After market close on Tuesday (3/5/19), NIO reported EPS loss of RMB 3.20 vs WRe of 2.16. Rev and gross margin were in-line, but higher R&D / SG&A (47% / 22% above WRe) led to a substantial earnings and FCF miss (for perspective, NIO raised about RMB 5bn in a recent Convert and burned RMB 3bn in qtr).
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The closing of NIO’s $650mln Convertible Note satisfies the $600mln in additional funding we believed was required to get to cash flow breakeven in late 2020 / early 2021. Additionally, the year-end cash balance disclosed within the Offering materials points to solid execution in Q4. The relative predictability of earnings through 2 quarters as a public company boosts our confidence in management execution. While a major demand catalyst is unlikely until a few months beyond the ES6 launch in April, we do see potential for modest positive catalysts ahead. We raise our 12/31/2019 price target to $9.00 from $7.80 and reiterate our Outperform.
There were numerous interesting takeaways from the Wolfe Research Auto Conference in Detroit, including revealing insights into recent shifts amongst U.S. New Vehicle Buyers (there may be less risk to industry mix than we perceived), the trajectory of battery costs, insights into Powertrain plans being made by Auto OEMs, and revelations on the Ride-Share business model. All of these have long term implications.
After 2.5 frenetic days at CES, we’d report the following key takeaways: 1) Multiple industry leaders are acknowledging (primarily behind the scenes) that deployment of Level 4 / 5 Autonomous Driving technology without safety drivers is farther away than most public targets. At the same time, demand for consumer-targeted safety / convenience systems (primarily Level 2+) continues to accelerate. 2) Reinforcement of the narrative that the next generation of high-volume internal combustion engine / transmission families will be the last one for many automakers.
The Market is bracing for challenges as we transition to 2019, including lower Auto Production (particularly in China and Europe during 1H19), higher Rates (which raise concerns about Mix, Pricing), the strong U.S. Dollar, Regulatory Content, unpredictable Government Policy/Tariffs, the burden of increased Spending on Technology with uncertain returns, and in some cases discontinued passenger car products.
Most major U. S. OEMs and Suppliers will provide 2019 guidance in mid- to late-January… at our Detroit Auto Show Conference (Jan 15-16), or when they deliver Q4 earnings late January/early February. Management teams are pulling these forecasts together now. And they are doing so amid an unusually large number of market uncertainties (i.e. China, Europe, and NA production; company specific concerns for Ford (China, UK), JLR (China, UK), GM (discontinuing models), and local Chinese OEMs (declining at a double-digit rate in their domestic market). Based on our discussions with Industry Management teams we suspect that most will incorporate an extra dose of conservatism into their 2019 Guides. We are fine-tuning our estimates for Lear, Visteon, and Autoliv as we intend to take the same tack (e.g. today, we are fine-tuning our 2019 net new business backlog estimates, initially provided in early 2018, to reflect updated market and FX assumptions). See pages 3-6 for more details.
The current auto sales run rate in China, if sustained, would imply a 10% sales/production decline in 2019. Europe won’t be easy either, as production headwinds spill into 1H19. The U.S. has been relatively strong, but we remain concerned about affordability headwinds. Given these uncertainties, we question why OEM/Supplier margin expectations are up from 2nd half 2018 levels.
NIO reported 3Q18 results before Tuesday (11/6/18) market open. Execution was solid as all key metrics, including Q4 guidance, were ahead of our expectations. We also appreciated the color on nuances that would impact quarterly volume cadence in 2019 (negatively for 1Q, details inside). NIO share price weakened throughout the day, ending -4% vs S&P +60bp’s. We have slightly lowered our DCF-derived target price to $7.80 from $8.00, reflecting our updated USD: RMB assumptions.
We are initiating on NIO with an Outperform rating and a DCF-derived target of $8.00. We identified many long-term positives through our work on this company. But to get Wall Street buy-in, we appreciate that investors need to build confidence in the strength of this new vehicle brand. Tesla achieved this in 2012, at which point investors no longer questioned the outlook for demand. We believe that Nio is one of relatively few that could follow the same track. We will be looking for proof points. Ultimately, the approximately 28% upside reflects a balanced view on the company’s potential, as well as risks.