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NIO Inc. (NYSE:NIO) is down more than 41% after reporting its second-quarter earnings on Sep. 24. The Chinese electric vehicle company fell well short of market expectations, with higher-than-expected cash burn despite sequential growth in delivery numbers.
With demand apparently fizzling out, NIO is rapidly running of cash. If it cannot raise external funding soon, it could be at risk of going under.
NIO managed to beat expectations on revenue, but only barely. On every other metric, the company had a disastrous quarter. In a research note following the earnings release, Bernstein analysts laid out the sheer scale of the failure:
"NIO (finally) reported Q2 earnings which showed worse trends than we'd anticipated, even adjusted for RMB339mn of recall costs. Revenue was marginally ahead of expectations (RMB1.51bn vs. RMB1.46bn). But gross margins (-10.9%) and operating losses adjusted for recall costs (RMB3.0bn) were both materially worse than our bearish expectations. Free cash flow burn (RMB3.1bn, or RMB2.8bn assuming the recall costs were cash) continued to look severe too. Vehicle gross margin fell to negative 0.1% adjusted for recall costs, while service gross margin fell to negative 174%. Shareholders' equity fell to negative RMB960mn at the end of June, versus RMB2.3bn at the end of Q1."
Bernstein's was not alone in its harsh criticism. Morgan Stanley's post-earnings commentary was also scathing, concluding that NIO's cost-cutting efforts have come to naught:
"Despite NIO's cost-cutting efforts, a weaker sales outlook ahead of NEW product launches in 2H19-20 may push back its turnaround."
Wolfe Research was also shocked by the scale of the losses. The analyst shop had been extremely bullish on the stock until this latest earnings flop. Wolfe saw no choice but to downgrade the name:
"Tough results, weak outlook, lack of financing visibility: NIO reported 2Q19 earnings before market open on Tuesday and held a conf call Wed AM. Cash burn was worse than expected, forward volume and margin guidance was disappointing, and no external financing was announced...Volumes [were] lower than our most bearish assumptions...Lower vol's clearly drive the need to shrink the cost base but also could be driving potential sources of financing to balk."
Running on empty
If the staggering losses were not bad enough, NIO also faces a looming liquidity crisis. According to Bernstein, NIO may only have weeks to live:
"NIO's accounts showed gross cash holdings of RMB3.5bn at the end of June. Assuming a lower level of quarterly cash burn this quarter (e.g. non-recurrence of recall costs, sequentially higher volumes, possibly better working capital), we think the company would have run out of cash shortly after the end of Q3 - had it not been for the $200mn convert issuance to Tencent and NIO CEO William Li. As it stands, we think NIO's liquidity is now measured in weeks. It appears inevitable to us that investors will start question NIO's ability to remain a going concern. Alongside Q1 reporting, NIO management announced an MOU for E-Town to invest 'up to RMB10bn' in the company. In today's announcement, there was no mention of further progress."
In other words, without a couple desperate financial maneuvers during the quarter, NIO would already be out of cash. Perhaps more concerning is the total silence on Beijing E-Town, an economic development agency operated by the Beijing municipal government. The absence of a reference to the E-Town financing deal was highlighted again in Wolfe Research's note:
"Since Q1 results (reported in May), the main question has been whether meaningful equity financing from a non-institutional investor (e.g., Beijin E-Town would be executed. Lack og an announcement, despite what we assume was a delay in reporting Q2 earnings in anticipation of an agreement, is concerning."
Without a big external injection of cash, NIO will not be able to remain a going concern. As Morgan Stanley's note explained, this means that, despite the significant correction to the stock price and reduced market expectations already priced in, the risk of insolvency could mean more downside risk lies ahead:
"Market expectations are much reduced, but limited fund raising options may be an overhang."
It appears NIO is in a lot of trouble. The company is rapidly depleting its financial resources and has lost the goodwill of investors. With the stock already crushed, any further financing would likely come with punishing dilution. Moreover, there is no certainty whether the company will be able to raise sufficient financing at all. At its current cash burn rate, it will likely need to raise several hundred million dollars to be able to reassert a degree of stability. But that will not be cheap.
Additionally, NIO's management has strained credulity. After delaying the publication of its earnings report, apparently in an effort to close its as-yet-unfinished agreement with E-Town, it abruptly canceled its analyst earnings call. Bernstein reflected on this turn of events with rueful humor:
"The company also took the, erm, surprising decision to cancel its quarterly analyst call. It's not completely without precedent for a Chinese car company to refuse to speak to investors (hello BAIC). Maybe management can still pull something out of a hat in the coming weeks. But the fact management has nothing positive to say won't have inspired confidence for anybody brave enough to take the glass half [full] view here, considering the negatives speak for themselves."
While a call did eventually take place, it offered little more information regarding the company's future.
Weak volume, crushing losses and unsustainable cash burn add up to a very ugly picture for the young electric vehicle manufacturer. Electric vehicles may be the future of driving, but NIO's future as a going concern looks extremely shaky.
Disclosure: No positions.
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This article first appeared on GuruFocus.