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$BABA Part 2
So here are my thoughts about BABA's recent earnings release, expectations for the future and price targets. I know that Chinese stocks can incite strong sentiment against them, but would still love to hear other people's thoughts.

Review of CY21 earnings

  • BABA closed out CY21/TTM with 836.40B CNY (131.25B USD) of revenue at a 29.8% YoY growth rate.

  • Operating Income / EBIT was 90.32B CNY and reported GAAP Net Income of 65.46B CNY.

  • However, adjusting for one-time charges, we can add back 18.23B due to legal settlements, 25.14B due to goodwill impairment and 1.69B due to asset writedowns, giving us an Adjusted Net Income of 110.52B CNY (17.34B USD), which is a more accurate reflection of the earning power of the company for its shareholders.

  • Operating and Net Income Margins come in at 10.80% and 13.21% respectively.

  • My calculated free cash flow for BABA (which differs from the way they report) is 102.68B CNY. BABA excludes capex related to office campuses.

  • BABA is sitting on roughly 355.30B CNY (55.5B USD) of net cash and short-term investments, and 476.3B CNY (~74.75B USD) in longer-term investments

  • Overall, we get TTM trailing EV/EBIT, EV/Earnings and EV/FCF multiples of 15.72x, 12.84x and 13.82x as of 11 April 2022. These are huge discounts when compared to history and peers.

Valuation and Expectations: A Preface

Of course, multiple re-ratings happen for a reason. Just because a stock is cheap in terms of valuation doesn’t make it a good investment. One should definitely be wary of falling into the classic “value-trap”. Markets are more concerned about what happens in the future and move based on these expectations, because everything past and present is perfect information to all. Divergences in predictions of the future are what create markets.

Ultimately, current prices and valuations reflect expectations of future cash flows, while discounting them back to the present. Any factor that affects either of these two fundamental components will influence the stock price. For BABA, a variety of factors do justify a fall in its valuation: an abrupt slowdown in realised top-line growth; margin compression; uncertain competitive landscape; slowdown in China’s economy; unpredictable government regulation and intervention (that mandates a higher discount rate).

Each investor has their own personal answer to the important question: how justified is the fall in stock prices/valuation against a downward revision of expectations? Is there an overreaction, or is the market not pricing in enough? While being acutely aware of the risks, are potential rewards sufficient such that the risk-reward proposition warrants a position in our portfolio?

Revenue Growth Expectations

BABA realised a 3y revenue CAGR of ~35%. In the past two quarters, YoY growth was 17.8%. In the last quarter, barely 10%. Clearly, there has been a sharp slowdown in growth, and subsequently downward revision of future expectations. The company has attributed this to two main reasons: the current slowing macro landscape in China, and competition.

China’s GDP growth forecasts for the near-term have repeatedly been cut as it grapples with an enormous deleveraging in its real estate sector that has been unravelling over the past half a year-ish, a slower-than-expected global growth rebound and the latest Covid-related lockdowns and shutdowns. BABA has almost 1B users in China out of a population of 1.4B, thus its China commerce operations (which comprise the majority of its revenue) will move largely in tandem with the overall Chinese economy.

However, I would be wary of extrapolating the trends we see now into the long-term given temporary factors and still positive demographic undercurrents. China’s central bank has started easing its monetary policy and more is expected to come on the fiscal front. Coming out of Covid-related restrictions is a matter of when, not if. Once it reverses, comps will be easier and we may see a meaningful reacceleration. All this is on top of a continued migration of its population from the lower to the middle class, providing a strong base for GDP growth for at least the next 5-10 years to come.

Of course, tail-risks will include that the full impact of the real-estate deleveraging has yet to be seen, with much longer-term detrimental impacts. I’m not an economist, thus I’m well aware that further commentary is not possible. For now, this is my current outlook.

Still, my expectations of BABA’s growth have been revised downwards, standing at 14-15% for the year ahead. I will definitely be paying attention to the next earnings release (especially because the financials will be more detailed since it is their annual report) and news from China for more colour regarding what to expect for the year ahead and beyond.

Amidst competition, let me justify why I believe BABA can still achieve meaningful top-line growth. First, the higher its market share, the easier it will be for it to be lost. With relatively low fixed costs/barriers to entry in e-commerce and low customer loyalty, it's only natural that BABA would have gone from ~70% market share to ~50% over the past few years as new players emerge. Now that that is past, further attrition of the same rate is less likely as BABA continues to still be the biggest e-commerce ecosystem, benefitting from network effects and internal synergies. Barring niche situations, I think it is reasonable to assume that the first place Chinese merchants and consumers, whether they are looking to sell or buy, would turn to are BABA’s businesses (Taobao, Tmall).

Referring to my previous post, BABA has differentiated offerings for customers across all markets, be it value to premium, as well as providing multiple convenient fulfilment options. Moving forward, competition for merchants and customers will be about who can provide the most analytics, insights, and fulfilment capabilities for merchants to sell more and deliver smoothly; and the most seamless, intuitive, worry-free, engaging experience for customers to find and get what they want for cheap (or even better, discover things that they did not know they would want). I don’t see why BABA will be unable to do so for the Chinese consumers and merchants they have served over the past 20 years.

There are still more avenues to add marginal growth for a market that is largely mature. The e-commerce market is not homogenous — different categories of goods have different e-commerce penetration rates, think apparel/cosmetics vs household furnishings/Fast Moving Consumer Goods (FMCG, like groceries, fresh produce, toiletries). BABA’s “New Retail” concept acknowledges that some goods are preferred to be purchased or looked at offline, thus setting up businesses like Freshhippo or acquiring hypermarket retailer Sun Art. It aims to blur the lines between online and offline, integrating technology, automation and online features within the offline shopping experience to create a more convenient and smooth process for the customer from product discovery to delivery.

Furthermore, more untapped potential lies in rural China. BABA has recognised that this is the last segment of China’s population to be acquired and introduced into their ecosystem. They have been heavily investing in this space with their two latest apps: Taobao Deals and Taocaicai. As written in my previous post, Taobao Deals is targeted towards price-sensitive customers in rural China by offering them the cheapest, while maintaining quality and value, products directly from manufacturers; while Taocaicai is a community group buying platform that tackles the traditionally difficult venture of groceries and fresh produce e-commerce. Thus far, the results have been encouraging with strong user and order growth with improving unit economics. While these users bring in less revenue, BABA is playing the long game here because a decent proportion of these acquired users will move into the middle-class and gain more purchasing power, ultimately driving greater spend over the long term.

Taking a broader step back, e-commerce in China still has a runway to grow; internet penetration in China is roughly 73% in 2021. Beyond middle-class expansion, age demographics provide another tailwind as younger, tech-savvy generations born into the digital world continue to gain greater disposable income for e-commerce spending while replacing older generations where some may still be adverse. While it's a small tailwind, it still contributes a secular boost nonetheless.

I spent so long talking about how BABA can continue to maintain and grow its China commerce business, yet that won’t be the biggest growth driver (though it does serve as a stable base). Alibaba cloud will definitely be contributing the most to BABA’s future growth, as the cloud computing industry is riding on the secular, powerful force of digitalisation as more companies in non-tech industries recognise the value of cloud onboarding and as worldwide computing needs continue to increase. One can also expect Cainiao, its international e-commerce operations and local consumer services to contribute to its top-line growth.

Thus, I still believe that BABA can achieve about an 11% CAGR in the next 5 years; and 8.5% for the next 10 years (inclusive of the first 5 mentioned) for now. But of course, and once again, “When the facts change, I change my mind.”

Margins and the Bottom Line

Here is where it gets more exciting. BABA is an interesting company, a conglomerate, really. It’s an amalgamation of mature, profitable legacy businesses and new, fast-growing but cash-burning ventures.

Its overall operating margins come in at about 10-11%, while its adjusted EBITA margins for its China Commerce Operations in the last 9 months are 33%. When management attributes the large margin compression and fall in earnings in large part due to its “investment in new initiatives”, it is not an excuse.

While operating and net margins may remain depressed within the next year as a result, I believe from then on it is reasonable to expect a strong boost in margins as unit economics of newer initiatives continue to improve and as management scales back on the expenses (product development, marketing) that were needed to establish these new initiatives. Currently, Cloud and Cainiao bring in 2% and -2% in adjusted EBITA for the last 9 months respectively. Certainly, there is much room for overall margin expansion from these two units alone as they continue to mature, scale, and generate consistent profitability (whereas for International Commerce and Local Consumer Services I am not so optimistic).

As such, I expect operating margins to increase by 100 basis points each year from 2023 to 2026, which I believe to be rather conservative.

Another important component to BABA’s bottom-line is the performance of its investments, which including net cash, given it a portfolio of 831.6B CNY. A movement of 10% can nearly double or nearly erase its reported net earnings. Thus, its net margin has usually been much higher than its operating margin for the past three years as BABA continues to deploy its huge cash position into investments, with investment-related income accounting for a positive addition of more than 10%.

As written in my previous post, BABA’s poor bottom-line performance in the past few quarters has been bogged down by an exceptionally disastrous performance from Chinese financial markets. After such extreme fear, one can expect sentiments to recover and stabilise, if political concerns that have caused said fear in the first place subside, or as we have seen thus far, reverse.

Thus, we can expect bottom-line performance over the next year to be buoyed by relatively stronger investment returns (especially as compared to the previous year) if this base case does materialise. After accounting for other adjustments like taxes and minority interests, I expect adjusted net income margins (excluding one-off charges) to be about 400 basis points higher than operating margins over the next few years.

On that note about the “China risk”, I do acknowledge that investing in Chinese companies is inherently riskier, be it due to the VIE structure, or the unpredictability of the Chinese government. Geopolitical tensions are another possible flashpoint. While the Chinese government likes to throw its weight around and crackdown on businesses to demonstrate its might (as with all the rhetoric we witnessed last year), I believe fundamentally, they do recognise the importance of businesses like BABA to its economy, how it has driven much growth, and how Chinese companies have benefitted from foreign capital. They would want to avoid clamping down and stifling such businesses too hard, and any show of might will be temporary and without long-standing impacts (if they deem it important to their economy and society, unlike the for-profit online tutoring). It will also work to allow foreign capital and investment to continue flowing in and thus, as we have seen, cooperate to prevent the delisting of its companies. But once again, all of these will be subservient to other priorities like maintaining its political power or asserting its sovereignty (Taiwan). All in all, one has to be aware of and account for the elevated inherent risk.

Price Targets

Based on this DCF (unlevered free cash flow), the year-end target is $173.74 USD, a 67.81% upside from a price of $103.53USD as of writing. Most of the parameters have been explained by all the bunch I’ve written above. I believe that a discount rate of 12.5% incorporates the elevated China-related risk, a higher US 10Y as the risk-free rate, and tighter financial conditions while slightly offset by BABA being a mature, stable and profitable company. Note that net debt does not account for long-term investments and stakes in other companies.
In conclusion, while factoring in poorer fundamentals, given the tailwinds BABA is riding on, I believe that BABA can offer strong returns at its current price.
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$BABA Review (Part 1)
Dang this also took quite a while, trying to research and write about such a huge company while not having access to more detailed financials since it doesn't file 10-Qs and its fiscal year being different from the calendar year (kinda annoying).
Anyways, part 1 focuses more on getting a brief understanding of the various components that make up BABA to get a qualitative picture of the company. Definitely, one can go much deeper into each category.
Part 2 will include an analysis of BABA from an investment perspective, going through its most recent earnings report, concerns, expectations for the future and valuation.
BABA is a complex company with an assortment of business units. Taking some time to properly understand each part of the company, as well as it as a whole, is crucial as a long-term investor in it. With BABA, you get:
  • the largest e-commerce ecosystem in China;
  • growing e-commerce presence in SEA, Turkey, Europe;
  • a logistical infrastructure, fulfilment and delivery company;
  • a profitable cloud service provider;
  • a food-delivery and navigation services startup;
  • a streaming company; a film company;
  • an investment arm with net cash and AUM of 831.6B CNY, or ~130 billion USD.

Chinese e-commerce:
BABA’s legacy businesses include Taobao, Tmall and [1688.com](1688.com). Taobao’s merchants are primarily individuals and small businesses; whereas Tmall’s merchants are more established and bigger local/international brands with users who are more willing to pay for more premium and branded goods (as compared to Taobao). [1688.com](1688.com) serves as their local wholesale ecommerce platform. BABA makes money via charging merchants platforms/service fees. As BABA serves as the platform provider, this part of their business is what has given them the high margins we saw during their earlier years.
BABA has also ventured into direct retail, through their businesses like Freshhippo, Tmall Supermarket and Sun Art. This is part of its “new retail” strategy, integrating technology, digital features and delivery capabilities into the shopping experience of offline brick-and-mortar stores. Since BABA serves as the retailer now, the integration of such business ventures has resulted in a natural decline in margins.
BABA has estimated that they have onboarded 99% of China’s tier 1 and 2 cities’ online population. Thus, their last avenue for user acquisition resides within the more rural parts of China, representing a lot of untapped potential customers. Their latest efforts have been focused on this.
Taobao deals was launched in 2020, and aims to deliver the cheapest products to consumers without compromising on quality by connecting consumers directly to manufacturers, an M2C model. This provides the most value for budget-conscious and price-sensitive consumers in lower-tier cities as BABA attempts to bring them into their ecosystem.
Taocaicai is another recent venture, which rides upon the community group buying trend within China. This is a big movement that BABA is trying to capitalise on. It involves local communities coming together to order cheaper bulk purchases directly from farms and manufacturers, which will be delivered the next day to selected spots for them to self-collect. The e-commerce and subsequent delivery of groceries and fresh produce have traditionally been challenging due to their perishable nature. BABA’s expertise in coordinating delivery fulfilment and key logistical capabilities like cold-chain management, alongside the nature of pre-ordering has allowed for lower attrition, less wastage and successful uptake of the e-commerce of such perishables. Furthermore, the self-pickup nature has allowed BABA to circumvent the most expensive part of the delivery process — the last mile.
Overall, BABA has a differentiated mix of e-commerce offerings that appeal to all consumers, from the budget-conscious to those desiring more premium products, as well as diversified fulfilment models and various product segments for consumers to choose from. This positions it as a one-stop-shop for Chinese consumers’ retail (though still heavily e-commerce focused) needs.

International e-commerce:
Consumer retail offerings include Lazada for SEA, Trendyol for Turkey, and Aliexpress (global); with its wholesale one being Alibaba.com. While revenue growth numbers have been encouraging thus far, this segment is still unprofitable, due to large marketing spending and price subsidisation amidst much tougher competition overseas.
Personally, this is something I don’t pay much heed to / less bullish on. BABA’s will face much greater challenges in this area as they have to adapt and tailor to each local market and consumer behaviours, which will differ from the home market they have grown in, and with their logistical capabilities and reach not being as integrated and strong as compared to in China, whilst competing with businesses who may be more proficient in both. (Shopee > Lazada imo as a Singaporean)
I won’t be surprised if they decide to pull out or spin-off these ventures.
Logistical infrastructure, capabilities, and delivery fulfilment — Cainiao:
Cainiao is BABA’s own logistical fulfilment and supply chain network based in China, and works with many partners overseas. It has strong capabilities and capacities, handling single-day (11.11) goods with GMVs greater than black friday, cyber monday and Amazon’s prime day combined. There is a lot of synergy with BABA’s e-commerce businesses, whether providing BABA’s platform merchants, or BABA’s own direct retail businesses the delivery fulfilment support and capabilities. It has and will always be an integral part of BABA’s ecosystem. Cainiao is also close to achieving a positive operating margin, operating at an adjusted EBITA margin of -(1-2)%.
Cloud Computing — Alibaba Cloud:
China’s and APAC’s leading cloud provider. The cloud computing industry and market are still in their early stages and have a long runway for the foreseeable future. This has been one of BABA’s biggest growth drivers (3y CAGR of 65%) and will continue to be moving forward. BABA’s own digital and computing requirements are of course enabled by its own cloud computing platform.
Recent growth numbers have been relatively weak due to the loss of a large customer (TikTok), however, the effect will soon be lapped in the next quarter or two and we can expect a decent reacceleration in the growth rate of this segment. Currently, it stands at about 8.5% of BABA’s total revenue, up from about 5% 3/4years ago. Furthermore, it has recently achieved a positive adjusted EBITA margin for the latest 9 months ending 31 Dec 21, as reported by BABA, and margins are expected to continue expanding and contributing to the bottom line as the industry continues maturing.
Local Consumer Services:
These refer to platforms that provide high-frequency services, with its two largest being Ele.me (food and groceries delivery) and Amap (navigation, ride-hailing, hotel booking). These are relatively recent ventures that started being reported within their own segment in 2018. While they present decent growth metrics, they remain highly unprofitable at -40%+ adjusted EBITA margins. Given the notorious unprofitability of food delivery and ride-hailing services, I do not expect much from this segment.
Investment Portfolio:
BABA’s most famous investment would be its stake in Ant Financial (the company behind Alipay, China’s dominant payment platform), which hit global headlines after the cancellation of what was going to be the world’s largest IPO. Beyond that, as reported in its latest quarter, BABA had 678.12B CNY worth of equity securities, stakes in other companies, and other investments, alongside a net cash position of 153.5B CNY. These add up to 831.6B CNY, or 130.5B USD, against its market cap of ~280.5B USD. This is important to us investors as the change in the value of its investments will be reflected in its GAAP net income, which added more than 10% of revenue in their fiscal years ending 31 Mar 2019, 2020, and 2021. The poor earnings in FY22 thus far can also be attributed to the huge drawdown in Chinese markets over the past one year that affected their investments.
Moving forward, if conditions and sentiments in Chinese markets do stabilise after a period of widespread fear and uncertainty, it will be very likely that Chinese markets would see a relatively strong recovery. Thus, we can expect their investment income to contribute a wider margin to their reported bottom line.
Digital Media and Entertainment + Innovation Initiatives:
Includes video streaming platform Youku, film production company Alibaba Pictures, and other venture-style moonshot bets that they are funding. Honestly, I don’t really care about this segment and is more or less negligible to me haha.
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LI Auto Updates, Thoughts, and Investment Case
Jeez took much longer than expected to finish this because I definitely did not think I would be writing this much. But here are my thoughts regarding $LI. Would love to hear what other people think and consider opposing/alternative viewpoints given how this is a rather contrarian case compared to what I see amongst most investors.

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Achieved first operating profit, and consecutive quarters of positive operating and free cash flow, whereas profitability of peers like $NIO and $XPEV, who receive more attention, are still in the distant future.

Highest gross margins for FY21 of 21.3% compared to NIO’s 18.9% and XPEV’s 12.5% due to only producing one model so far which gives it strong savings from economies of scale and production facilities being highly optimised. XPEV’s low margins can also be attributed to it having the lowest ASPs.

LI, whose products may not be as flashy as its peers, has established a niche within the mid-market for family SUVs and has been greatly rewarded for its laser-focus. QoQ delivery momentum in 2021 was very strong, which can be expected to continue going into 2022. So far, YoY comps for 2022 are off to a great start with Q122 being up 152% YoY, although down -9.95% from Q421 due to seasonal factors.

LI does not have a pure electric vehicle, with its current model being a plug-in hybrid (thus having much greater total range than pure EVs). This may have played a helping hand during this transition phase in capturing demand from consumers who may be hesitant due to range anxiety typically associated with EVs but do want to hop onto the EV transition. Management has stated that they are confident in demand for the foreseeable future and have been focusing efforts to bring more production capacity online. Guided for annual production capacity of 500-750k units in 2023 (that is ~41700 units per month).

Strong top-line performance and margin improvements have allowed LI to achieve profitability despite continued heavy increases in R&D (more than tripling in 2021), which management stated they will continue to prioritise. LI’s smart tech features like ADAS are often dwarfed by that of its peers NIO and XPEV; but management is well aware of this and investing to brush up, with promising results so far — recent OTA (over-the-air) 3.0 software update that included their full-stack self-developed NOA (navigation on ADAS) and AEB (Automatic Emergency Braking) function that has been awarded Champion of the Year 2021. Personally, I’ve never thought much about LI’s technological offerings so this is an interesting development that I would want to monitor, especially as they endeavour to develop the full-stack of capabilities in-house (as opposed to relying on other third-parties).

LI is chock-full of cash, like seriously loaded. 47.52B CNY of cash and short-term investments against ~6B CNY of debt, giving it a net cash position of 41.5B CNY, ~6.52B USD, against a market capitalization of ~28B USD. Its net cash position accounts for ~23.3% of its MC already. Given how LI is very likely to exit 2022 profitability and no longer cash-burning, this net cash is certainly a huge plus.

Regarding its positive cash flow at a ~16% free cash flow margin exiting FY21, I would definitely want to look at its annual report (to be released) to determine the sustainability of such a high margin for an automaker (for comparison, $TSLA, though many years more mature, exited FY21 with a 9.29% FCF margin). From what I can see so far, it seems that the bulk of the free cash flow comes from delaying accounts payable, which isn’t sustainable. At least for now, taking LI’s FCF at face value, it gives us a TTM EV/FCF ratio of 31x, on the back of 186% revenue growth. How often do you find a hyper-growth company that is profitable and trading at 30x trailing EV/FCF?

I believe that LI is often overlooked in favour of its peers by investors (for valid reasons) due to it currently only producing plug-in hybrids, while the long-term future is definitely pure electric vehicles. In addition, its battery tech and smart features (which are the important selling points of an EV) are inferior to its competitors. Personally, I didn’t think much about LI’s long-term future before this ER and my investment has been based on its relative valuation attractiveness to its peers amidst current strong fundamentals thus far.

Moving forward, however, management does have a plan to continue expanding far into the future with more models and transitioning to pure-electric makes while heavily investing into R&D efforts to catch up. They have stated that they believe the addressable market for their current targeted family SUV one is still very large and that alone can sustain their growth for a good few years.

In addition, management also has a customer-centric philosophy of understanding their customers’ needs and exceeding them: “There are things that users do not even realise that they want, but the moment that they see their products, they'll realise this is what they actually wanted.” This mindset, though alone is not sufficient, is what helped propel Amazon to meteoric success.

The upcoming release of its premium flagship L9 SUV has generated much hype and is priced much higher than its current Li ONE model, which would put it in direct competition with NIO’s SUVs (though once again, not entirely because one is a PHEV, the other is a BEV). It would be interesting to see how their L9 is received over the next few months.

Management has also stated that unlike competitors like NIO who are aggressively expanding overseas and exploring ancillary products and services (smartphone, AR/VR), LI is very much focused on its home market and continuously enhancing its core product and technologies. I believe these disparate approaches can both be good; just because they are opposites doesn’t mean one is better than the other. In LI’s case, its strategic focus is very much welcomed given how it will be navigating the very large challenge of releasing new models (after relying on just one for a while) and transitioning to pure-electric models.

As an investor, given management’s vision with laser-focus, mindset, and proven execution thus far, I like what I see and am becoming more cautiously optimistic about LI’s long-term runway, and will slowly adjust and adapt my thesis and expectations as I monitor developments and their results along the way. There is also much upside via multiple re-rating if LI continues to execute as planned and proves its long-term sustainability to investors. Lastly, with rock-solid fundamentals (high margins, operating and cash-flow positive, top-line growth) whilst trading at objectively (as a growth stock, not a mature automaker so please don't bring it comparisons to Ford or GM lol) and relatively (to its peers) attractive valuation, I believe that LI is a compelling case worthy of consideration by any investor looking at EV companies.
$NIO Review and Updates
Just my thoughts after looking through their earnings release and call (still awaiting the full annual report).

Strong product roadmap with the just launched ET7, upcoming ET5 and ES7.

Strong reviews over the flagship ET7, and Norway expansion was well-received. Management frequently cites strong demand and orders. Overall testifies to the brand’s appeal to its target customer.

FY22 signalled to have even larger increases in OpEx, driven by R&D spend as the company innovates to strengthen its technology offerings (eg. NAD) and product portfolio for the long-time. While profitability is still a stretch away in Q423 or FY24, what’s important is how NIO continues to ramp up its production and delivery numbers.

Supply chain disruptions and continued shortages of key components like chips (which their cars are full of and heavily rely on), battery metals and other commodities for automobile production. The retooling and upgrading of production factories is another reason for the lagging delivery number performance as compared to its peers for FY21.

The question then is what is the reason for NIO’s seeming slowing production? Is actual demand not as high as said? Are its competitors navigating the supply chain disruptions (or less resilient to) better than them? Is it due to factory upgrading works? (to check in the annual report).

While I still believe in the company’s long-term trajectory, especially as it plans to expand overseas, the angle will be highly dependent on how much confidence they can restore in their investors with regards to ramping up deliveries.

Delivery/production ramp will also be the key factor in determining stock price in the short-term (for 2022). So far, my own growth expectations for NIO FY22 have been revised lower considering the first two months delivery growth so far. Will be awaiting March delivery numbers and any potential further indication of how the ROY ramp would look like.
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