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Dark Cloud Will Hover Over Nio Stock for a Long Time

When Nio (NIO) released its latest sales numbers for the latest quarter, the 35.1 percent increase in sales gave some investors optimism for the company's future potential.

While the increase in sales looks impressive, the reality is the company only delivered 4,799 vehicles, with the majority of the sales coming from its low-priced ES6 SUV, which at this time loses money on every sale.

This wouldn't be as big of an issue if Nio was flush with cash, but without a cash infusion, the company will struggle to survive by as early as December 2019.

Turning to TipRanks data, we find that NIO holds a Smart Score of 1/10. The Smart Score integrates all of TipRanks' data on a stock, using eight factors known to predict market performance. A score of 1 indicates the stock is likely to underperform the market in the near-term.

Important numbers

By far the most important numbers for Nio at this time are related to its balance sheet and its costs.

At the end of the second quarter Nio had approximately $600 million in liquidity. About $342 million of that was in cash, $148.5 million in short-term investment, and $200 million in convertible note financing from Tencent Holdings.

Over the last several quarters Nio spent around $180 million on R&D per quarter. On its second quarter earnings call the company said it is cutting R&D spending while shrinking its workforce from 9,900 to 7,800.

Taking into account the cut in spending, the company will probably still spend as high as $150 million a quarter in my view. It's possible it could be less than that because that's my high-end spending outlook.

I'm looking for operating losses to be somewhere around $300 million on the low end, which means, based upon the numbers here, that the company as it stands today, only has enough liquidity to run operations at best, to the end of 2019.

The challenge to turn a profit has gotten harder because of the reduction in subsidies by the Chinese government from $9,500 for the ES8 in 2018, to only $1,600 as of the end of June 2019.

Since the company hasn't released its figures for the third quarter yet, we have to go by its performance in the second quarter, which were unimpressive to say the least.

As of the end of June, gross margins plummeted from a negative 13.4 percent in the first quarter of 2019 to a negative 33.4 percent in the second quarter.

Operating losses in the reporting period were a hefty $469.9 million.

With the company not releasing its third-quarter numbers yet, it has to be assumed the results are worse than expected, which could drive the share price of the company near the $1 per share mark, if not lower.

The Tencent factor

There are a number of scenarios that could play out for Nio, with the most likely to be a cash infusion from Tencent Holdings. Even though it's possible Tencent may be reluctant to throw more cash at Nio, it will probably want to defend its exposure to Nio by supplying it with a cash lifeline. The big question there is whether or not Tencent considers the risk worth it.

My thought is Tencent's self-interest will result in it providing more capital to Nio, although there may be some stipulations that come with it.

Under the current conditions of the company, it's most likely that Tencent or another China-based auto company will acquire Nio and take it private. I don't think that'll come about until it releases its most recent quarterly results.

With the cash burn rate of Nio, I don't see any company providing capital for the long term, which on the upper end, for only a year, would be over $1 billion. That comes close to the total market cap of the company.

Conclusion

With the low-margin, lower-cost ES6 losing money on each vehicle sold, and it accounting for most of the revenue growth for Nio, it's clear that the company is going need more capital to build more cars if it wants to survive, let alone grow.

How the company can continue operations through the end of the year is the question, and without a significant investment from outside the company it won't survive, at best, past the first quarter of calendar 2020.

For that reason, Nio as it stands today, isn't likely to exist within about three months. It'll probably receive an infusion of capital to allow it to extend operations, and soon afterwards be taken private. It could also be acquired outright.

And if for some reason a company provides capital that doesn't include taking it private, the chances of it surviving still remain very slim. I would continue to stay far away from Nio.

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