Against the backdrop of a steadily deteriorating U.S.-China relationship, XPeng, Inc. (XPEV) debuted successfully on the NYSE on August 27, 2020, with its American Depository Shares. The stock popped 40% on the day even as the surge in demand resulted in the Alibaba-backed (BABA) company raising $1.5 billion against the earlier estimate of $1 billion. Since then, the stock has been trading relatively flat, with news pushing it up or down around the $20 level, but still up by about 40% from its offer price of $15. Alibaba Group Holding Limited and its subsidiary, Taobao China Holding Limited, own 191,918,464 Class A Ordinary Shares, which is 13.3% of all outstanding ordinary shares and 19% of Class A Ordinary Shares, per the Schedule 13D filing with the SEC on August 26, 2020.
Thesis: The company has shown strong growth performance in the past two years, and has a long trajectory of growth ahead, a strong financial position, and ample production capacity to address aggressive growth over the next few years. The current price indicates a significant upside potential.
The Biggest Risk Factor in Perspective
Before we analyze the company’s performance vis-a-vis its Q3 deliveries and the recent cooperation agreement to build a Smart EV Base at the Guangzhou Economic and Technological Development Zone in China, investors should be aware of the politically-driven risks for Chinese companies trading on U.S. exchanges.
In May 2020, the U.S. Senate overwhelmingly passed a bill (Senate measure S. 945) that, if passed into law, could lead to a delisting of all foreign companies unless they were able to certify that they are not owned by or under the control of a foreign government. These companies will also need to allow the Public Company Accounting Oversight Board to audit their books for a consecutive three-year period for the purpose of verifying such a status.
The bill is yet to pass through the House and signed into law by the President but could have near-unanimous bipartisan support should it be put to a vote. If it does make a successful passage and is signed into law, it could lead to a mass delisting of securities issued by tech giants like Alibaba and Baidu (BIDU), not to mention the 200+ other Chinese companies that have gone public since Alibaba’s IPO in 2014. The only ones that will survive the delistings are the ones that can categorically prove that they are completely independent of government control or ownership, and there’s a slim chance that any of them can avoid being delisted.
On the other side of the line is the opinion that delisting such stocks will backfire and hurt American investors because billions of dollars have already been invested in the stocks of these companies. Wall Street will, of course, lobby lawmakers in an attempt to block the bill from being put to a House vote that may also be near-unanimous in its censure of Chinese companies.
Ultimately, it may come down to the will of the President of the United States, who will be caught between the figurative rock and hard place. On the one hand, vetoing it will go against the U.S.’s toughening stance on China; on the other, signing it into law could wipe out $2 trillion or more from the exchanges on which these stocks are currently listed. Alibaba alone represents about $825 billion in market capitalization.
An additional consideration is that these monies represent significant American investments in the Chinese EV market, which is much bigger than that of the United States, as well as in other tech areas such as cloud computing and autonomous vehicle technology. The gains that U.S. investors have made from these stocks are essentially from the strong domestic growth in the EV, cloud, and tech space in China. One could and must certainly question the wisdom of cutting off access for American investors to such a lucrative investment vehicle.
Moreover, delisting these stocks from U.S. bourses will only prompt these companies to list elsewhere; namely, London, Hong Kong, or even mainland China. This is something that goes against America’s need to maintain the primacy of its top three stock exchanges.
In many ways, Chinese listings in the U.S. represent a pandering to that whim, while giving their own securities that much more credibility. These stocks are now almost an indispensable part of the U.S. investment landscape. The eagerness of investors to make gains from rapidly growing market segments in China is fairly obvious when you look at the multibagger runs (as of this writing) some of these stocks have had since their respective IPOs in the U.S.:
- Alibaba debuted at $68 and is now trading at over $300;
- Baidu went public at $27 (adjusted to $2.70 after the 10-to-1 split five years later) and is now trading at $135;
- Nio (NIO) debuted at $11.50 and was trading at under $4 at the start of the year – it is now trading at over $33.
These are just a few examples of how Americans are investing in the growth in the overall Chinese technology market – and how they’re benefitting from that in terms of price return.
As such, it will be hard to imagine such a law being passed, especially at a time when the American economy is already reeling and markets are showing a high degree of volatility.
Back to XPeng
Seen against that broader backdrop, investing in XPeng is as risky or as safe as investing in BABA right now, at least as far as the chances of being delisted are concerned. Now, let’s look at the company’s current performance and other metrics, and its prospects for the future. The company is yet to announce its first quarterly earnings report after the listing, which is expected on November 12, 2020.
For the third quarter of the fiscal year 2020, the company has reported total deliveries of 8,578 vehicles, up 266% from the year-ago period. In September 2020, record deliveries were reported as 3,478 Smart EVs reached their respective customers. This represents a 31% sequential increase over the 2,655 deliveries reported for August 2020. Against July deliveries, the figure for August represents a +8% increase on a sequential basis.
These figures translate to increased momentum through the third quarter. October 2020 delivery figures came in significantly lower at 3,040 units but still represent a 229% increase on a YoY basis. The lower deliveries for October were attributed to the week-long Golden Week holiday at the beginning of the month in China.
As of October 31, the figure for YTD deliveries for 2020 stands at 17,117 Smart EVs representing a 64% YoY increase. The current product line comprises the P7 sports sedan and the G3 compact SUV, and the company plans to introduce a new model every year. The plan for 2021 is a sedan and, for 2022, a full-sized SUV.
Despite the overall EV market in China having slowed down in 2019 due to subsidy eliminations and reductions in favor of incentivizing/punishing EV OEMs based on their vehicles. The system involves rewarding OEMs for meeting NEV production targets with credits that are based on achievements in top speed, power consumption, range, speed, etc. On the stick side of this carrot-and-stick arrangement is the fact that these companies face stiff fines for not meeting their quotas; they can either purchase credits from competitors or pay the fines.
Seen from that perspective, XPeng is in a good position to rack up credits due to its production achievements and ongoing capacity expansions, not to mention the superior range, safety, and performance of its vehicles. It is also the first full-stack maker of smart EVs, which gives it significant supply chain advantages over the competition, most of whom are dependent on the capacities of their suppliers. The batteries are obviously not included in this consideration.
That brings us to the next area of growth: production capacity.
The company currently has two operational manufacturing plants, one self-owned and one contracted, with a combined capacity of 250,000 cars per year. It also had a network of charging piles numbering well over 200,000 as of June 30, 2020.
Through its subsidiary, Guangdong Xiaopeng Motors Technology Co., Ltd., the company recently announced the construction of a new facility at the Guangzhou Economic and Technological Development Zone, which will be financed by Guangzhou GET Investment Holdings Co., Ltd. to the amount of RMB 4 billion, or approximately $600 million. Construction of the SEMB (Smart EV Manufacturing Base) is expected to begin on or before December 31, 2020, per the Cooperation Agreement. The planned capacity for the new plant is expected to “significantly expand the Company’s production capacity.”
While the exact planned capacity for the plant is currently unknown, it should give XPeng a great deal of supply flexibility as it grows its China market and explores opportunities overseas. The current delivery run-rate is in the neighborhood of 25,000 to 30,000 deliveries per annum, give or take, and production capacity is already at 8x to 10x with the self-owned and contracted plants. Adding a new plant will give the company an even greater production buffer to launch in new markets and price segments within and outside China.
As at June 30, 2020, the company reported holding cash and cash equivalents of $150 million and restricted cash of $118 million on a pro-forma basis. Total debt, which includes short-term and long-term borrowings and the current portion of long-term borrowings, totaled $287 million. For the six months ended June 30, the company reported $142 million in total revenues. Gross loss was reported at $5 million and operating loss at $202 million. A net loss of $113 million was reported for the period.
Per the August IPO Prospectus filed with the SEC on Aug 28, the company recorded $2.48 billion in cash and cash equivalents on a pro-forma adjusted basis.
For now, the company says that its reserves “will be sufficient to meet our anticipated working capital requirements, including capital expenditures in the ordinary course of business for the next 12 months.”
The company is far from becoming profitable, and that’s not something investors should expect in the near term. Net cash used in operating activities was recorded at -$171.6 million for the six months ending June 30, 2020.
For future growth, the company may take the equity financing route to avoid putting additional pressure on its negative operating cash flows as it grows toward profitability.
As of a November 2 report from China’s State Council, the NEV (New Energy Vehicle) market is expected to go from the current 5% of new car sales to about 20% in 2025, which is a downward revision from the 25% figure forecasted by the Ministry of Industry and Information Technology last year.
The overall passenger car market in 2019 in China recorded 21.44 million units in sales, per data from the China Association of Automobile Manufacturers. NEV sales were recorded at about 1.2 million units. Allowing for discrepancies, that’s about 5%-6%. Even assuming relatively flat growth between 2020 and 2025, 20% of total car sales would equal about 4.3 million NEVs sold in 2025. That represents a CAGR of about 30% for the five-year period between now and then.
We saw that growth over 2019 was stunted due to the decline in subsidies, and this was further compounded by the early-2020 period being hit by the novel coronavirus, but the rest of 2020 and beyond looks largely positive for EV sales.
XPeng is spending aggressively on both R&D as well as sales and marketing. For the year ended December 31, 2019, R&D expenses were 89% of revenues, while the SG&A portion was recorded at 50% of total revenues. For H1-20, those figures were reported at 63% and 80%, respectively. The aggressive spending on product development and marketing is driving revenue growth now and will keep adding considerable sales momentum in subsequent quarters. The goal of the company is simple: to grow as aggressively as possible while increasing production capacity and broadening the product portfolio.
Source: Seeking Alpha
The stock currently offers ample value when you look at the price to sales and enterprise multiples of some of its peers in the segment. As one of the key players in the Smart EV space in China, this stock represents a solid long-term investment. Watch for upward-revised price targets from sell-side analysts in the coming weeks.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.