Electric vehicle (EV) makers have been in demand this year, Nikola (NASDAQ:NKLA) included. However, Nikola stock has fallen out of favor with investors, just as it should. Even with the stock’s major decline, it’s still one to avoid.
Nikola has a potentially big contract with General Motors (NYSE:GM) hanging in the balance. Beyond that catalyst though, the company isn’t even in production yet. That creates a major issue with valuation, as it becomes harder and harder to justify an elevated market capitalization.
Why do we want to avoid Nikola stock? Let’s look.
Valuation and Drama
There is nothing wrong with having a speculative position or two in your portfolio. Preferably these companies will have revenue, but they don’t have to. However, at its highs, Nikola commanded a market capitalization north of $20 billion.
That to me is … a bit insane.
Nikola has broken ground on its new facility, which is good. However, the company might be producing and delivering its vehicles in the fourth quarter of 2021. I’m all for investing in the future and betting on strong technological trends, but a $20 billion market cap is way beyond unreasonable given the situation.
Sentiment improved a few months ago when GM inked a partnership with Nikola. The company was going to produce Nikola’s Badger EV pickup in exchange for stock, among other agreements.
Then the whole story started to unravel. The deal is now up in the air, while founder and former executive chairman Trevor Milton is being shown the door. The drama within this company has been on the rise since a short report opened the door to an investigation from the Securities and Exchange Commission (SEC) and Department of Justice (DOJ).
We don’t want drama; we want catalysts, promise and, most of all, results.
Competition Is Growing for EVs
There’s another problem for Nikola stock: competition.
Five or 10 years ago, there was early-mover advantage. Not many companies were making EVs, and if they were, they weren’t blowing consumers away. It wasn’t until recently that we started to get the fast, long-range and sexy EVs that we’re getting today.
Now we have a global EV leader expanding across the globe. Countries like China and Denmark are seeing an explosion in EV adoption. There are startups popping up left and right.
And you want to talk about research and development (R&D) power? Just look at all of the traditional automakers that are putting in serious work in EVs. That’s in Detroit with the Big Three, but it’s also in Germany, Italy, China and by other traditional automakers.
Competing with these deep-pocketed companies with positive cash flow and a long history of production will be even harder now. That’s not to say it’s impossible, because Nikola does have some promising products. However, the reality is that while the EV market has grown, so too has the competition.
Breaking Down Nikola Stock
Here’s where we start to run into more problems with Nikola. Without production, investors are left with just hype, speculation and hope. Not that that means the Nikola story can’t pan out, but it makes it a tough sell.
Analysts expect virtually no sales this year, calling for revenue of just $200,000. Next year is better, though. If the company gets into production and begins delivering vehicles, estimates call for sales of around $150 million. In fiscal year 2022 (two-year forward estimates), expectations stand at $271 million among the five analysts that cover this stock.
Obviously these estimates are bound to change given the variables at play. Yet clearly, Wall Street expects Nikola to have big revenue growth in the next few years. But while its $7.4 billion market cap is far below that $20 billion high, how much room is there really?
Finally, estimates call for losses at least through 2022. While not necessarily uncommon in this scenario, it nonetheless reiterates my cautious stance. Negative cash flow will only increase the odds that Nikola will need to take additional cash-raising measures in the future.
At almost 30 times two-year forward sales estimates, this name isn’t cheap. Add in the drama and the fact that it may not land its deal with GM, and it becomes even less attractive for investors.
On the date of publication, neither Matt McCall nor the InvestorPlace Research Staff member primarily responsible for this article held (either directly or indirectly) any positions in the securities mentioned in this article.
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