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Summary

I can't think of a more hated asset class right now than Chinese stocks. Probably a good time to look for high-quality Chinese compounders. I believe that electric scooter producer Niu Technologies is a great candidate for a long-term hold. Niu company has been suffering from China's ill-fated zero-COVID policy, which led to Niu's offline retail stores being shut down and low demand for transport vehicles. Now that the country has opened up again, customers are starting to return to stores. Niu's products are excellent: well-designed, full of smart tech solutions and well-built, too. It already dominates China's tier 1 cities, and now it's turning its sight to lower-tier cities and overseas markets. The company also benefits from the ongoing shift towards electric vehicles. And within that segment, a shift from lead-acid battery scooters to lithium-ion battery scooters. At 0.43x EV/Sales and long-term operating margins of around 7-8%, Niu is priced as if it's going bankrupt. But management guidance suggests that company will return to growth by the end of the year, thanks to the end of China's zero-COVID policy and lower lithium prices. 

Introduction

Niu Technologies is one of China’s leading EV scooter manufacturers, focusing on lithium-ion battery scooters with modern designs. 

Most of Niu's vehicles are simple 2-wheelers costing around CNY 4,000 with a maximum speed of 25km/hour, the highest speed at which vehicles can drive without license plate registration in China. 88% of Niu’s revenues come from electric scooters and 11% from accessories and spare parts.

Niu does production in-house, while distribution takes place through so-called “city partners” that act as showrooms and service centres. The company has had a dominating 26% lithium-ion battery scooter market share in tier 1 cities but limited presence in China’s smaller cities.

While Niu has started to export its scooters to overseas countries, the company is still early on in that process. And the popularisation of electric scooters is likely to benefit the company as the overall market grows. 

The origin story

Niu was founded as “Beijing Niudian” by a group of Chinese entrepreneurs in 2014. They raised their first seed money of CNY 72 million through JD’s crowdfunding platform in 2015. It later raised capital from high-profile VC funds GGV Capital and IDG Capital.

Niu's CEO is Dr Li Yan, who prior to starting the company was a principal at KKR Capstone from 2009 to 2015, overseeing their investments in China. Earlier in his career, he was a consultant at McKinsey and a research engineer at Qualcomm. He has a PhD from Stanford in electronics and electrical engineering. He attends the earnings calls personally and comes off as an intelligent individual. 

The first scooter N1 was launched in 2015, followed up by the M-series in 2016, which won 7 international design awards including the Red Dot award. This success helped the company list on NASDAQ in 2018. 

A new regulation introduced in China in 2019 set the maximum speed and weight for electric scooters with no license registration at 25km/h and 55kg. This regulation helped Niu immensely, given that lithium-ion battery scooters are much lighter than their dirtier and heavier lead-acid battery predecessors.

In 2021, Niu set up a new manufacturing facility in Changzhou in Jiangsu province, after previously leasing factory buildings from third parties. The new factory has capacity of 111,000sqm and has a capacity of 2 million vehicles per year. 

During the pandemic, Niu introduced lower-end models under the GOVA brand name, which did not perform as well and brought down overall company margins.
China’s zero-COVID policy during 2022 was another headwind as many of Niu’s stores had to close, and the remainder suffered from weak foot traffic. Finally, high lithium carbonate prices caused prices for lithium-ion batteries to go up from early 2022 onwards, creating yet another headwind for growth.

The reason for the weaker share price is a direct consequence of lower revenues and margins. Margins peaked in 2021 after the new GOYA series of scooters and new store openings failed to meet expectations, and dteriorated further in 2022 after the zero-COVID policy and Omicron outbreaks forced the government to institute draconian lockdowns. It also didn’t help that Cathie Wood’s ARK Invest suffered outflows, causing forced selling of Niu shares throughout 2022. Finally, the new factory in Changzhou increase the fixed costs for the business. 

The product portfolio

Niu focuses on electric scooters, most of which resemble modern version of Vespas: 

• The N-series is the higher-tier and most expensive scooter that Niu sells, with speeds of up to 45km/hour and range of 45-140km. They cost more than CNY 5,000.
• The S-series is the new performance-tier with aggressive acceleration and meant to compete with petrol bikes. Prices are upwards of CNY 20,000.
• The M-series is the mid-tier option with smaller batteries.
• The U-series offers a lightweight option with range of 40-60km and more bicycle-like design language. They cost around CNY 4-6,000.
• And finally, the GOVA series are the cheapest option with low speeds and a range of 50-60km. The price is typically between CNY 3-4,000.

The scooters have an array of smart features, including LCD dashboards, connected electric control units running on ARM chips controlling the battery pack, field oriented control systems, motors co-developed with Bosch and electronic breaking systems. Niu also has its proprietary US$5/year app which offers remote monitoring, scooter retrieval through maps, instructions for DIY repairs and reporting to authorities in the case of theft.

Product reviews are generally positive, and user commentary tends to be positive as well. A few comments that I think represent what Niu is offering through its products: 

“I don’t have many complaints. Maybe they could’ve offered more than three colour options. For the price (€4,500), it’s really a heck of a deal”

“It’s a simple-to-use, solidly made and smart electric scooter that in my opinion makes it a perfect urban commuter vehicle.”

“I've done over 4,000km on mine and hasn't missed a beat. Still love riding it and plenty quick enough to give a thrill (I used to have a V-Twin superbike).”

“These NIU are a great way for scooter-sharing. Here in Malta there are two such companies and both use one of the NIU scooter model. Great way to get around especially for a small country like Malta where the distance to anywhere is around 7-9miles single-way.”

“I have a Niu NGT and use it for commuting, I've done 5000 mile with it and it's brilliant. Charge it at work I really do enjoy it.”

“[Surprisingly] good build quality and extremely good scooter. Puts a smile on my face every day. ”

“I have the 2020 model NQi GTS Pro.  it's about 80-100cc equivalent.  Limited to 45mph. Same range. It's a great bike. I've done over 13,000 miles on it.”

Niu Technologies in 2023

The long-term outlook is fundamentally positive for Niu:

• Lithium-ion battery scooters are taking market share from lead acid battery variants, as they’re free from polluting metals such as lead and mercury and much lighter. Since batteries need to be overcharged overnight and most Chinese live in apartments, they often need to be carried to their homes, sometimes up residential staircases. The light weight of lithium-ion batteries is therefore valuable. While lithium-ion batteries are more expensive, prices for them have dropped roughly 50% over 5 years, driven primarily by yearly improvement in battery density of about 5-10% per year.
• China’s president Xi Jinping is hellbent on reducing pollution, and electrification of vehicles is part of that strategy. I’m confident that Niu will receive full support from state banks and the government, as Niu’s business is fundamentally important for the government’s drive to achieve its Made in China 2025 objectives.
• It’s become increasingly difficult to get a car license plate in cities such as Beijing, Shanghai and Shenzhen. Traffic is only getting worse. Parking is difficult to find. Buying much cheaper electric scooters are great alternatives for those willing to sacrifice comfort.
• Niu’s Changzhou factory has total capacity of about 2 million units per year, compared to Niu’s current sales of about 1 million units. Greater utilisation will help bring up margins over time.
• In 2020 and 2021, Niu expanded its store network heavily, and it takes a certain time for new store sales to ramp up. Mature store sell about 40-60 scooters per month, but for the 2020/21 vintage stores, the number has been closer to 30-40. As the store roll-out stopped in 2021, we should see margin improvement as these new store improve their sales.
• China’s zero-COVID policy was fully reversed from November 2022 onwards, with practically all restrictions taken away. Stores are fully operating again.

In the latest earnings call, management offered a glimmer of hope after disastrous 1Q2023 numbers with revenues down -28% year-on-year and volumes down -42% year-on-year. The reason for the volume decrease was higher lithium-ion battery prices from the second quarter of 2022 as well as excess inventory among distributors which has been running down in 2023.

But the retail sales numbers in 1Q2023 were actually on par with those in the same quarter last year, meaning that Niu’s underlying growth was approximately zero. And let’s not forget that much of China suffered from a serious COVID-19 wave throughout part of the quarter.

The overseas markets were down -12% year-on-year due to high lithium prices and overseas distribution partners waiting for the new high-end performance 125cc bikes to be released in the second quarter of 2022.

The new products MQiL, the G400, the G400T and RQi have recently launched. The MQiL will be Niu’s new flagship product with a similar design to the M series but with upgraded performance and smart features. It’s won several design awards.

Management’s latest guidance is positive:

“With new product rollout and brand activities in place, we expect to see a strong rebound from last year starting in 2Q2023”

“This year compared with last year’s Q1 was a drop because it was the last year Q1 with a pre-price increase. So that was an unfair comparison… we expect to have Q2 start to get back to the growth momentum and with Q3 and Q4 looking for a quite significant growth over the last year… with Q3 and Q4, you’re going to see sort of a full impact of the new product coming out.”

“We’ll back on a store expansion trend in Q4 this year”

“With our first product, MQiL, we actually got a huge response from dealers from the consumers and from the market and even from social media… the issue we have right now is actually to ramp up the production”

“We do see the lithium carbonate pricing came down quite a bit from the peak of last year, which means there will be a downward pressure on the lithium battery prices… I think that will actually help us a bit in Q2 and Q3, and especially in Q3”

What it means for the share price

Niu today trades at forward-looking 0.43x EV/sales & P/E of 11x. This compares to a historical P/E median P/E of 31x and peer group’s 14x.

The closest peer is probably China’s Yadea or Taiwan’s Gogoro. But I think Niu is a fundamentally stronger business than both of them, with better designs, completely dominating China’s key tier 1 cities.

I have a far more optimistic view about Niu’s future than what sell-side does. The business is clearly going to return to growth in the latter part of 2023. Assuming 21% gross margins and resulting operating margin of 8.3%, with significant ramp-up in sales as the company recovers from COVID-19, I foresee a P/E of 6.1x by 2025 and an EV/EBIT of 4.3x. I could see the shares trade closer to 20x P/E, given the company's growth profile. 

Risks

• Potential fraud: Chinese concept stocks are fraught with risks, including poor accounting and related party transactions. But Niu has been cash flow positive for most of its recent history. Management does not seem to be promotional. Go to any Chinese tier 1 city and you’ll see the products everywhere. While related party transactions cannot be ruled out, I believe that - at least - the share price does not price in perfection.
• Delisting risks: From what I can tell, delisting risks are off the table for now given that PCAOB has received full access to audit records for the companies they’re investigating. If delisting risks would return, then Niu would have to relist elsewhere in say Hong Kong, or privatise at the then-prevailing price. Which would introduce uncertainty.
• VIE structure: A clear grey zone, as the Chinese government has not tested the VIE structure in courts. In an extreme scenario such as a war, it’s possible that the Chinese government would deem them illegal, leading to a full loss for holders of the ADRs.

Catalyst

• Post-COVID recovery in store foot traffic and scooter usage
• Lithium carbonate prices continuing to fall
• New product launches, including the RQi and SQi
• Expansion to new international markets