A Chinese EV Company That Represents Remarkable Value

Over the years, one of my most profitable investment research techniques has been to look for companies whose stock has been dragged down by negativity around the market in which they operate, even though they themselves are well-run, efficient, and profitable, characteristics that will enable them to survive a downturn and emerge stronger should competitors go under or cut back operations significantly when times are tough. So, when there is a flood of bad news about an industry and every stock is getting hit, I start sniffing around, looking for a company that fits the bill. This week, that has led me to the Chinese EV manufacturer and distributor, Li Auto (LI).

EV sales seem to have plateaued around the world, so given that many of the stocks in the industry were trading at extremely high P/Es and many other companies have never made any money so don't have a P/E, it is no surprise that EV stocks have had a tough start to 2024. The biggest of them all, Tesla (TSLA), for example, is down around 40% YTD. You may remember that I wrote a piece about a month ago saying that I was getting back into TSLA, a trade that worked out for a while, but which I have now fully exited after the stock dipped below its 52-week low just above $152. The problems there, however, seem to be somewhat company-specific and I haven't completely lost faith in the industry.

One of those company-specific problems is that competition in the space has heated up, forcing Tesla to cut prices. They even felt the need to announce a cut of around 10% in their global workforce this week, citing that competition as one of the reasons. One of those competitors is LI, a company that has been undercutting Tesla in terms of price for a while, damaging its sales in the massive Chinese market. Li has not had to adjust. They were already operating in a lean manner, and they have been making good money while doing so.

They have trailing twelve-month revenue of close to CNY124 billion CNY ($17.5 billion USD), of which they produced free cash flow of just under CNY40 billion ($5.53 billion USD) and CNY11.7 billion of net income ($1.61 billion USD. Oh, and they have CNY103 billion of cash on hand ($14.23 billion USD) with only $13.5 billion of debt (1.87 billion USD). That is almost the definition of a strong balance sheet, and it will enable Li to ride out weakness in the market for some time if that is what transpires. Of course, to take this trade, you have to believe that EV sales will resume growth at some point, but with no real alternative non-gas powered vehicles on the horizon and the world still focused on emissions reduction, that looks likely to happen before too long.

So, this then becomes a valuation question, and, in many ways, Li is in the unusual position of being one of the most successful companies in the industry, but also one of the cheapest. It currently trades at trailing and forward P/Es of 18.74 and 20.49, respectively, as opposed to 36 and 52 for TSLA, while Chinese rival Nio, like so many other EV companies, doesn't have a P/E because they don't have any positive earnings to get the "E" part from.  That all suggests great value, as does a price/book ratio of nearly 3.5 and a PEG ratio below 1.

My biggest hesitation is that the 1-Year chart above doesn't exactly scream "BUY ME!". That may make averaging into a long position over a week or two the best strategy. The chart does, however, indicate some trade parameters that work in your favor. We are close to the $26 level that LI gapped up to just under a year ago which provided good support back in January. That suggests a stop at around $25, or about 15% below current prices. The upside on the trade would be somewhere around $40, giving a potential profit of more than double the potential loss.

LI ticks all the boxes for me right now. It is a solid, profitable company in an industry that is experiencing a lull that should prove temporary. It represents good value by almost every metric, and the risk/reward of a trade based on logical parameters works in your favor. There are the usual risks involved in investing in a Chinese company, where a firm can fall in and out of government favor in a heartbeat, but they look to be outweighed by the opportunity to buy a stock that is trading at around a third of its book value. The bottom line is that the market is treating LI like all the other EV companies when it clearly isn't the same thing, and that is too good an opportunity to miss.