AI And Autonomous Driving Will Expand Global Markets

Key Takeaways

• Aggressive R&D investments in AI and autonomous driving demonstrate competitiveness, but may pressure profitability and earnings growth expectations.
  
• Expansion in sales efficiency and overseas markets could diversify revenue streams, but may strain short-term margins and earnings due to high upfront costs.
  
• Increasing competition, strategic investments, and expansion risks could pressure Li Auto’s margins and cash flow despite potential growth from future technologies and global market penetration.

Catalysts

Operates in the energy vehicle market in the People’s Republic of China.

• Li Auto's aggressive expansion in R&D, particularly in AI and autonomous driving technologies, suggests a commitment to remaining competitive. However, high R&D expenses, which reached RMB 11 billion in 2024, may pressure profitability and lead to lower earnings growth expectations.
  
• The company's shift from lower-performing stores to more efficient sales centers might enhance revenue through higher sales efficiency, although the initial costs and the transition period could adversely affect short-term margins.
  
• The accelerated rollout of supercharging stations is a forward-looking strategy to support new BEV launches. This expansion is capital-intensive and might impact net margins and cash flow initially, as investments precede revenue increases from new model sales.
  
• Li Auto's overseas expansion strategy, beginning with R&D centers in Munich and service centers in Central Asia and the Middle East, could potentially diversify revenue streams. Nevertheless, the required investments could lead to lower margin and earnings projections in the short term.
  
• The decline in vehicle margins to 19.7% in Q4 2024 from 22.7% the previous year indicates possible sustained downward pressure due to competitive pricing and interest subsidies, potentially reducing earnings expectations.

Li Auto Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Li Auto compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Li Auto's revenue will grow by 13.1% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 5.6% today to 6.6% in 3 years time.
• The bearish analysts expect earnings to reach CN¥13.8 billion (and earnings per share of CN¥15.1) by about May 2028, up from CN¥8.0 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 21.1x on those 2028 earnings, down from 23.4x today. This future PE is greater than the current PE for the US Auto industry at 13.9x.
• Analysts expect the number of shares outstanding to grow by 1.06% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 12.64%, as per the Simply Wall St company report.

Li Auto Future Earnings Per Share Growth

Risks

• Li Auto's revenue and profit margins may be negatively impacted by the declining average selling price and vehicle margin, as noted in their Q4 2024 financials where gross margin decreased to 20.3 percent from 23.5 percent year-over-year due to different product mixes and customer interest subsidies.
  
• The company's cash flow may be pressured by substantial growth in AI-related investments in the coming years, which, while crucial for future technology advancements, could strain cash resources and operational funds needed for more immediate priorities.
  
• Competition in the NEV market is intensifying, particularly in the realm of advanced autonomous driving technologies, which could impact Li Auto’s ability to maintain or grow their current market share, influencing future revenues and profitability.
  
• Expansion into overseas markets poses significant execution risks, as it involves building new infrastructure, establishing dealer and service networks, and adapting offerings to different market demands, all of which might delay revenue generation and affect net margins.
  
• Li Auto faces potential challenges in scaling BEV production and infrastructure, such as supercharging stations, in preparation for new model releases in 2025, which are crucial to meet sales targets and could impact net income if execution does not align with strategic timelines.

Valuation

• The assumed bearish price target for Li Auto is $27.0, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Li Auto's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $39.81, and the most bearish reporting a price target of just $27.0.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be CN¥209.2 billion, earnings will come to CN¥13.8 billion, and it would be trading on a PE ratio of 21.1x, assuming you use a discount rate of 12.6%.
• Given the current share price of $25.68, the bearish analyst price target of $27.0 is 4.9% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.