Summary
Nikola Corporation is in a precarious financial position, with insufficient funds to continue operating for a meaningful period of time, despite recent moves to increase liquidity by issuing more shares.
In contrast, Plug Power is in a better position in the hydrogen technology industry due to its substantial cash reserves, strong partnerships, and growing revenues.
We recommend a pair trade, going long on Plug Power and short on Nikola Corporation, as the best way to invest in the potential emergence of hydrogen technology.
This strategy is a great way to reduce volatility and increase risk-adjusted returns, as it hedges out industry and market risks.
audioundwerbung
A little more than a month and a half ago, we published a piece on Nikola Corporation $Nikola Corporation(NKLA)$, indicating that the stock was a sell.
In summary, we argued that the company was essentially doomed, especially considering that an upcoming economic slowdown was likely to worsen demand issues and accentuate cash burn against a very short operational runway.
We found it surprising, though, in the comments of that article, that there were a number of fervent supporters of the company who believe that Hydrogen Fuel Cell technology has a realistic place in the energy mix, and that Nikola's recent pivot to hydrogen would be a saving grace for the company.
Here's an example of this sentiment from user Brainpot:
[...] Beside the money issue, everything otherwise is in favor of Nikola. It is in the forefront of the renewable energy revolution for heavy trucks. The management cleverly invested and partnered with respectable player in hydrogen fuel and its distribution channels.
Over two years ago GM was willing to fork $2 billion dollar for 11% stake in Nikola. Fast forward two years late, Nikola has delivered in producing the product claimed to make and smartly positioned itself in the much needed hydrogen distribution business. It has cleansed the deck in the board and executive management and recruited an award winning CEO with stellar track record.
This sounds nice in theory, but fast forward to today, and the company remains in a precarious position.
Nikola recently failed to garner enough support to pass an amendment that would allow for more share sales, and thus more liquidity to keep the lights on into 2024.
Somewhat conversely, shares rallied substantially at the prospect of no further dilution, although we still fail to see how the company will continue as a going concern given the bare financials:
TradingView
Today, we'll explore a better way to play the potential emergence of hydrogen technology: A pair trade between Nikola Corporation and Plug Power $Plug Power(PLUG)$.
While Nikola likely doesn't have the cash to see its vision to fruition, Plug Power is much more well positioned. They have a serious cash runway, real partnerships, no brand or inventory baggage, and growing revenues. Their only problem? Profitability.
As it stands, being short Nikola on its own or long Plug Power on its own represents significant risk to a portfolio. However, a purchase of Plug Power stock, when paired with a short position in Nikola Corporation, seems like the best way to reduce volatility and increase risk-adjusted returns.
Let's dive in.
Nikola
There isn't a whole lot to say about Nikola that we didn't say in our other article, but here's a rough breakdown of the situation:
Currently, NKLA holds $121 million in cash on its books. Add in receivables (to be generous), and you're looking at $148 million in 'liquidity'. As a penny stock, NKLA has significantly reduced borrowing facilities at financial institutions, and any bonds issued would likely be at astronomical rates. Why? Because current liabilities total $276 million, which puts the financial solvency of the company into immediate question.
Plus, the company continues to burn ~180 million in cash on a quarterly basis to keep the lights on and the revenue coming in.
The combination of unit losses, operating expenses, and extremely short runway give management a difficult execution challenge. In a recession, improving unit economics, raising cash, and cutting core staff may prove too difficult of a business mix to overcome.
In short, the company lacks sufficient funds to continue operating, a fact we think remains true, despite recent Delaware rule changes that could come into effect in August of this year that would affect Nikola's ability to issue more shares. These newly issues shares might allow Nikola to continue operating, but at significant cost in stock performance. If share count was to double, we see the stock falling 50%, back to where it was trading before the recent squeeze.
New guidance is that the company expects to be burning under $400 million per year, which is significant progress considering TTM burn stands at nearly double that.
Towards this goal, the company did recently cut headcount by 270 employees, a move that management expects will save them about $50 million per year.
The issue here is simply that revenue will not grow quickly enough to fund the company without massive dilution into the next few years. With TTM revenue of 60 million and negative gross margins, cutting staff won't have any effect on cost of goods sold, or
We continue to struggle to see how Nikola can execute its way through its issues.
Plug Power
This situation couldn't be more different for Plug Power.
As of their most recent reporting period, the company reported $1.6 billion in cash and investments, more than enough to cover paltry short and long term debts, in addition to other current liabilities. This pretty much shores up the "runway" question.
The company also has a number of significant partnerships with brand name companies here and in Europe, including Walmart $Wal-Mart(WMT)$, Home Depot $Home Depot(HD)$, and Renault $Renault SA(RNSDF)$:
Investor Presentation
That said, investing in Plug isn't a straightforward pitch, either. The company has issues with gross margins, although the company does claim it is at an inflection point:
Investor Presentation
Improving gross margins would be nice, but the company also has a LONG way to go in terms of being Cash Flow positive:
TradingView
The main differentiating factor here vs. Nikola, though, remains the runway for execution. Plug has more time and space to operate at current burn rates, which should allow for more time to improve unit economics and operating efficiency. Additionally, this time should allow for continued revenue growth, which could help shore up things further.
Net-net, we think Plug Power has a significantly higher chance of succeeding than Nikola does in its mission to accelerate hydrogen technology adoption.
The Trade
Given that assumption, what is the best way to position for a hydrogen-backed future?
We think the most optimal way to structure a trade is by going long PLUG and short NKLA.
This trade hedges out industry and market risks and exposes investors to the operating plans of each company, directly opposed to one another.
In this way, market movements shouldn't affect the P/L of this trade, industry developments shouldn't affect the P/L of this trade, and our capital should be exposed to business strategy / execution. Considering we think Plug has better liquidity, more revenue, a better brand, and more impressive partnerships, this seems like an optimal way to deploy cash.
Plus, it comes at a fortuitous time.
Over the last several years, you can see this trade crushing it from a performance perspective, up 252% since the beginning of 2021:
TradingView
Recently, as a result of the vote failure, NKLA surged and Plug remained stable, which erased some of the gains to this pair trade.
Thus, entering this trend with the risk catalyst already expressed in the market seems much more attractive vs. where the stocks where a month ago.
Overall, we think this trade idea, while not for the faint of heart due to its volatility profile, should produce significant alpha as Plug continues to execute and Nikola continues to downsize.
Risks
There are some risks to this thesis. In the event that Nikola can correct its many problems in a speedy manner, then the company has more far more upside vs. Plug.
In this scenario, the trade would suffer significant losses as NKLA increases in price and Plug fails to do so commensurately.
Otherwise, many of the traditional risks we discuss here - market, macro, etc., don't apply, due to the intra-sector constituent spread nature of the trade. Monitoring fundamental updates and liquidity levels will be paramount to managing risk here.
Summary
We think Plug is more well positioned to execute on its hydrogen vision, due to its bigger runway, better brand, impressive industry partnerships, and more robust top line situation.
Thus, buying the stock, while laying off risk by shorting Nikola's stock, seems like the most optimal way to deploy capital.
Cheers!
Source: Seeking Alpha
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