Last week, I kicked off a two-part series on growth metrics. I explained why it’s critical to look at a company’s growth before you buy… and how to analyze its growth using three popular metrics.
Today, I’ll use these metrics to compare two growth stocks.
As I mentioned last week, it’s best to compare stocks in the same industry. And right now, electric vehicles (EVs) are one of the biggest growth industries in the world.
With a market cap around $700 billion, Tesla (TSLA) is the undisputed leader of the EV sector. And its stock generated an incredible 1,226% return over the past two years. But there are plenty of newer players in the EV industry worth considering.
In today’s analysis, we’ll put Tesla up against NIO (NIO), widely considered “the Tesla of China.” With a market cap around $60 billion, NIO is smaller than Tesla. But it’s much bigger than all the startups that populate the EV space.
Let’s see which stock has the better growth profile…
We’ll start by looking at revenue growth.
Revenue growth measures the increase in a company’s sales over time. It’s a great starting point for checking how well a company’s business is doing. And it can help determine a stock’s potential gains. The bigger a company’s sales growth, the better its chances are to increase its market share. And investors will typically give a higher valuation to a company as its sales increase over time.
We’ll start by looking at Tesla’s sales growth over the past year.
Looking at fourth quarter (Q4) numbers, Tesla’s sales came in at $10.7 billion. A year ago (Q4 2019), Tesla had sales of $7.4 billion. Doing the math, Tesla’s year-over-year (YoY) revenue grew is 44.6%.
Tesla revenue growth = ($10.7B / $7.4B) – 1 = 44.6%
Now, let’s check how NIO is doing. NIO had sales of $1.018 billion in Q4 2020, compared to sales of $409.1 million as of December 31, 2019. This means revenue grew 148.8% YoY.
NIO revenue growth = ($1.018B / $409.1M) – 1 = 148.8%
In this case, NIO had much higher revenue growth than Tesla.
While looking at past growth is important, it’s also important to consider a company’s future prospects. The easiest way to do this is by looking at growth forecasts from analysts. You can find these numbers in a few places, including Yahoo! Finance. Just punch in a company’s ticker and click on the “analysis” tab.
If we look at Tesla, you’ll see that analysts expect sales of $10.11 billion next quarter (Q1 2021). That’s the current consensus (average) estimate from Wall Street analysts. To get Tesla’s future growth rate, we divide that number by Tesla’s Q1 2020 sales, which were $5.99 billion.
Tesla forward revenue growth = ($10.11B / $5.99B) – 1 = 68.9%
Let’s do the same thing for NIO. Analysts expect the company to grow revenue by 381.8% YoY when the company reports its next quarterly results. We get this growth rate by dividing the current consensus (average) sales estimate by NIO’s sales during the year-ago quarter ($943.4M/$195.8M) – 1 = 381.8%.
NIO forward revenue growth = ($943.4M / $195.8M) – 1 = 381.8%
As you can see, NIO is growing sales at a much faster clip than Tesla. Revenue growth is a great starting point for our analysis, but it doesn’t tell us the full story. Let’s look at their profits…
Earnings growth lets investors know if a company is making money after factoring in its costs. A company could have strong revenue growth… but if it’s spending more than it’s bringing in, it’s not turning a profit yet.
Similar to revenue growth, it’s best to look at YoY numbers to calculate earnings growth. Earnings are typically expressed as earnings per share (EPS), which is simply the company’s net income divided by its shares outstanding.
Using the most recent numbers, Tesla had EPS of $0.80 in Q4 2020 compared to EPS of $0.412 in Q4 2019. This means EPS grew 94.2% YoY.
Tesla earnings growth = ($0.80 / $0.412) – 1 = 94.2%
NIO had EPS of -$1.05 in Q4 2020 compared to EPS of -$2.73 as of December 31, 2019. Since both earnings numbers are negative, we can’t calculate earnings growth rate for NIO. Its recent quarter showed a smaller loss than a year ago, but we need two positive numbers to determine a growth rate.
NIO earnings growth = (-$1.05 / -$2.73) – 1 = N/A
So, Tesla has the upper hand when it comes to earnings growth.
Let’s see if future earnings numbers can give us a good comparison…
Analysts expect Tesla to deliver EPS of $0.76 when the company reports its next quarterly results. To get Tesla’s forward growth rate, we divide that number by earnings from the year-ago quarter.
Tesla forward earnings growth = ($0.76 / $0.23) – 1 = 230.4%
Now let’s look at NIO. The average estimate (-$0.15) and earnings from the year-ago quarter ($-0.25) are both negative, which means we can’t calculate a growth rate.
When it comes to earnings growth, we have to give the advantage to Tesla.
Next, we’ll go one more step and look at free cash flow (FCF), which gives us another valuable metric to consider.
To get FCF, we simply deduct a company’s operating expenses from its net income. This number tells us how well a company is doing in terms of generating cash (after deducting any cash expenses used in operations).
To find FCF, you can check the company’s cash flow statement. You can also go to Yahoo! Finance and click on the “financials” tab. Next, click on “cash flow” and make sure you’re looking at annual numbers.
If we look at Tesla, we can see it had FCF of $2.7 billion on December 31, 2020, vs. $968 million on December, 31 2019. If we divide those two numbers, we get a growth rate of 179% over the past year.
Tesla FCF growth = ($2.7B / $968M) = 179%
If we look at NIO, we can see it had FCF of $838 million on December 31, 2020. But the year before, it had FCF of -$10.4 billion. Even though NIO grew its cash flow, you can’t calculate growth from a negative number. So, I have to give this one to Tesla as well.
If we take everything into account, Tesla looks like the better growth stock at the moment.
Even though NIO had a higher revenue growth rate, Tesla has positive earnings and FCF growth. Plus, Tesla’s past and forward revenue growth rates of 44.6% and 68.9% show it’s growing at an impressive clip, especially for an established company.
NIO is definitely growing. The company could turn profitable within a few years. But the consensus estimates show analysts expect NIO’s EPS to be -$0.10 in 2022. In other words, we won’t be able to measure its earnings growth anytime soon.
When I’m looking at a stock, showing positive earnings and FCF for at least four straight quarters is a must. I prefer companies that have a solid track record of earnings growth.
In this case, Tesla is the better buy.
Compared to Tesla, NIO is a more speculative play. That’s not always a bad thing. Its smaller size and riskier profile translate to higher upside potential. And according to analyst price targets, the stock has 75% potential upside, compared to potential downside for Tesla. NIO could end up being the better growth play in the long run.
Keep this template handy whenever you’re comparing two stocks in the same industry. While we couldn’t cover every growth metric, these growth metrics are a great way to start your research.
And remember to include valuation metrics in your analysis as well.