Electric vehicles not as easy as A123 by Shelley DuBois @FortuneMagazine November 15, 2010, 8:18 AM EST E-mail Tweet Facebook Google Plus Linkedin Share icons The hot battery maker has a balance sheet problem — lots of inventory of expensive EV batteries. It looks like the adoption curve for electric vehicles is flatter than anyone thought. Battery maker A123 was supposed to rev up the electric vehicle revolution. When the company went public in September 2009, Wall Street loved it. But recently, A123 AONE has had a hard time pleasing the Street, missing earnings estimates even though it’s producing a good product on schedule. Why? Basically, A123 was ready for customers that couldn’t ramp up production of electric cars when they predicted. This meant that A123 couldn’t sell the number of batteries they’d hoped in the time frame that they expected to sell them. “They need to wait for the customers to have their factories up and running before they’re ready to sell batteries to customers,” says Ben Schuman, a senior research analyst for Pacific Crest Securities who specializes in energy management technologies. In this case, A123 ended up looking bad on a balance sheet. Even though total revenue was up—at $26.2 million for the third quarter of 2010 compared to $23.6 million for the third quarter of 2009—the company reported a gross loss of $3.1 million. That’s greater than the gross loss of $1.9 million in the third quarter of 2009. The cash numbers didn’t look good either. A123 had cash equivalent to $301 million at September 30, 2010, compared to $353 million at June 30, 2010. The numbers may be scary, but they’re not that surprising. Becoming a leader in this business requires spending a lot of money on investments that might not pay off in the short term, says A123 CEO Dave Vieau. “We spent over 600 million dollars so far on this project,” he says, but that’s out of a multi-billion dollar opportunity. “Having a ten million dollar issue at this scale is not the kind of threatening thing it might be if we were spending a fraction of that, or if the market size was a fraction of what it might be.” It’s hard to predict demand for electric vehicles, the rate that demand will grow, and when that rate will increase. For example, Bloomberg New Energy Finance released a report on November 1 predicting that plug-in electric vehicles could make up 9% of auto sales in 2020. But a report put out by J.D. Power and Associates predicts that only 7.3% of the total 70.9 million vehicles sold globally will be battery-powered in some way. The J.D. Power report also states that predictions for sales of electric vehicles, in general, have been over-hyped. Within the electric vehicle market, A123 faces specific obstacles because it has partnered with new, ambitious companies. These new automakers are feeling out the market too, and might have to change their production schedule, like they did before the third quarter earnings report. Changes in production hurt A123. The battery-maker has to prepare to deliver the promised amount of batteries on time because that’s a major selling point for winning contracts, Pacific Crest Securities’ Schuman says. A123 will work out these issues in the long term, says CEO Vieau, and investors understand that. “No one’s invested in our short term profit plan, I mean, we don’t have one.” Stocks did dive after the announcement of the third quarter report. On Wednesday, they fell 12%, closing at $8.51 per share. But a stock dive isn’t all that foreboding, says says Oliver Hazimeh, partner at global management consulting firm PRTM, which advises EV companies on their business strategies. “I think the market is getting a little bit smarter, educated on what the constraints are.” Perhaps, the forecast for A123 started out over enthusiastic, Hazimeh suggests. In 2008, A123 was a Lithium-ion superstar. The company received a $249 million matching grant from the American Reinvestment and Recovery Act last year, to produce EV batteries on American soil. In 2008, there were talks of A123 forming a deal with GM to provide the battery for the Chevy Volt. But later that year GM chose Compact Power, a subsidiary of Korean company LG Chem instead. The Asian battery market could be a problem for A123 in the future, says Hazimeh. A123 still has good, competitive technology, but Hazimeh believes that it could become tough to compete cost-wise with Asian battery makers. A123 could protect itself by diversifying beyond car batteries to work with smart grid technology, which it’s doing. The other thing to do would be to land a big partnership that locks one automaker in with a specific type of battery. But that’s not A123’s strategy right now. In fact, the diversity of partnerships protects the company from being tied to the potential financial problems with one specific manufacturer. In fact, A123 just signed a deal to develop battery packs for a big original equipment manufacturer called Shanghai Automotive Industry Corp—it’s China’s largest automaker. There’s time, Schuman says, for A123 to rebound from one missed quarter. A123 could still power the American EV revolution if it can synch its production schedule with its partners. Until every company gets a little better at predicting the market, investors should be prepared for temporary hits to financial performance across the entire EV sector. Also, when the American EV revolution ultimately comes, it looks, unsurprisingly, like domestic companies will face stiff competition from their overseas counterparts.