Last month saw a huge shake-up in the electric vehicle sector. Rivian Automobile (NASDAQ: RIVN) — one of the most successful EV brands next to Tesla — signed a $5 billion deal with Volkswagen to fund future growth and build a software/technology joint venture group. Rivian shares jumped more than 30% on the news and are now up 27% in the past month.
This deal is huge for Rivian. Rivian is burning through a lot of cash and getting through its initial public offering (IPO). Rivian can use this funding to scale its operations and hopefully become cash flow positive.
Below is a brief description of the deal and what’s next for EV stocks.
Volkswagen deal: $5 billion capital buffer
The $5 billion deal with Volkswagen involves several steps. There is an initial investment of $1 billion, and then $4 billion over the next two years. In addition, $2 billion of future investment will be in Rivian equity (i.e. common stock), while $2 billion from Volkswagen will contribute to the newly formed joint venture group.
At the end of Q1, Rivian had a cash balance of $7.9 billion. While that may seem like a lot, the company burns through $5.6 billion a year in free cash flow. This new financing extends Rivian’s timeline for reaching profitability, which will likely take several years given the brand’s still underperforming growth (it expects to produce just 57,000 vehicles this year).
The deal not only gives Rivian a financial cushion, but also a major partner to deploy its advanced vehicle software and technology. According to the announcement, Volkswagen plans to implement Rivian’s electronic hardware and software systems for its future vehicles starting in the second half of this decade. This will help Rivian further scale its operations and generate more revenue than its fixed cost investments, hopefully leading to operating leverage on the P&L.
Can Rivian become cash flow positive?
Rivian is burning a lot of cash. It lost $5.6 billion in free cash flow over the past 12 months on just $5 billion in sales. It clearly needs to ramp up its EV production to stop this burn and eventually become cash flow positive. Otherwise, the stock won’t be worth much.
During its recent Investor Day, management stated that it can reach annual production of 150,000 vehicles with current operations. It then plans to reach 215,000 with the addition of the new vehicle called the R2, and finally another 400,000 in capacity from future vehicles called the R3 and R3X. This would take annual production from 57,000 today to over 600,000 in just a few years, a 10x growth in volume.
If/when this happens, Rivian believes it can consistently reduce its unit costs. The plan is to cut costs by 20% for the second-generation of its first vehicle, the R1, and then cut them by another 45% for the R2. With gross margins of -44% today, achieving these cost savings is critical for the company. Right now, unit economics are unsustainable.
What comes next?
In the short term, there are two things Rivian investors should watch: production volume and gross margins. Both are related for an automaker and will need to improve in the coming years to stem the current unsustainable cash burn.
Over the next three to five years, Rivian will need to ramp up deliveries to reach its planned production capacity of 600,000 vehicles. Greater scale and unit-based cost savings could help gross margins rise from management’s long-term goal of -45% to 25%.
In the long term, investors will need to track whether Rivian hits its long-term target of a 10% free cash flow margin. If it hits that estimate while growing production volumes 10x, the stock will likely perform well for investors buying today. If it keeps burning cash forever, however, the stock won’t be worth much.
Should You Invest $1,000 in Rivian Automotive Now?
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Brett Schafer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Tesla and Volkswagen Ag. The Motley Fool has a disclosure policy.
Big News For Rivian Stock: Here’s What’s Coming Originally published by The Motley Fool
