great news in a short period of time.

Now before we get too excited, let me comment on a very important point. And that is, IMO, how long before this offering can even become available for sale. This Company came public not by a registered IPO, but by a Reverse Takeover with an existing public shell. In this case there has been no prior full registration filed. Which means that it will most likely take over 90-120 days of "back and forth" with the SEC before this comes "effective". Actually I believe it will take at least until right after next quarters numbers are released in it's new 10K, since "current audited financials" will be required So more than likely it will be some time in April before this "goes effective". (assuming the company doesn't file its 10K until the last day as historic precedence my indicate). While only my opinion, I would suspect that Mr. Hu and the BOD, are expecting a whole lot of very positive events being disclosed by then, culminated with a "blow-out" fourth quarter. This the reason for the $30 million number requiring a $10 stock price to sell out the whole thing. (which for those who are not math proficient would mean only around a 3 million share dilution). BTW, if this happens, it would raise total shareholder equity to well over $2 a share, and due to interest cost reduction add over $.10 a share to net income.

With the above said, let me give some personal comments about the stock and its current action. Let me first say that neither I nor anyone that I have spoken with who I believe have more knowledge about the Company then I, had any idea that this filing was even contemplated, let alone ready to be filed. But obviously someone did. I base this last comment on the extreme amount of selling and short position increases we have seen over the past month or so. I have mentioned in past posts that I had a friend who recently visited the Company back in Sept. when the stock was trading below $2.00. He specifically asked the CEO if he had any plans of equity funding and was answered in the affirmative, but told that the Company had no interest in doing any funding at under $6 or so a share. And if done, most likely it would primarily be done with PRC investors. Now, think about this. At that time there was no US tax credit approval on KNDI electric vehicles. There was some indication expressed in a LOI PR for some local sales of Electric Postal vehicles in two cities in China, but certainly nothing like what we saw in the PR last week with prospective sales to all of China's Postal services which theoretically could number up to 300,000 units. So basically with the stock at less than a third of the minimum price mentioned, my friend did not pursue the issue any further. But in hindsight, with the recent positive disclosures, I would now think that the Company feels it could do such an offering at a lot higher price than $6.00.

So here is my take on what may have happened. I don't believe that the Company just "thought up" doing a S-3 shelf on its own. Particularly with the stock price below $2.00 trading 10,000 shares a day. I suspect that someone in the Company sent out some feelers to various brokerage houses about "maybe" doing a funding in the near future. These type of "feelers" almost always start a rumor in the hedge fund community who in turn start shorting the stock. I do not believe, again based on the low price and volume, at that time any realistic thought was given by the Company to be able to use the S-3. (The price and float limitations would have made the thought of using S-3 silly) BUT, now with the increased interest in the Company, stock price, volume and news, S-3 not only become viable, but logical. So, IMO, by now we may have a very large short position that was most likely established based on the erroneous thought that the Company was going to do a "PIPE" which would have most likely created some real selling due to its nefarious reputation. If that is the case, IMO, the short could now be trapped since the registration process, as I mentioned above, is going to require months before effective date, and the likelihood of some very powerful news could be forthcoming, including earnings, before any new shares are released. I honestly asked myself would I rather be long or short a few hundred thousand shares right now based on what appears to be unfolding in the Company, (something I suggest you all do) and my answer is simply. I will take my chances on the long side. Remember, a short can only make the difference of whatever they sold the shares at and zero, this company is not going to zero. Whereas a long as infinite upside multiple potential.

So what do I think the stock price is going to do over the next week? IMO, we may see a dip this morning into the upper $3 level as those whose fear overrides their common sense. But a close today above $4 is at worst a 50-50 possibility as smart buyers step in and short sellers who now see that "the news is out", realize that staying short this now could be perilous due to positive prospective happenings between now and effective date four months from now. It is further my opinion that we now have a very good chance to see this stock really "break out" on the upside with north of $5 very realistic over the next few days. I don't just base this comment on my own assessment, but as I said in the beginning of this post, I surveyed several large investors, and a couple of Institutions who hold the stock. And they do agree with this assessment.

One last comment. I have addressed this situation as if the Company were to be doing a normal common stock shelf registration in the US, which some might consider a worst case basis. One of the interesting points of an S-3 is that it is so flexible. There is no rule limiting this filing to just Common stock in the US. It could be done in China, (or any country for that matter). It could be placed through a retail or institutional underwriter or it could be placed directly by the Company, it could be done as a publicly traded straight debt, or convertible underwriting, a shareholder Rights Offering, or a warrant offering. It could even be used to make a share exchange acquisition of another Company. What it CAN'T be used for under recent SEC rule changes is to be sold directly to someone who shorted the stock up front in anticipation of the offering.

Link to filing: http://www.sec.gov/Archives/edgar/data/1316517/000114420409060943/v166786_s3.htm

Link to SEC rules for S-3: http://www.sec.gov/rules/final/2007/33-8878.pdf