These aren’t good times for electric vehicle [EV] stocks and China’s Li Auto (NASDAQ:LI) is no exception. With a 49% fall year-to-date [YTD], it's actually one of the worst affected in comparison among the five biggest EV stocks by market capitalisation (see chart below). It has also seen a far bigger decline than the 13.1% for the S&P Kensho Electric Vehicles Index.

A bigger than average fall, though, does raise the question of whether Li Auto might have overcorrected. This question becomes particularly pertinent after the stock jumped by ~7% in yesterday's trading following robust vehicle delivery data for June.

A closer look at the market dynamics and the company reveal that while there are certainly positives to the stock right now, the downside to it is notable too. Both are detailed here in assessing whether or not LI is a Buy right now.

Positives for Li Auto

From China's EV market to Li Auto's deliveries, there are multiple positives supporting the company at present. Here are three of them.

#1. China’s growing EV market: There are ongoing concerns about China’s economy, reflected in the fact that the Shanghai Composite Index (SHCOMP) has gone nowhere YTD even as the S&P 500 (SP500) has touched new highs. However, the EV market is an exception. In 2023, EV registrations grew by 35% year-on-year (YoY). The latest data, for the June 1-23 period, shows that while growth has cooled off, it still stays healthy at 19% YoY. This is particularly favourable for Li Auto, which is China focused, unlike its peers that have greater global exposure.

#2. Insulated from tariff increases: Exposure to big international markets might be great, but it isn't right now as the US and EU slap bigger tariffs on China's EV imports. Following the US's 4x increase in import tariffs on Chinese EV batteries in May, the EU follows suit by raising tariffs on China's EVs by 17.4%-38.1%, over and above an existing 10% car duty. This can impact companies like BYD, for example, which garnered ~27% of its revenues from international sales in 2023, with Europe as one of its target markets, or even others like NIO (NIO) and XPeng (XPEV). But it doesn't affect Li Auto for now. In fact, it doesn’t even impact the company's immediate expansion plans, which target the Middle Eastern and North African markets. This in turn could make the stock better placed among peers in the foreseeable future.

#3. Strong delivery data: The company’s deliveries saw a bounce back recently too. They rose by a robust ~47% YoY in June, the highest increase seen in five months. Li Auto says it has “reclaimed the top spot in sales among China’s emerging new energy auto brands” since the second quarter (Q2 2024). With this number, the deliveries in the quarter are at 108,581, a 25.5% YoY increase. This rise is towards the higher end of the 21.3% to 27.1% growth forecast by the company.

The challenge of slowing financials

However, it’s not all positive for Li Auto. In particular, the competition in the EV sector is forcing price cuts. The company itself slashed prices across models by ~5% in April. This trend in turn can affect its financial outcomes more than it already has so far this year. Here are three ways how:

#1. Sharp revenue drop expected: After a massive 173.5% YoY revenue increase in 2023 in local currency terms, the company already saw a significant softening in growth to 36.4% YoY in Q1 2024. To put this in further context, the growth is much slower than even the 66.3% to 71.3% increase expected by the company. Li Auto anticipates a further winding down in growth to 4.2%-9.4% YoY in Q2 2024. Even for the full year 2024, analysts estimates on Seeking Alpha put the revenue growth figure at 21.5% in USD terms or 22.8% in RMB terms, making it the slowest in the last five years. This is only partly due to the price cuts, though. Even with the latest jump in delivery growth, it’s worth pointing out that at deliveries grew by a far bigger 185% in 2023, presumably due to far more robust demand.

#2. Gross margin softens: While Li Auto’s gross margin at 20.6% in Q1 2024 was almost the same as that in the corresponding quarter of 2023, it has seen a sequential decline from 23.5% in Q4 2023. Normally, this could just be chalked up to a seasonal disparity, except that there's another reason for it right now. And that's lower vehicle margins, which fell to 19.3% in Q1 2024 from 22.7% in Q4 2023, due to lower selling prices. It’s debatable whether the gross margin itself would reduce from here, considering the sharp expected drop in revenue growth in Q2 2024, but gross profit growth can certainly slow down further. In Q1 2024, it already softened to 38% YoY from 213% in 2023.

#3. Back to operating loss: It’s unsurprising that with slowing growth in gross profit, the company swung back into an operating loss after finally becoming profitable through each of the quarters in 2023. With the expected trends in revenue, the operating loss can continue going forward as well.

The market multiples

Li Auto was still profitable on a net basis as of Q1 2024, as the interest and investment income was big enough to negate the impact of the operating loss. However, it can’t be assumed that profits will continue to get powered from this head. Moreover, it’s an unconvincing way to measure a stock’s value when its loss making on an operating basis.

To this extent, instead of considering the forward price-to-earnings (P/E) ratio, here I look at the trailing twelve months [TTM] P/E instead. From this perspective, LI looks good with a ratio of 12.8x, compared to the consumer discretionary sector at 17.35x.

It’s also better placed than the BYD at 20.5x, the only point of comparison among key Chinese EV manufacturers, with the rest being loss making on a TTM basis along with other big EV stocks like Rivian (RIVN) and VinFast Auto (VFS), which are loss making too. That leaves Tesla (TSLA), which at a massive 53.7x, is an outlier EV stock anyway.

What next?

Despite its encouraging market multiples however, I believe the case for Li Auto isn’t strong enough at present. Not even as China’s EV market is still seeing healthy growth and the company has the advantage of insulation from tariff increases by the US and EU compared to peers.

While its latest delivery numbers have picked up, they are still slower than the growth seen in 2023. Additionally, its price cuts can impact revenue growth going forward, which is expected to slow down sharply in Q2 2024 as per the company's own estimates. Revenue growth already came in lower than the company's expectations in Q1 2024. Gross profit growth can slow down as a result of much softer revenue growth and Li Auto could sustain operating losses as well.

While its TTM P/E is competitive compared with the only other profit making Chinese peer, BYD it doesn’t make a convincing enough case for LI given its weakening fundamentals. Right now, I’m going with a Hold rating, which can change if the company shows better than expected revenue growth and becomes profitable on an operating basis again.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.