The selling has let up, at least for the time being. Nio (NYSE:NIO) stock recovered in July, bouncing back from below $2.50 per share to $3.47 to close the month. After a truly dreadful few months, July was decent for NIO. Late in the month, NIO stock got an endorsement from CNBC Fast Money trader Pete Najarian as well.
The bigger picture is still ugly, though. At the beginning of March, I warned investors not to buy into Nio’s hype. At the time, Nio’s CEO went on 60 Minutes and suggested that Nio could overtake Tesla (NASDAQ:TSLA) and become China’s leading EV company while establishing a dominant lifestyle brand. NIO stock briefly spiked up to $10.
Unfortunately, reality hasn’t matched up to the hype at all. Nio doesn’t even have any vehicle models within the top 10 most popular Chinese EVs. They had to indefinitely delay a promised new sedan model. They’ve been hit with a massive product recall. And worst of all, the company’s cash is quickly running out.
Nio’s Huge Losses
Nio’s quarterly results announced in June were astonishingly bad. The company’s vehicle deliveries plummeted in half, from nearly 8,000 the previous quarter to just 3,989 in Q1. That’s barely 1,000 cars a month that they were selling. Yet the market still values this tiny little operation at a nearly $4 billion market cap.
It gets worse. For the quarter, Nio brought in revenues of $249 million. Its operating margin on each vehicle sold was -7%. That’s right, even before counting salaries and other overhead costs, Nio was losing money on every car it sold. Add in those prolific other charges and things get incredible. Despite revenues of just $243 million, Nio managed to lose $390 million.
For all the grief Tesla gets from short-sellers, this is infinitely worse. The company is losing money on every car it sells, and its overall losses are far larger than its overall revenues. To add insult to injury, the company had to recall 4,803 of its vehicles in June due to battery issues.
Electric vehicle batteries are expensive to replace, and at 4,803 vehicles, that’s more than three months worth of production for this firm that is implicated in this vehicle defect. With only $600 million or so in cash left as of last quarter, $400 million in quarterly losses, and a massive recall on top of that, Nio is in dire straights.
Nio’s Bonds Have Collapsed
At the end of January, Nio issued $650 million in convertible bonds. This type of bond serves as part fixed income, part equity exposure. That’s because, if the stock rallies enough, the owners can convert the bond into common stock and participate in a company’s upside. But, if the share price tanks, however, the bond owner still gets the face value of their investment back plus interest, in theory, at least.
However, remarkably, in just six months, these newly-issued convertible bonds lost nearly half their value. By the end of June, Nio’s convertible bonds issued this winter at par (100) had already dropped to 50 cents on the dollar. At that price, Nio’s bonds were yielding a breathtaking 35% interest rate annually. If you think Nio is a viable company, why own the stock when you can get that massive yield on its debt?
Clearly, many in the fixed income market think Nio will no longer be a functioning company within a few years, or at a minimum that it will have to go through bankruptcy reorganization, which would likely wipe out NIO stock.
Nio’s book value is just 33 cents per share and it’s even less than that if you discount some of the assets such as inventory. There’s virtually nothing in the way of hard assets to support Nio’s bonds let alone its stock. Remember that Nio doesn’t have its own manufacturing capabilities; it outsources that.
In any case, it’s extremely rare that a bond hits levels as bad as Nio’s have without the company going bust or at a minimum doing a major capital raise. It’s hard to see any scenario where Nio can make good on its debt without having terrible ramifications for NIO stock, which sits at the very bottom of the company’s capital structure.
NIO Stock Verdict
I believe traders should use the recent rally in NIO to get out. If people bought earlier in the year, they’re probably still underwater on the stock here, but things can go from bad to a whole lot worse then you have such a terrible balance sheet and massive ongoing operating losses.
In venture capital, there’s a key concept known as the burn rate. This is how much money a company is losing in its everyday operations. Management has to plan accordingly to make sure they don’t exhaust their runway (their remaining funds) before they find an exit strategy. An exit is often selling to a larger firm, raising more capital, or doing an IPO.
In the case of Nio, however, there’s no way to get a clear exit now. The company already did its big public offering. With shares in the dump, it is very hard to sell more stock at any reasonable price. And the company’s bonds are trading at payday lending rates; obviously, no one is going to lend them more money at an acceptable yield. Nio aimed too big and too fast; they tried to build up their brand to a massive level before getting the underlying sales and cash flow needed to support such grand ambitions.
Now, the company is just months away from running out of cash altogether with little prospect of achieving profitability before then. For NIO stock owners, the longer you wait to sell, the worse it’s going to get.
At the time of this writing, Ian Bezek had no positions in any of the aforementioned securities. You can reach him on Twitter at @irbezek.
