After investing in KNDI for four years, I sold my shares earlier this year disappointed by the low sales volume. I haven't given up on Kandi but I have to see solid sales before getting back in.
Kandi Technologies, A NASDAQ Traded China Stock With A Share Price To Fundamentals Disconnect Of Gargantuan Proportion. Financial Overview and Comparison
A year ago, NASDAQ listed Kandi Technologies,
KNDI was trading at its all-time high of over $22 a share with average daily volume running close to 2 million shares a day. At that time its trailing 12 months revenues were $120 million and trailing loss of ($.84) a share, working capital was +$13 million, long term debt of $12.9 million and book value was $2.94. Fast forward ahead to today and we find KNDI stock trading at $7.64, average daily volume of 800,000, trailing 12 month revenues of $174 million,trailing positive net income of $.76 a share, Working Capital +$41 million, no long term debt and Book Value of $4.78 per share. Sales for KNDI branded EVs grew 80% year-over-year in 2014 on the sale of 10,935 units, and 2015 full year EV sales guided by the Company up another 100-120%.
On the March Q1 Investor Conference Call, the CEO gave sales targets for 2015 of 20,000-25,000 Kandi branded cars to be sold this year. (An amount that we could see raise with expected guidance on the Aug. 10, Q2 CC). This up from slightly under 11,000 total in 2014. With the 7,500 new orders announced the past three weeks just since the start of Q3, the high end of the range looks likely to be surpassed. However, should only the 25,000 level be reached, expect the Kandi-Geely 50-50 JV revenues to increase from $220 million in 2014 to approximately $520 million and KNDI’s own reported revenue share to increase from $174 million to over $360 million. Such results should push net income up over threefold to the $1.00 per share level from $.29 in 2014. Since in addition to Micro-bus and leasing sales, over 10,000 EV Direct sales were specifically forecast on the last CC for this year and direct sales did not begin until late May, 70-80% of all EV sales should be expected in second half 2015.
At the Nov. 2014 Shareholders day meeting in Nov. 2014, the CEO addressed through the Q&A a target for 2017 to be on track for 200,000 EV’s ramping to 400,000 annually by 2020. Considering the PRC has forecast there be 5 million EV in China by 2020 and has recently extended the subsidy programs at least until that year, this is not an unrealistic target in light of KNDI’s low vehicle cost which in its after subsidy $6500-7500 price range financially addresses all consumers through both direct sales (which only began in April of this year) and various Municipal and private CarShare and leasing programs. Reaching 400,000 units in 2020 would bring the Kandi-Geely JV revenues in at around $9 billion, contributing total sales to KNDI specifically around $6.5 billion and KNDI EPS for 2020 in excess of $20 a share.
What Has Caused the Price to Fundamental Disconnect?
Some might think it is because it is a China based Company, it is suffering along with other China stocks. However, aside from the fact that KNDI's year to year financial performance ranks in the top 10% of all US listed China issues, its stock performance is in the lower 10%. So the "China theory" holds no water. Even if one were to try to assume an economic slowdown in China; low-priced EV's, particularly in KNDI's unique rental and leasing models, would benefit, not be negatively affected. So lets now look at the real culprits.
Over the past year or so, with KNDI's reported short interest doubling to 7 million (20%+ of float) Kandi has been the subject of numerous attack articles by short sellers and their minions via the Social Media. The purpose of these articles is not so much to attack KNDI and its position as a successful leader in the EV sector in China, but instead to raise doubt and fear in shareholders minds that the business route it is taking is not a legitimate one. For a while, they thought they had the SEC on their side when through their efforts in providing rumor and innuendo, they were able to instigate an SEC fact finding investigation begun in Nov. 2013 which lasted 14 months. To their chagrin, earlier this year the Company was notified and reported that this SEC Investigation ended with no action taken.
As KNDI’s financial performance continued to dramatically improve, the "short" focus shifted to attacking the legitimacy of the JV sales to Zhejiang ZuoZhongYou Electric Vehicle Service Co. (ZZY) , an independent Company initially formed by the JV to be used as a Distributor of sorts. The mission of ZZY is twofold; the JV would sell the cars to ZZY who in turn would either purchase the cars for their own account to put KNDI branded EV’s into both private and public leasing programs and/or CarShare programs, and/or act as a more conventional distributor selling cars to retail auto outlets known as S-4 shops in China.
What fueled the attacks against this structure early on was at the formation of the 50-50 KNDI-Geely JV, ZZY was listed as a JV shell 100% owned subsidiary. Shortly after formation, the JV sold 81% of ZZY to a large Shanghai Venture Capital company for an undisclosed amount with each JV partner retaining a 9.5% share. Though this structure was well vetted by the SEC during its review of the company as can be seen by publically available SEC Correspondence files on “Edgar”; with little else to attack KNDI over, the attack shifted to this arrangement accusing KNDI (but curiously not so much the JV –likely because of the positive reputation of KNDI’s 50% partner Geely) of creating bogus sales by “selling cars to itself”. The receipt of the 3rd subsidy payment announced June 29th from the National Government of $44.3 million, bringing the total paid by the PRC to the JV for the five quarters since inception of the new Federal EV Subsidy program up until Dec. 31, 2014 to $107.3 million, however is clear evidence that the PRC has now fully “blessed” this Marketing structure used by the Kandi JV.
While the KNDI JV did receive two partial subsidy payments last year totaling $62.6 million in US dollars covering sales made from the start of the subsidy program in Q4 13 to the end of Q2 14, which could have appeared to give inference that sales to ZZY were legitimate, in all fairness, those payments were actually “conditional” by the PRC guidelines. The PRC stated at inception that “confirmation audits” would be made after each year-end calling for “claw backs” for any payments made that were not confirmed legitimate by the audit. Therefore the seemingly long delay to June 29th for any subsequent payments was only adding fuelr to the shorts “bogus sales” argument. Adding further to the “argument” was the apparent fact that none of the PRC mandated City of Hangzhou local subsidy payments had been reported made for any past sales.
Why the Local Subsidy Delay’s in Hangzhou
Differentiated from how US EV subsidies are paid which is to the consumer directly and not available to leasing companies, China allows the subsides to all purchasers and keeps it simple for the consumer who only has to come up with the after subsidy price to purchase. While Federal subsidies are paid directly to the manufacturer, Local Subsidies are paid to the “first purchaser” which in most cases would be a distributor, marketer, leasing or rental company. Local subsidies while not required to be uniform from City to City are a PRC mandated requirement for a City to qualify under the Federal Subsidy program. The primary mandate for the organization that receives the local subsidy is that the subsidy savings must be passed on to the end consumer. As an example, in the case of a four door Kandi K11 Panda, the manufacturer’s sales price is approximately $23,500 for this four door EV. After the combined subsidies are subtracted from the respective sales price, the price to the end user comes in around $6,500 to $7,500 with the dealer allowed to add on a reasonable markup for his profit and also gets some volume discounts from the Manufacturer. In KNDI’s case, until recently, the sales were mostly made from the JV to ZZY entitling ZZY to receive the local subsidy. However, with the July 6th announcement of an $89 million USD, 4000 KNDI EV 2015 purchase commitment by Zhejiang Shi Kong (ZSK), this sale goes directly from the JV to ZSK allowing them to receive the subsidy on these sales.
The PRC’s expectations relating to the mandated local subsidy are generally expected to match the Federal subsidies but with some leeway. In the City of Hangzhou’s case were KNDI sold some 10,000 EV’s through the end of 2014 (making Hangzhou the ONLY Federal Subsidy approved City of some 80 authorized for the PRC subsidy that actually met its 10,000 2014 PRC mandate), Hangzhou's “matching” subsidy was declared to be around the 70% level of the Federal payment, however, there is an exception in cases where the vehicles are being used in a Municipal Transit System (MTS). The apparent reason for the higher payment for MTS sales has to do with the Federal Government giving the Cities additional funds to develop public transportation. I.e. If BYD sells an Electric Bus to the City for MTS use, it will receive the full 100% matching subsidy. If sold to a private carrier, supposedly the lessor 70% subsidy would be paid.
The reason for the delay in local subsidies in Hangzhou for the Kandi branded vehicles sold, had to do with the sales made specifically for use in the Micro-bus CarShare program. A program which appears to be clearly part of the Municipal Transit System as you can see from its heavy promotion on the Hangzhou Government MTS website link below. Initially, instead of ZZY being offered the 100% for the EV’s in the Micro-bus program, the offer from Hangzhou was for the lesser 70%. While it might appear to have been better from a pure cash flow point of view to not argue and accept the lower subsidy, Management, looking out for the long run and “big picture”, felt it must argue for the higher amount in order to not set a precedence of willingness to take a lower amount in its home city, which might affect Micro-bus subsidy pay-out with expansion in other cities.
I have been told by a source very close to the company within the past few weeks that this issue has now been resolved favorably and payment was to be expected shortly now that the PRC audited payments have been completed, sales verified and PRC subsidy paid. My assumption is the full 100% will be paid for the just under 10,000 EV’s in the Micro-bus program and the lessor 70% for the 4000 or so EVs put into private service by YE 2014, but does not include any 2015 sales. If this is the case, total subsidies to be paid from Hangzhou should be in the $90-95 million area through 2014.
It is important to take note of this “Municipal” CarShare program that KNDI has been developing for going on two years now in Hangzhou in that it uniquely separates KNDI from other China EV competitors. This program is a combination of parking locations, to include high-rise and flat pick-up and drop-off parking points where a consumer registered with the city can simply walk up, swipe a card and drive away with either a two or four door KNDI branded EV for US dollar equivalent of $2.00-2.50 per hour. The charge included insurance and the fuel (charged battery).
The City of Hangzhou is made up of six distinct Urban Districts. Up until last week, the Hangzhou Micro-bus Network development had been restricted to the Xi Hu or West Lake District which is now the home to over 10,000 KNDI EV’s. While a consumer can rent an hourly CarShare and take it anywhere in Hangzhou, it must be returned to one of the Micro-bus parking locations. At the inception of this program by KNDI in late 2013, while visiting the Company, I was told by the CEO that the program would be restricted to just the West Lake area for a period of time as a test program. And when first presented to the City in late 2012, the plan was for ultimate expansion in Hangzhou alone to 100,000 cars.
While not announced yet by the Company, the China Media reported on July 10, of the opening of the first location in a second Hangzhou District, Fuyang, and Southwest of the West Lake area. So it appears concept testing has been completed and Hangzhou expansion is underway.
Further evidences of Municipal Micro-bus expansion, outside the City of Hangzhou, was announced in a PR here on July 13th with the announcement that the City of Kumming, pop. 10 million, has just committed to a KNDI launch of the Municipal program with an initial 2000 cars to be delivered by this year end and as of today a second city Luzhou was added for an additional 1500 by year end. While KNDI had previously announced expansion of longer term private leasing programs in nine additional cities (four of the top five in population), these two new cities are the first publicly reported by the Company specifically launching a Government sponsored Micro-bus Municipal program in a city other than Hangzhou.
Now How Does Subsidy Delays Affect KNDI the US Publicly Traded Company?
Multiple ways, but unquestionably adding to shareholder confusion in evaluating fundamentals of KNDI’s stock. But for newbies, a little background first.
To the uninformed, KNDI is continuously being accused of falsely claiming to be a “true” EV Manufacturer since its core reported “Revenue” base is from selling “Parts” (to include the batteries and Battery Management Systems ) to the JV.
To be clear, KNDI, the US public company, with its Chairman Hu Xiaoming is also the Chairman/CEO of the JV and is actually managing and running three EV manufacturing facilities (two owned by the Kandi-Geely JV and one by KNDI), however at this moment, KNDI, which began as a leading China Off-Road vehicle maker, itself is not currently licensed to sell autos (however it is licensed to assemble and sell battery packs and systems). This lack of license is due to a 2006 PRC moratorium against issuing any new auto manufacturer licenses. However, to be eligible to receive full State and Local subsidies, the EV’s must be sold under a PRC auto manufacturer’s license. So this is where the JV with Geely comes in. (Prior to the start of the Geely JV in early 2014, KNDI made and sold some 4,000 PRC approved EV’s under the Zotye Auto license) KNDI currently provides and sells approximately $15-16,000 worth of parts and batteries for each car to the JV. It then assembles the cars and they are sold under the Geely license.
Note: the PRC has recently announced that it will be opening up issuance of new EV specific Auto-Maker licenses in Q3 2015, I have been told that KNDI feels it meets the qualifications and has applied for its own license. In addition to the now four PRC approved EV’s in the JV, KNDI on its own has designed, built and tested more than a half dozen additional EV’s to include other passenger vehicles, pickup trucks, vans, box trucks and flat-bed trucks. Thanks to the JV using the “Kandi” name on all of its vehicles, having the Kandi brand so well-known will be a big windfall if and when KNDI starts independently selling these additional vehicles.
Under the current structure, due to the 50-50 split for the JV, neither KNDI nor Geely are allowed to “consolidate” the JV sales revenue numbers in the respective companies reported revenues. They can only report as part of their audited report, the single line item of profit or loss. Even though the JV was formed in 2013, the full transition to this structure did not take effect until September 2014. Prior to the full transition taking place, in early 2014 KNDI was selling what they called “EV Products”, which was effectively “kits” or around 95% of the completed EV to the JV which allowed KNDI independently to report much higher revenues with much higher gross margins. Once the transition was completed to “parts” only, KNDI’s “reported” Gross Margins declined considerably due to the logical necessity to provide the JV with parts priced at a level low enough that outside competitors would have no interest to bid against KNDI. But, since KNDI owns 50% of the JV, it ultimately benefits from the higher profits derived by the JV on its own bottom line. Due to this change in structure, it would not be surprising to someday see KNDI’s Net Profit Margin exceed its Gross Profit Margin. And let me add; earlier this year KNDI reported that preliminary work was underway to bring the JV public in the China "A" shares stock market.
It is precisely because of the transition from effectively cars to car parts begun last year that seems to be causing the most confusion among those trying to analyze and compare past and present performance. Particular when it comes to “Gross Margin” reported by KNDI on its Financial Statements. To try to compare the reports in any area other than “bottom line” under the current structure, to last and prior years is as a friend recently stated; “Trying to compare apples to watermelons” and a fool’s errand. But the meaningless recent decline from prior years 25-24% Gross Margins to 14.7 % at Q1 (which is right in line with most global auto manufacturers) makes good “fodder” for short sellers and others with a negative agenda to prey concern on uninformed investors.
One last note to be aware of regarding KNDI “specific” sales. Since KNDI’s own reported revenues are currently for “parts” only, looking at trailing EV sales by the JV can be misleading to KNDI’s own performance. Since it must provide (sell) the parts in advance of assembly, some of those parts will inevitably be sold and booked by KNDI in the prior quarter to when the EVs are assembled and sold.
Getting back to the delay in local subsidy payments and its confusing effect on KNDI’s reported financial statements –specifically regarding debt to include the JV.
In 2013, when the Subsidy program was first announced by the PRC, the reported intention was to effectively “pre-pay” a certain amount of subsidy based on the manufacturers quarterly expectation of sales. While seemingly a “bizarre” concept, it actually made sense as a tool in energizing faster EV sales. As mentioned above, in order to keep it “simple” for the end consumer, the subsidies were structured in such a way that the consumer only had to look at the final after subsidy price when deciding on which EV to buy. In KNDI’s case of say the K11 four door. As mentioned above, while the pre-subsidy sales price is around $23,500, to keep it simple, the consumer didn’t have to worry about paying a higher retail price and then take responsibility to apply for the subsidy. He only had to deal with the “net price after subsidies” plus some negotiable dealer mark-up; putting his or her purchase price around $6,500-7,500. So the concept of pre-payment of the subsidy made sense in particular to the aggressive smaller pure EV manufacturer starting from “scratch” like KNDI. Without the prepayment, the manufacturer is forced to effectively “subsidize the subsidy” until it is paid. Certainly this change is cash flow limiting for aggressive manufacturing and sales. Regrettably, the decision to pre-pay was aborted an replaced by “slow pay” which is likely the cause the PRC will not hit is goal of 500,000 EV’s by the end of 2015 announced in 2013.
But what has been amazing was in spite of this unexpected payment reversal, KNDI was still able to come in last year as China’s #1 Pure EV maker and seller and is still likely to end this year in one of the top two spots. This “magic” was and is still being accomplished by creative use of debt at all levels of the sales chain. Thankfully for KNDI, due to the fact that the debt is “Golden” i.e. backed by government owed subsidies at both levels, it is easily bank financeable at lower interest levels. However the appearance of this ramp up in short term debt to the unknowledgeable (and computer generated valuation services) flashes false “red flags” of “Cash Flow” problems forcing claims of "imminent financing required". This supposition being totally false as per several contacts with Management who have made it clear that if financing is needed, bank availability is plentiful.
Much has been said by KNDI detractors that it (and the JV) are in “bad” financial condition based simply on the fact that the JV owes KNDI some $71.2 million as noted in a line item of its last 10Q. This loan owed KNDI is designated as being for parts and batteries supplied to the JV by KNDI, and while it is not specified since the JV is a separate non-itemized reporter in the KNDI 10Q, the JV also is carrying a significant portion of its debt owed it by ZZY. So effectively KNDI, Geely, the JV and ZZY are all “subsidizing the subsidies”. As the subsidies are paid, these facing loans are in turn paid down and/or are enabling the build and sale of exponentially more EV’s. In actuality, considering the high quality of the debt owed KNDI, even with these facing loans, KNDI, as per the last 10Q in about as strong a financial shape as it ever has been.
As alluded to above, detractors try to lay the claim that the JV itself is in “perilous” financial condition due to some $388 million in current liabilities (though for agenda reasons they seem to ignore the reported $375 million in current assets) which according to some ignorant or agenda driven detractors “prove” the “JV ‘model’ is doomed to failure since all of this ‘debt’ was accumulated while only selling some 14,000 EVs”. Let me remind that in addition to the above “subsidizing the subsidy”, an additional $180 million or so of JV money was used in building and completing a new JV State of the Art, 100,000 annual capacity facility in Rugao, Jiangsu Province that is scheduled to be completed this month. Since the condensed JV balance sheet in the KNDI 10Q is so abbreviated, there are no “footnotes” breaking out the above. However, I have been told to expect more clarity on the JV financials beginning with the second quarter 10Q due out on Aug. 10th.
In Conclusion:
In my 42 years as a past Investment Banker and Brokerage firm owner, OTC Market Maker and now individual private investor, to include stints at Merrill Lynch, EF Hutton, and my own founded regional full service firm, and following KNDI since 2007 to include two personal trips to visit the Company in China, I can unequivocally state that I have never seen a more blatant “disconnect” between a stock price and uninterrupted stellar performance as I have witnessed with KNDI.
As also a former OTC Market Maker, I worked closely with some of the most notorious short sellers of the late 1970’s to early 1980’s and know all of their never changing core strategies. While major technological changes have been made over the years, particularly with unregulated internet blogs, the addition of exotic derivative and high frequency trading allowing short sellers much more leeway to created distraction, one thing hasn’t changed that will ultimately reward intelligent long investors; that is rapid fundamental growth. Something that KNDI has been delivering regularly and is now ready to shift to hyper-growth as you can see from the forecasts above.
One strategy we have seen a lot of recently that short sellers have always found beneficial, at least for the short term, is to attack a Company’s news announcements. The bigger the news, the more important it is for short sellers to make the news look either insignificant, or suspect by driving down the stock price as the day goes on. The last thing a short seller wants to do is to let a stock gain momentum on a major announcement. There is an old Wall Street adage that is; and has always been true; “Make a stock look weaker when you want to buy it, and stronger when you want to sell it” Here is a Jim Cramer video interview revealing the dirty tricks that short sellers will stoop to when they start to get in trouble.
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