A123 Systems (NASDAQ: AONE) should trade in the $15 range by 2015, a seven-fold increase from current levels as I will show in my analysis below. On Friday Feb. 10, 2012, I started accumulating a long position for the fund I manage. The company designs, develops, manufactures and sells advanced, rechargeable lithium-ion batteries and battery systems. Their batteries and battery systems provide a combination of power, safety and life that we believe no other commercially available battery provides.
Their batteries will play an increasingly important role in facilitating a shift toward cleaner forms of energy. The family of products, combined with their strategic partner relationships in the transportation, electric grid services and consumer markets, positions AONE to be a leader in the markets for next-generation energy storage solutions. Furthermore, supply agreements in development will likely be announced in the near future and propel the stock into the $4 range generating an easy double for investors.
Investment highlights are as follows:
- Leadership position in transportation (passenger and commercial hybrids and EVs) and grid markets, both of which are high growth
- Disruptive, proven technology
- Path to profitability
- Liquidity for growth
A recent downgrade of AONE by Wunderlich resulted in a sell-off and has created a buying opportunity. Wunderlich downgraded AONE to sell from buy because one of AONE's customers, Fisker automotive, did not receive anticipated funding from the US Department of Energy (DOE). There are numerous reasons why I believe Wunderlich is making the wrong call. First of all, AONE already lowered guidance in its November 9th 2011 SEC filing and earnings release call due to their anticipation of a decrease in Fisker's orders. Secondly, Forbes notes in an article here that Fisker is backed by investors with deep pockets such as Kleiner Perkins, Palo Alto Investors and the Qatar Investment Authority.
I do not believe those investors will let Fisker go under. Finally, there is a good chance Fisker will be able to negotiate payout of the DOE funding. Even assuming they are unable to negotiate with the DOE, Fisker is only losing about $336 million of funding as they already received $193 million of the $529 million DOE loan. This pales in comparison to the $850 million Fisker raised in private equity financing. Clearly, as I will outline below, AONE has tremendous market leadership and phenomenal forecasted growth.
Transport Market Position Leadership and Expansion
AONE is clearly the market leader in the transport market and will expand with or without Fisker. According to Roland Berger, AONE is forecasted to have 14% of U.S. Lithium Ion Battery (LiB) market share ($8.9 billion market) in the passenger market and 33% of the U.S. truck and bus market ($1.9 billion market) by 2015. That is approximately $1.8 billion in revenue from the U.S. market alone and equates to 13 times AONE's current annual revenues.
And, if we consider opportunities abroad, AONE has even larger revenue growth potential. Just valuating the US market and excluding the grid opportunities I will discuss later, AONE is tremendously undervalued. Assuming it should trade at 2 times the US revenue alone, and using an extremely high discount rate of 15% over the next 3 years, the valuation is $15.65 per share ($1.8 billion divided by $126 million shares and discounted 15% over 3 years).
According to the company's recent presentation at the Deutsche Bank Global Auto Industry Conference, there are three categories of customers and revenue streams: sourced, in development and in production.
Sourced Supply agreements
- General Motors (NYSE:GM) announced 2013 an all-electric Chevrolet Spark with AONE battery packs
- ALT E for commercial vehicles
- SAIC
- VIA motors
- IHI which is quickly winning the Japanese market, announcing orders from the Tokyo Fire Department and Tokyo Power Electric Company.
- Smith & Navistar (NYSE:NAV) for commercial
- Axeon (LSE:AXE.L) which will help meet growing demand in Europe and U.K.
In Production
- Batteries for the new BMW [FRA:BMW] ActiveHybrid 3 and 5 series
- Daimler (DDAIY.PK)
- McClaren Automotive
- Mercedes Benz High Performance Engines
In Development
- Ferrari
- VW [FRA:VOW]
- Land Rover
- PSA Peugot Citroen [PARIS:UG.PA]
- John Deere (NYSE:DE)
- Multiple FedEx (NYSE:FDX) pilot programs
It should be noted that there are risks that a competitor could develop a superior product and/or AONE may be unable to renew and/or expand supply agreements. Additionally, the company may be unable to expand on its margins. While I believe this is unlikely given the progress the company is making, readers should be advised of such risks and consider these before investing.
FERC (Federal Energy Regulation Committee) and Grid Energy Market
AONE is the leading producer in the U.S. for LiBs for the grid and that lead is expected to grow because of significant barriers to entry. Many companies can make cells but few can produce grid systems due to the multiple project aspects such as modeling, design, engineering, prototyping and testing. The government's new Pay-for-Performance Rule that fast responding assets should receive higher payment begins this year (2012). This rule will provide a significant premium for fast resources, requiring the addition of both a Uniform Opportunity Cost payment and a Pay-For-Performance payment.
Low natural gas prices extended the payback period for frequency regulation systems to 7-8 years. The Pay-for-Performance rule reduces the payback period to 3-4 years and thus makes AONE's systems exponentially more attractive. We see the results in recent news with recent completed deployments of 32MW in West Virginia and 20MW in Chile. Furthermore, last week on Friday Feb. 10, 2012, AONE released exceptional news that AONE will supply six battery energy storage solutions for the U.K's largest smart grid project. Another testament to AONE's technology and leadership is the recent NSTAR deal (New England's largest investor-owned utility).
AONE will own and operate the system and will earn revenue from ISO-New England under the Alternative Technology Regulation ((ATR)) Pilot Program, which allows "non-generating resources" such as advanced energy storage systems to receive compensation for area regulation and other ancillary services. Also, similar testaments to AONE superiority in this arena are exhibited in the recent deals in Hawaii. While AONE has the lead in this area, it is possible that government bodies may fail to renew current legislation that makes such alternative energy solutions extremely attractive. However, in my opinion, it is more likely that governmental bodies will continue to expand upon existing legislation with the ultimate goal of increasing alternative, clean-energy solutions.
Overall View
AONE will continue growth in both target markets. In the vehicle market, the company has agreements with OEMs in every major global market and is rapidly expanding it's lead on commercial vehicles. In the grid market, the macro environment is extremely positive as Japan and China have growing concerns over grid reliability and stability which AONE addresses.
Germany is shifting away from nuclear to renewable energy and regulatory changes are making great opportunities for grid storage. AONE achieved tremendous revenue growth of over 75% from 2Q11 to 3Q11 and 145% from 2Q10 to 3Q10. They increased both product shipments and gross margins. They have plenty of cash for growth and the stock is trading well below book value. The stock could easily double over the coming months and could see its 52-week high of over $10 by year-end.
Disclosure: I am long AONE.
