A Market for Lemons?

The Chinese electric vehicle (EV) market has seen contrasting fortunes recently. NIO, a Chinese company specialized in the production and development of EVs saw its US-listed share price rise by over 1100% in the year 2020 with the pandemic and yet the share price performance of it and several other EV manufacturers slumped in the year 2021, with a collapse of over 40% for NIO. However, other Chinese EV manufacturers, including Li Auto and XPeng, have reported huge growth in sales. On the 1st of February 2022, XPeng announced a year-on-year 115% increase to vehicles delivered in January 2022 with 12,922 total vehicles being delivered. Despite the success of some companies, investors are yet to rally behind Chinese EV stocks in the same way investors supported US-based Rivian’s 12 billion USD IPO late last year.

Emerging equity markets have not been considered the wisest investments for investors due to their associated volatility. Current geopolitical risks in the form of the Ukraine-Russian conflict and rising interest rates to curb rising inflation have meant that investors have been wary in putting capital into growth stocks. Chinese regulatory crackdowns have added to this risk as investors fear which industry will be hit next. Xi Jinping, the leader of the Chinese Communist Party and president of China, announced a policy of ‘common prosperity’ which involved tackling inequality issues in China. According to the Financial Times, this involves a crackdown on ‘fintech, education and entertainment as well as perceived societal ills such as celebrity culture, gaming and effeminate fashion trends.’ Similarly, much depends on the future supply of semiconductors; Taiwan Semiconductor Manufacturing Company is the largest supplier of semiconductors in the world, with a market share of 54%. If China can guarantee a supply of this import resource, the future of the Chinese EV sector is in resource-safe hands.

However, there does exist an opportunity for investors in certain technology sectors as the Chinese government is seemingly focusing its regulatory attention on the older firms such as Alibaba, the e-commerce giant, which has seen its share price tumble to roughly 124 USD – 40% of its October 2021 value. One sector where Chinese regulations have been favourable is the EV sector. The EV sector represents a prosperous emerging market, with policymakers from around the world seeking more renewable technologies and consumers adjusting their consumption patterns in favour of sustainability. Resultantly, there has been a flurry of EV start-ups in China. According to Xinhua, the Chinese state-owned media company, there ‘are some 300 EV makers in China’.

Behind the growth of EVs in China is the growth of ‘SPAC’ (special purpose acquisition companies) deals whereby companies are created with no operations and the sole aim of raising capital through an IPO to then merge with an operating firm and go public. A large number of EV firms has led to inevitable competition. However, an issue with this is that the potential economies of scale benefits are not attained as the market share is divided between so many firms. Xiao Yaqing, China’s minister for industry and information technology, stated ‘looking forward, EV companies should grow bigger and stronger. We have too many EV firms on the market right now.’ If EV firms are to compete with market leaders, there needs to be a consolidation of the smaller firms with less capital.

There exists great reason to be confident, as XPeng’s ‘cumulative deliveries exceeded 150,000’ on January 31st 2022, according to BusinessWire and ‘NIO delivered 9,652 vehicles in January 2022, an increase of 33.6% year-on-year’ according to Mamta Mayani, Editor at Seeking Alpha. And with a growing middle class in China, there is high potential for strong future projected sales growth. The booming EV sector in China is in a good position to dominate the domestic automobile market and with time the international market.

Significant risks still exist in the form of interest rate risks, geopolitical risks and foreign competitors who are seeking to expand their EV operations in China, such as Volkswagen. However, with favourable Chinese regulation, reported growths in sales and the potential for enormous scale benefits, the Chinese EV sector represents a potentially prosperous investment for investors who are looking to seek returns on the domestically and globally growing EV sector.

By Max Cowan

Sector Head: Gregor MacDonald

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