One of the most valuable companies in 2020, Nio (NYSE:NIO) rose over 1,190%. While Nio’s success story is remarkable and the growth potential is appealing, the company does not have as many advantages as its competitor Tesla (NASDAQ:TSLA). And the issues for NIO stock — the “Tesla of China” — don’t end there.
No one can deny the rising demand for electric vehicles. Nio is clearly enjoying the wave of excitement. But it’s not alone. Several EV startups have emerged over the years and gained significant traction this year in particular.
With all of those points in mind, NIO stock is starting to look overvalued despite its China-based advantages.
Let’s take a closer look at why this is true.
Decline in EV Demand Across U.S.
For its Q3 2020 results, Nio reported a small quarterly loss and record deliveries that led to higher margins. Specifically, there was a 22% increase in revenue and the gross margin hit 12.9% due to higher efficiency in manufacturing. It expects to deliver around 16,500 to 17,000 vehicles in the next quarter.
However, when it comes to demand, Europe leads the way. According to McKinsey, “By 2030 … more than a third to almost half of vehicles sold in China and Europe will be battery-powered and plug-in hybrid electric vehicles. The anticipated market share for the U.S. is far lower at roughly 17% to 36%, up from 3% this year.”
Another report by McKinsey estimates that China’s EV market will experience relatively slow growth. For example, although there’s plenty of hype, in the first quarter of 2020, EV sales in China declined by 57% from the fourth quarter of 2019. Because of this, the government extended monetary incentives to EV manufacturers through 2022. On the other hand, in the U.S., the debut of the Tesla Model 3 in 2018 helped power much of the overall EV sales, but the market hasn’t seen as much success since. By the end of the first quarter in 2020, EV sales in the U.S. declined 33% QoQ.
Low oil prices are also a reason behind the EV slowdown. Additionally, there are other stronger companies, including Volkswagen (OTCMKTS:VWAGY), Audi and Toyota (NYSE:TM), that will give stiff competition to Nio.
Putting it all together, despite the strong Q3 results, I think NIO stock is overvalued. In fact, a recent article by Forbes summarizes the concerns around Nio’s long-term outlook quite nicely:
- NIO stock trades 26x projected 2020 revenue
- There is intense competition in the Chinese EV market (more than 400 manufacturers)
- One of its top competitors — Tesla — trades at 12x projected sales
- Tesla will launch its Model Y SUV soon, which could be priced competitively with Nio’s equivalent offering
- Nio recalled 5,000 vehicles in 2019 after reports of multiple fires — such issues might return
Remember, the company was on life support until the second quarter of 2020. The local government in China helped saved it with a $1.4 billion bailout deal. Likewise, Nio had to establish new headquarters in the city to expand its operations.
NIO stock might have climbed significantly higher this year, but the road it travelled was far from easy. Its current gains seemingly deny much of these complexities.
The Bottom Line on NIO Stock
Nio is one of the largest EV startups in China. As such, it has strong ties with the Chinese government, which it can use to its advantage in the coming year. Chinese politicians want the country to become a leader in the EV industry and they have been very accommodating with Nio. Additionally, Nio enjoys the added advantage of the lower labor cost in China.
However, there has been trade tension between the U.S. and China for the past two years. U.S. President Donald Trump signed a bill ordering the delisting of foreign companies that do not follow the same accounting transparency standards that the securities regulators impose on U.S. public firms. If the company does not comply with audit inspections for three years in a row, delisting could happen.
Chinese companies are reluctant to let regulators inspect their accounts. This bill can affect NIO stock moving forward, but because of the three-year compliance period, the impact will not be immediate. Furthermore, Nio’s future success relies heavily on the whims of the Chinese government.
When you add all of these factors together, NIO stock is simply too expensive to justify the risk. Shares could rise further, but buying at this level is not a good idea.
On the date of publication, Vandita Jadeja did not have (either directly or indirectly) any positions in the securities mentioned in this article.
