Nio Inc (NIO)

[JohnSamuel]

Here is another article that just came out: Unlike the other I posted, this guy is short NIO, whereas the other one said he has NO position ...

NIO: A High Risk Investment With A Tough Road Ahead
Jan. 2, 2020 5:15 PM ET | About: NIO Limited (NIO), Includes: F, GM, SHLDQ, TMOAF, TSLA
Bram de Haas
Bram de Haas
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Summary
NIO is objectively at high risk of bankruptcy.

It is richly valued compared to Chinese automakers as well as EV-peer Tesla.

To grow into a potentially sustainable operation it will need to dilute current shareholders by a tremendous amount.

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NIO's (NIO) share price rallied very strongly after releasing quarterly results that apparently exceeded market expectations. In my view this is setting up a great sell or short sale of this stock. I've explained here why I think it is nearly out of cash and will raise money or file for bankruptcy soon. I understand some investors A) don't believe the balance sheet is as problematic as I purport it to be B) think the equity will do well after raising money successfully. In this article I want to address those points.

An objective way to measure bankruptcy risk.
NYU Stern Finance Professor Edward Altman came up with the Altman Z-score in 1967. Altman himself concluded the Z-score had an accuracy between 82% and 94% in predicting bankruptcy. A score that is 1.8 or lower says the company is headed for bankruptcy. As an example this is Sears (OTCPK:SHLDQ) that hovered around 1.8 then started deteriorating and ultimately filed Chapter 11 near the end of 2018 at around 0.7

ChartData by YCharts
I pulled up a basket of automakers to compare to Nio. Toyota (OTCPK:TMOAF) and Tesla (TSLA) are both below 1.8 but NIO in a whole different category with a deeply negative score that has deteriorated on a continuous basis since the IPO:

ChartData by YCharts
If you don't believe me, look into objective bankruptcy risk measures and shudder.

But NIO has gone down so much it is a bargain
Some argue NIO's share price has gone down so much it is now a bargain. I can't corroborate that. Again, let's look at objective measures of valuation. I've pulled up the numbers on Chinese auto manufacturers as well as the gold standard of the automotive industry Toyota. I've picked EV to revenues as the measure to compare companies because not all of them are profitable. Some are more highly levered than others. EV to revenue is definitely not a perfect metric but it gives us at least a basis for comparison.

NIO has always been very expensive on this metric. Tesla is expensive as well. But NIO, after the recent jump, is even more expensive than Tesla. A normal for auto-manufacturers is around 1x EV/revenue or a bit above that.

ChartData by YCharts
General Motors (GM) and Ford (F) both trade below 1x EV/revenue even.

But NIO is growing revenue
It is true that NIO is quickly growing its units sold and even the top line as a whole. But this is a $4 billion market cap company with barely a billion in annual sales at the current run-rate. Sales have grown spectacularly from nothing to something.

ChartData by YCharts
Toyota is up a tiny bit over the last five years. I removed it from the sample because its sales were 10x that of Tesla and that distorts the graph too much.

But sales growth is no be-all-end-all. For growth to be of any value it must be economic growth. In other words; if sales rise earnings should rise. NIO is just hemorrhaging money by posting deeply negative gross margins.

ChartData by YCharts
Personally, I'm skeptical the asset-heavy auto manufacturing business is highly scaleable but this is the thesis of Tesla investors. For NIO to be able to scale up further it will need to raise capital. To sell additional units it must subsidize those until it reaches break-even. Because its coffers are empty it must raise capital.

Lenders do not generally lend to companies with terrible Altman-Z scores or bankruptcy risk in general. Capital will need to be raised through equity markets and equity dilutes shareholders.

If the company were to issue a billion shares at $2 that would generate about $2 billion. Just building a company doing $200 million in quarterly sales (at negative gross margins) management invested over $6 billion. An additional $2 billion would cover operations for another year and provide a little bit of growth CapEx at the cost of 50% dilution. Maybe that sounds great to you. But that's not the end. Another $800 million of growth CapEx is unlikely to get the company to profitability either. 16 years in and $19 billion invested and Tesla still has not been profitable for any calendar year. There is nothing about NIO's operations that suggests to me it will fare any different.

Conclusion
The recent $4+ valuation is godsent to longs. It also looks like a very interesting point to start a short position. Although, I'd size it small as the stock is known for its off-the-charts volatility. The company is at risk of immediate bankruptcy, its valuation is in excess of Chinese peers as well as highly valued EV-peer Tesla. It is very hard to sustain long term share price appreciation because the company will need to raise a lot of additional capital to continue as a going concern - let alone to grow to a company of a potentially profitable and sustainable size.

Check out the Special Situation Investing report if you are interested in uncorrelated returns. We look at special situations like spin-offs, share repurchases, rights offerings and M&A. Ideas like this are especially interesting in the current late stages of the economic cycle.

Disclosure: I am/we are short NIO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Editor's Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.

https://seekingalpha.com/article/4314999-nio-high-risk-investment-tough-road-ahead?utm_medium=email&utm_source=seeking_alpha