Major Updates to "Tesla of China" Short Recommendation

Karl Richter (Tectonic Investments) whose short recommendation on Kandi Technologies (KNDI:US) was a Finalist in our recent FactSet Best Short competition has provided the community with some timely updates on the pitch below. The stock is currently down 15% since his pitch and the recommendation carries a 93% community rating. You can check his complete pitch here: https://sumzero.com/sp/kndi_bestshort_second.

Here is the latest from the author, Karl Richter:

China electric vehicle (EV) manufacturer Kandi Technologies (KNDI) is in focus again this week following a profit warning from the company's JV partner Geely Auto (175 HK) and a steep share price correction on Thursday in BYD (1211 HK), China's leading EV manufacturer.

I believe more is unraveling for KNDI than simply the impact of oil prices falling in the $50's on this electric vehicle story stock.

A few recent developments:

1) EV market researchers report weak Kandi sales in October-November. Reports suggest Q4 sales between 1,700 and 3,500 units through mid December, a slower rebound than initially expected following the company's meaningful Q3 sales shortfall. Kandi sold only 1,950 EV units in Q3, down sharply from over 4,000 units in Q2 and below Q3 expectations for ~10,000. Kandi's Chairman made comments in San Francisco in mid November stating that elevated inventory as a result of slower sales would clear now that tax changes which caused the pause were in effect and government subsidy payments that had been delayed would soon be paid. If the company's product is solid, if government incentives are supportive, if all of Kandi's sales are to related ZZY car shares to begin with, and if there are no manufacturing constraints given inventory waiting to sell, then why aren't we seeing stronger product demand? The company's full year sales are tracking closer to 10,000 units vs the 25,000 predicted as recently as October. Unlike Nissan, BYD and Tesla who serve tens of thousands of customers, Kandi's sales are much more concentrated at ZZY.

2) Supplier pre-payments are also a concern. Kandi's November 10-Q filings show advanced supplier payments for equipment at a new Wanning facility increased by $7 million in Q3 to $59 million total. Yet the same filings show construction in progress only increased to $55,000 (that's thousand, not millions). One does not even need to go to the vacation island of Hainan to see that production has not started there given those figure. Why would a company tracking to full year 2014 production of perhaps 10,000 units from an underutilized Shanghai Maple factory capable of 300,000 units per year (on typical 3 shifts) choose to prioritize scarce funds to make pre-payments of such a large value this far ahead of possible needs to expand capacity to 400,000 units per annum? The company's response to investor questioning has been that rains in Hainan are holding up progress. It would be very interesting to investigate ownership and history of this supplier and other clients. Cap ex could be one way to get cash raised in US equity markets out of the company and its difficult to understand a possible business rationale for this spending.

3) Evidence is mounting that Kandi's relationship with Geely is fraying. This is important because supposed validation from partnership with Geely has been a driver of share price appreciation in KNDI since 2013. Geely Chairman/CEO (Li Shufu) recently stepped down as Chairman of the Kandi-Geely JV Company. Also, media reports indicate that Geely is investing in another Chinese electric vehicle effort away from Kandi. We know Geely subsidiary Volvo has meaningful EV production underway in China with no KNDI involvement at all. Geely is making quite a few EV bets besides KNDI and cooperation with Geely does not appear as substantial or favorable to KNDI as investors have believed.

4) SEC enforcement filed a new complaint on December 15 against stock promoters in penny stock TECO (Treaty Energy). This is relevant to KNDI because at least one of the promoters in that situation overlaps with activity in KNDI. We cannot time or predict SEC enforcement action in any name, but putting pieces together we see that: a) US regulators are pursuing stock promoters, b) KNDI's 10-Q disclosures show that the company is under investigation by the SEC and c) we know from recent SEC complaints and settlements that KNDI's former investor relations officer is cooperating with the SEC and that KNDI management granted shares to certain promoters. I believe the possibility of an SEC enforcement taking action on KNDI is a tail risk investors should consider.

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