Li Auto (LI) intends to raise $855 million from the sale of ADSs representing underlying Class A stock in an IPO, according to an amended registration statement.

The company designs and manufactures new energy (electric) SUVs in China.

LI is pursuing a direct-to-consumer approach, which has its limitations, and will be exposed to the lingering effects of the Covid19 pandemic on sales growth well into 2021.

Beijing, China-based Li was founded to develop smart electric SUVs for the Chinese market.The firm's first model is the Li ONE, a six-seat, large electric SUV. The company has delivered more than 10,400 of the vehicles as of June 30, 2020.

Management is headed by founder, Chairman and Chief Executive Officer Mr. XIang Li, who was previously the founder of Autohome (ATHM), a destination site for automobile consumers in China.

Below is a brief overview video of the firm's Li ONE electric SUV:

Source: AutoNews Creative

Li has received at least $1.5 billion from investors including Amp Lee Ltd. (controlled by founder Xiang Li), Zijin Global, Rainbow Six and Inspired Elite Investments

The firm aims its automotive development efforts on the SUV segment with a price range of $21,000 to $70,000.

It has established its own direct sales and servicing network and has created an integrated online / offline system for its sales and marketing efforts.

LI pursues customers through a direct basis rather than via third-party dealerships.

It believes this 'DTC' approach enables it to obtain greater data and to better manage customer interactions, thereby reducing customer acquisition costs.

Selling, G&A expenses as a percentage of total revenue have dropped sharply as revenues have increased.

The Selling, G&A efficiency rate, defined as how many dollars of additional new revenue are generated by each dollar of Selling, G&A spend, was 7.6x in the most recent reporting period.

According to a 2019 market research report by TechSci Research, the Chinese market for electric vehicles of all types was valued at approximately $74 billion in 2018 and is expected to reach $330 billion by 2024.

This represents a forecast CAGR of more than 28% from 2019 to 2024.

The main drivers for this expected growth are growing concern over environmental pollution and increasing affordability of electric vehicles on offer.

Also, the chart below shows the historical and future forecast growth trajectory for various electric vehicle types:

liautomarket

Major competitive or other industry participants include:

  • Yadea Group
  • AIMA Technology Group
  • Zhejiang Luyuan Electric Vehicle
  • Geely Automobile
  • Dongguan Tailing Electric Vehicle
  • Jiangsu Xinri E-Vehicle Co.
  • Shandong Incalcu Electric Vehicle
  • BAIC International

Management says domestic produced vehicles usually have a significant price advantage over imported models, so management believes it can compete effectively.

Li’s recent financial results can be summarized as follows:

  • Sharply growing topline revenue
  • A swing to positive gross profit and gross margin
  • Reduced operating losses
  • Lowered cash used in operations

Below are relevant financial results derived from the firm’s registration statement:

lipl

Source: Company registration statement

As of March 31, 2020, Li had $148.9 million in cash and $474.5 million in total liabilities.

LI intends to sell 95 million ADSs representing 190 million of Class A ordinary shares at a midpoint price of $9.00 per ADS for gross proceeds of approximately $855 million, not including the sale of customary underwriter options.

New investor Hillhouse Capital has indicated a non-binding interest to purchase shares of up to $300 million of the IPO.

Additionally, the firm is raising $380 million in a concurrent private share placement with existing shareholders.

Class A stockholders will be entitled to one vote per share and Class B shareholders will be entitled to ten votes per share.

The S&P 500 Index no longer admits firms with multiple classes of stock into its index.

Assuming a successful IPO at the midpoint of the proposed price range, the company’s enterprise value at IPO would approximate $7.6 billion.

Excluding effects of underwriter options and private placement shares or restricted stock, if any, the float to outstanding shares ratio will be approximately 11.24%.

Per the firm’s most recent regulatory filing, the firm plans to use the net proceeds as follows:

  • 'approximately 50% for capital expenditures, as we estimate that our capital expenditures for the next three years will be approximately RMB10.4 billion (US$1.5 billion), which are expected to be financed through net proceeds from this offering and the concurrent private placements, existing cash on hand, and cash from sales of vehicles;
  • approximately 40% for research and development of new products; and
  • the balance for general corporate purposes and working capital.'

Management’s presentation of the company roadshow is not available.

Listed underwriters of the IPO are Goldman Sachs, Morgan Stanley, UBS Investment Bank, CICC, Tiger Brokers and Snowball.

Commentary

LI is seeking U.S. public market investment for its CapEx and R&D requirements as it pursues the new energy (electric) SUV market in China.

The firm’s financials indicate little history as LI recently began shipping automobiles. While we see a sharp revenue ramp, it is based on relatively small production growth.

Sales and marketing expenses as a percentage of total revenue have dropped sharply and its sales and marketing efficiency ratio has grown markedly since the firm began selling vehicles.

The market opportunity for selling electric vehicles in China is large and expected to grow substantially in the years ahead as consumers change their tastes, have greater discretionary income and the government continues to favor the product type.

On the legal side, like many Chinese firms seeking to tap U.S. markets, the firm operates within a VIE structure or Variable Interest Entity. U.S. investors would only have an interest in an offshore firm with contractual rights to the firm’s operational results but would not own the underlying assets.

This is a legal gray area that brings the risk of management changing the terms of the contractual agreement or the Chinese government altering the legality of such arrangements. Prospective investors in the IPO would need to factor in this important structural uncertainty.

Goldman Sachs is the lead left underwriter and IPOs led by the firm over the last 12-month period have generated an average return of 74.8% since their IPO. This is a top-tier performance for all major underwriters during the period.

As to valuation, management is asking IPO investors to pay a high premium compared to Geely, an established brand selling an electric SUV, among other car models.

Geely is a comparatively mature firm and has suffered revenue contraction in the most recent reporting period versus Li’s sharp revenue ramp.

While we can assume Li will continue to grow revenue, two questions strike me.

One, how efficiently and effectively the firm can use its direct-to-consumer approach to grow quickly.

Two, how much its sales growth will be dampened by the continuing effects of the Covid19 pandemic, which I judge to be likely to continue well into 2021.

Given these uncertainties and the high price management is asking IPO investors to pay, my opinion on the IPO is NEUTRAL.

Expected IPO Pricing Date: July 30, 2020.

Glossary Of Terms

(I have no position in any stocks mentioned as of the article date, no plans to initiate any positions within the next 48 hours, and no business relationship with any company whose stock is mentioned in this article. IPO stocks can be very volatile in the days immediately after an IPO. Information provided is for educational purposes only, may be in error, incomplete or out of date, and does not constitute financial, legal, or investment advice.)

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