What happened
Shares of QuantumScape Corporation (QS -1.98%) rocketed 50.1% higher in January, according to data from S&P Global Market Intelligence.
It was a good month for heavily shorted growth stocks that had been beaten down in 2022, as meme stock buying saw a bit of a resurgence last month. QuantumScape certainly fits that description, and it rallied with several other highly shorted names. On the other hand, there were actually some bits of positive news for QuantumScape at the company level in late December, which may have helped fuel the outsize gains last month.
So what
As QuantumScape is not only pre-profit but actually pre-revenue, it remains a highly risky stock, as investors are essentially betting its developmental solid-state EV battery technology will eventually be commercialized, and profitably, one day in the future.
Of course, 2022 was just about the worst kind of environment for a pre-revenue company, as inflation spiked and interest rates followed, causing investors to sell off unprofitable stocks en masse. Last year, QuantumScape fell 74%, and its short interest had climbed to the mid-teens by the end of the year -- a relatively high short position.
QS Percent of Shares Outstanding Short data by YCharts
Many of those short positions against QuantumScape were likely profitable come January, so part of QuantumScape's rise could be related to short-covering, as those shorts bought back the stock they had sold short during 2022.
In another bit of positive news for riskier stocks, inflation figures have continued to soften, and it seems as though the Federal Reserve may soon pause its interest rate increases. So as inflation and higher rates caused the massive sell-off in unprofitable growth stocks last year, a reversal of those trends probably spurred some buying or short-covering. However, I think it's premature to anticipate rates falling back to where they were pre-pandemic.
In addition, in recent years, meme stock traders, who gather on internet message boards, have targeted highly shorted stocks and bought shares in size, hoping to force short-squeezes. While that tactic worked in early 2021, it appears meme stock traders are back at it again in early 2023, as other companies flirting with bankruptcy also skyrocketed in January following 2022's market rout. Meme traders likely also played a role in QuantumScape's rise.
Still, QuantumScape bulls do have something fundamental to hold on to. At the end of December, the company shipped its first 24-layer A0 battery samples to OEM (original equipment manufacturer) customers. That's an important milestone that management had put forward during the year, so it was a good sign to see the company achieve it.
However, investors should be aware that there is still a long way in between shipping initial samples and scaling commercial production in a profitable way. Yet that bit of news seemed to coincide with a bottom in QuantumScape's stock at the end of 2022, perhaps fueling some of the short-covering we saw.
Now what
Despite the meme-fueled gains, on a fundamental level, QuantumScape still remains challenged. Through the first nine months of 2022, QuantumScape burned through $270 million in cash, between operating cash burn and capital expenditures, and it also diluted shareholders with another $93 million in stock-based compensation. At that cash burn rate, QuantumScape has about three years of cash left, with $1.15 billion on the balance sheet as of the end of September -- a total that's likely to be lower now.
That means QuantumScape could require more dilutive equity or debt raises if its technology isn't commercialized relatively soon. That prospect, along with price cuts and potential oversupply in the EV market in 2023, led analyst Adam Jonas of Morgan Stanley to downgrade QuantumScape on Jan. 25 to "Underweight," while giving the stock a $3 price target, compared with a price over $9 as of this writing.
So while bulls gained the upper hand in the wake of QuantumScape's first shipment of its solid-state battery prototype, its cash burn and the uncertain competitive state of the EV market makes QuantumScape a risky proposition, especially after last month's massive 50% move.
