5 Reasons to Stick With the Red-Hot Rally in NIO Stock

All year long, through the novel coronavirus pandemic and all, I’ve been pounding on the table about Chinese premium electric vehicle (EV) maker NIO (NYSE:NIO), saying that 2020 will be the year that NIO stock comes back from the grave, that Covid-19 risks won’t derail the growth narrative and, most recently, that NIO stock is one of the best stocks to buy in the market.

5 Reasons to Stick With the Red-Hot Rally in NIO Stock

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Through it all, the stock is up 67% year-to-date — including a near 200% rally from its March lows — and trades at fresh 52-week highs.

What comes next?

More upside. For five big reasons:

  1. Consumer behavior in China is normalizing post-Covid-19, and the auto market is in rebound mode.
  2. The EV megatrend is regaining significant momentum and has huge room for growth over the next 5 to 10 years.
  3. NIO is increasingly establishing itself as a go-to premium player in China’s EV market.
  4. The balance sheet has been shored up, and cash burn issues are easing.
  5. Relative to the company’s long-term growth potential, NIO stock is still undervalued.

All in all, then, I say stick with the red-hot 2020 rally in NIO stock. This stock has visible upside to $10 over the next few months.

Rebounding Auto Market

China’s auto market slumped over the past two years, thanks to escalating U.S.-China trade tensions coupled with slowing economic growth in China.

But, coming out of the Covid-19 crisis, China’s auto market posted positive growth in April for the first time in nearly two years. The country followed that up with even bigger auto sales growth in May.

This rebound in auto sales is part of a broader rebound in consumer spending in China. This rebound in consumer spending will persist, because Covid-19 risks are in the rear-view mirror, there’s ample fiscal and monetary stimulus in the pipeline to help turn pent-up consumer demand into robust consumer spending, and U.S.-China trade tensions have been cooling for several months, laying the foundation for boosted consumer sentiment.

All in all, then, China’s retail sales trends should continue to improve over the next several months. As they do, China’s auto market will sustain its current rebound.

The EV Megatrend Is Back

Against the backdrop of rebounding auto sales, the EV market in China has come roaring back to life.

For years, China’s EV market was the biggest and fastest growing EV market on the planet, supported by strong government incentives that promoted the adoption of EVs.

But the Chinese government eased up on EV subsidies in 2019. This easing coupled with a drop in total auto sales caused the red-hot EV market in China to fall flat.

In 2020, however, both trends are changing course. Total auto sales are rising again, and China has extended its EV subsidy program. Consequently, China’s EV sales are once again setting monthly record highs.

This resumption of hyper-growth in China’s EV market will stick around for the next few quarters, supported by Chinese EV subsidy extensions, rebounding auto sales and increasing consumer awareness of EVs thanks to the entry of Tesla (NASDAQ:TSLA) into the Chinese auto marketplace.

NIO Is Growing Premium Mindshare

NIO’s delivery trends suffered dramatically in 2019, giving some investors concern that the company’s premium EV mindshare was small and slipping.

But, in 2020, those delivery trends have reversed course in a big way, behind robust and growing demand for the ES6, the company’s 5-seater premium electric SUV and rebounding demand for the ES8, the company’s 7- and 6-seater variant.

NIO’s March deliveries rose 116.8% month over month. April deliveries rose 105.8% month over month. May deliveries rose more than 215% year over year.

This big growth trajectory will persist, supported by rising EV demand, expansion of the luxury EV market and the launch of the EC6. By the end of the year, I wouldn’t surprised to see NIO’s share of China’s EV market rise to above 3%, from below 2% last year.

Fundamental Trends Improving

Beyond the delivery numbers, NIO’s fundamentals are improving through better margins and a stronger balance sheet.

Last quarter, vehicle margins and gross margins both rose year over year. At the same time, operating loss narrowed year over year. All of these trends are expected to persist next quarter, as increased scale drives better economics and a stronger margin profile.

Concurrently, NIO scored $1 billion in financing from a group of strategic investors in April, and raised $428 million through a secondary offering in June. In sum, that injects nearly $1.5 billion of cash onto a balance sheet that had just $340 million in cash on it in March.

Overall, then, NIO’s margins are improving and its balance sheet has been beefed up with cash. These concurrent favorable trends dramatically decrease liquidity risks, and put the focus back onto execution and the long-term growth narrative.

Valuation Remains Compelling

My numbers indicate that NIO stock has upside potential to roughly $10 in 2020.

As I’ve recently discussed, NIO should achieve 5% market share in China’s EV market by the end of the decade, supported by the fact that the upper- and upper-middle-income bands in China account for about 10% of the total population, and that NIO and Tesla are essentially the only two formidable players in China’s luxury EV market. Essentially, NIO should be able to leverage its “home-court” advantage and strong branding to control about half of China’s premium EV market at scale.

Assuming the company winds up at a margin profile similar to that of Tesla — i.e., 20% gross margins with an opex rate of approximately 10% — and that China’s EV market grows to account for 25%+ of total new car sales by 2030, then NIO has a visible opportunity to grow earnings per share towards $1.20 by the end of the decade.

Based on a market-average 17-times forward earnings multiple and a 10% annual discount rate, that implies a 2020 price target for NIO stock of nearly $9.

Stocks on fire tend to shoot above their fair value. As such, I realistically see NIO stock making a run towards $10 in 2020.

Bottom Line on NIO Stock

Stick with the red-hot rally in NIO stock. All important factors surrounding this company will only improve over the next few months.

The Chinese economic rebound is going to accelerate. China’s auto sales are going to keep rising. The EV market will keep posting record month after record month. NIO’s mindshare will keep expanding. Delivery volumes will keep charging higher. Gross and vehicle margins will keep rising. Net losses will keep narrowing.

As all that happens, NIO stock will keep rallying.

Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been rated one of the world’s top stock pickers by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, he was long NIO.

Article printed from InvestorPlace Media, https://investorplace.com/2020/06/5-reasons-to-stick-with-the-red-hot-rally-in-nio-stock/.

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