The shift from petrol-powered engines to electric vehicles (EVs) is one of the biggest changes any of us are likely to see in our lifetimes. We all know that EVs are the future of day-to-day transportation. They are simpler to manufacture than their internal combustion engine predecessors, allow for the easy integration of driver assistance and other new technologies, and can be refuelled simply and (reasonably) quickly at home, or at the roadside with renewable energy from the grid.

‘Electrification of road transportation is the disruptive innovation the industry has been waiting for,’ says Mobeen Tahir, director of macroeconomic research and tactical solutions at fund manager WisdomTree. ‘It appears that the tipping point has been reached.’

Spectacular returns over the years have made Tesla (TSLA:NASDAQ) the go to EV stock for millions of investors. If you had put the equivalent of £1,000 into Tesla stock 10 years ago and did nothing, today your stake would be worth £31,300, less dealing fees and foreign exchange costs etc.

It has been the second best S&P 500 equity to own over the last decade, beyond even Apple (AAPL:NASDAQ), Amazon (AMZN:NASDAQ) or Alphabet (GOOG:NASDAQ). Only newly crowned artificial intelligence (AI) chips champion Nvidia (NVDA:NASDAQ) has done better, and Tesla stock has generated almost twice as much as JD Sports Fashion (JD.), the best of the FTSE 350 over the decade (1,600%, if you’re interested).

It is why millions of investors still buy Tesla shares even while the stock trades, by traditional valuation metrics, a little on the pricey side – nearly 23-times 2024 EV/sales (enterprise value to revenue), according to Koyfin data.

Start-ups such as Rivian Automotive (RIVN:NASDAQ), Lucid (LCID:NASDAQ), Nikola (NKLA:NASDAQ) and Arrival (ARVL:NASDAQ) – a rare British business in the space which focuses on light commercial vehicles – may have come across investors scope before. China has an even larger army of EV upstarts, led by Buffett-backed BYD (1211:HKG), although the Sage of Omaha has been selling recently.

India also has multiple EV start-ups, although they tend to be part of much larger industrial engineering conglomerates, like Mahindra & Mahindra or Tata Motors, India’s largest car maker.

How does an investor profit from this megatrend if you think most of Tesla’s future growth is already baked into its share price? Energy research consultancy Wood Mackenzie expects Volkswagen (VOW3:ETR) to be producing 14 million EVs by 2028, suggesting that it could be the world’s largest EV manufacturer by the end of the decade.

There are plenty of other motor manufacturing establishment options too, Toyota (7203:TYO), BMW (BMW:ETR) or Ford (F:NYSE) or General Motors (GM:NYSE), say, but incumbents seldom successfully transition to a transformative new technology, which may play on investor’s minds.

ELECTRIC VEHICLE MEGATREND

According to research provider Bloomberg New Energy Finance (BNEF), 1.7 million EVs were sold worldwide in 2020, representing just 2.7% of new car sales. EV sales exceeded 10 million in 2022, according to recent data from the IEA’s (International Energy Agency) 2023 Global Electric Vehicle Outlook, about 14% of all new cars sold, up from 9% in 2021.

This trend has continued at the start of 2023 with over 2.3 million EVs sold in the first quarter, 25% more than in the same period last year. By the end of 2023, sales could hit 14 million with an acceleration expected in the second half of the year, the IEA report states.

BNEF predicts that annual global EV sales will hit 26 million by 2030, and by 2040, over half of all vehicles sold will be electric. Yet the IEA’s forecast is even more bold, 40 million EVs sold by 2023. Last year, roughly 67 million new cars were sold worldwide, that’s petrol, diesel, EVs, all cars.

‘A new clean energy economy is emerging much faster than many stakeholders, policymakers, industry players and investors think today,’ said Fatih Birol, executive director of the IEA at its report launch event in April.

Analysts believe there are four major factors driving this change. First, increasing choice. In early 2022 there were approximately 30 EV models for US buyers to choose from across 18 separate manufacturers, according to data from Visual Capitalist, not only from Tesla and the motoring establishment – such as Nissan (7201:TYO), Mercedes (MBG:ETR), Hyundai (00380:KRX), and VW but also from start-ups that have only existed a handful of years, including Rivian, Polestar Automotive (PSNYW:NASDAQ), Lucid and BYD.

BNEF estimates that there’ll be over 500 different EV models available by 2022, including everything from hatchbacks to big rigs. Second, cost is falling. Even without buyer subsidies, BNEF expects EVs to reach price parity with most gas and diesel vehicle types by the middle of the decade and exceed it shortly thereafter.

That lower cost is primarily down to our third factor: improving battery technology. The power cells which provide EVs with propulsion are getting better all the time, rapidly alleviating previous concerns. Progress has been made in terms of driving range, charging time, safety and durability.

The fourth force behind the great EV shift is perhaps the most important of all: government policy. In recognition of their contribution to greenhouse gas emissions, large swaths of the planet are moving to ban sales of new internal combustion vehicles. To date, at least 13 countries and 31 cities or regions have announced plans to phase out sales of petroleum-powered cars and trucks – but expect that list to grow.

China, the EU and the US dominate global EV markets, recording about 95% of global EV sales in 2022. In the first quarter of 2023, China led the market with 4.27 million EVs sold. In fact, the share of domestic EV sales almost reached 20%.

The market has witnessed the entry of numerous small EV manufacturers, resulting in a diverse array of electric vehicles for sale, offering Chinese consumers nearly 300 different models to choose from.

Chinese government EV initiatives are focusing on the development of small and affordable EV models, which have gained significant popularity in the country. Priced below $10,000, these vehicles cater to a wider audience due to their affordability.

MORE CROWDED THAN A CALIFORNIA HIGHWAY

Taking all these factors combined, there’s no stopping the megatrend towards EVs, but the seemingly significant investment opportunities available need careful vetting.

For example, California-based Faraday Future Intelligent Electric (FFIE:NASDAQ) came under SEC scrutiny in March over employees’ inaccurate statements to investors around the time of its SPAC deal in 2021, a finding that later roped in the Department of Justice’s involvement. After delaying the delivery of its FF 91 Futurist luxury EV several times, the company told investors in late December 2022 that it would need $150 million to $170 million in additional financing to start production in March 2023.

California-based Fisker (FSR:NYSE) is pressing ahead with its all-electric SUVs, locking in more than 63,000 reservations when the announcement was made in November last year. This despite admitting that it had insufficient funding and would need more cash in future, and so far having failed to secure a bean of revenue.

China’s Xpeng (9868:HKG) is experiencing some serious engine trouble of its own as grapples with intense competition and Tesla’s aggressive price slashing, which keeps luring away potential customers.

Latest quarterly numbers in mid-May, showed the full damage, with deliveries about half of those notched up at the same time last year, meaning both revenue and profit missed expectations by miles. Rubbing salt in that wound, Xpeng’s forecast for this quarter predicted a grim 40% drop in deliveries. Gross margins have plunged from above 14% to 1.7% in two years.

Start-ups with corporate backing have tended to be more successful, as is the case for Volvo spinoff Polestar Automotive, which went public in June 2022 and closed the year with several milestones achieved. In under three years, the Swedish company produced the first 100,000 units of its advanced fully-electric car (the Polestar 2) and launched several new designs and prototypes. Now live in 27 markets worldwide, the company plans to produce its Polestar 6 electric roadster concept in 2026.

All of this underlines one of the trickiest things about investing in EV automakers right now: it’s still very hard to forecast with any certainty who the eventual winners will be. Xpeng once said it sees the global car industry shrinking to just 10 big players over the next decade. A dominant market share is one thing – but generating sustainable profit is another.

Given the difficulty in identifying one winner investors could seek diversified exposure through a vehicle which invests in several EV plays. One possibility is iShares Electric Vehicles and Driving Technology (ECAR) whose top 10 holdings list is dominated by companies which are suppliers of components to the industry. The exchange-traded fund has an ongoing charge of 0.4%.

BYD: THE BIG RIVAL TO TESLA

BYD (1211:HKG) HK$245

The company dethroned Tesla as the largest electric car manufacturer by global sales in 2022, selling 1.9 million plug-in electric cars compared to 1.3 million for Tesla, according to Canalys. This was some achievement given annual sales of just 600,000 in the previous year.

Canalys also reports that six BYD models featured in the top 10 EV models by global sales in 2022, with the Song SUV coming second in the ranking, ahead of the Tesla Y (third), its most popular EV in China. In terms of market share by region, BYD is the leading electric vehicle brand in China (nearly 29.7%, according to Counterpoint Research) but has yet to make the same headway in the US and Europe. That sounds like an opportunity.

Looking ahead, BYD will be looking to improve profit margins, which are comparatively low for the sector. Investing,com analysis shows BYD gross margins were 17.7% in 2022 versus an industry average 20.3%. Tesla’s was 23.2% in Q1 2023.

Currently trading on one-times next 12-months EV/sales and 11.4 EV/EBITDA, it implies a price to earnings (PE) multiple of 28.9, about half Tesla’s 57.2, but BYD is clearly a stock for investors willing to take on riskier equities and stick for several years.

Despite recent stake sales, Warren Buffett’s Berkshire Hathaway (BRK.A:NYSE) is still a big backer of BYD, owning around 10% of the company it has backed since 2008.

It is tricky to buy BYD on most UK investment platforms but it is a top 10 holding for a couple of actively-managed funds: Liontrust China (B5Q3858) and MI Somerset Emerging Markets Dividend Growth (B4Q0711). 

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