Things People Believe: Flat Earth, Faked Moon Landings, and Tesla $2100
Things People Believe: Flat Earth, Faked Moon Landings, and Tesla $2100
Today I’m Bond Angle the curmudgeon taking on favorite myths about Tesla, including its extraordinary $2,100 stock price valuation.
Tesla Motors (TSLA US) stock closed near $2,100 per share on Friday, making it more expensive at more than $381 billion versus the combined equity of its next five competitors General Motors Co (GM US), Ford Motor Co (F US), Toyota Motor Corp Spon ADR (TM US), Volkswagen (VOW GR), and Nissan Motor (ADR) (NSANY US).
Notice I didn't say more "valuable." That's because the stock now is selling at 1153x earnings, with enterprise value 84x my 2020 EBITDA estimate (as affirmed in my report Investors Aren't Worried, But Tesla Seems To Be on 8/17/20).
Now, this doesn't mean I am a Tesla "hater" (or a seventh grader) or "in the pocket of big oil." But then, people say a lot of dubious things to justify Tesla's stock price like:
Tesla should be priced like a tech company, not an auto company.
Tesla is profitable and generates free cash flow.
Analysts just don't understand Tesla's business.
Tesla's insane demand plus its prospective battery-making business makes it worth the valuation.
Panic over COVID-19 is "dumb" and it will be over by April. Wait, those statements came from Tesla CEO Elon Musk and they were categorically false and dangerous misinformation when he said them.
Meanwhile, we're still waiting for the "more than one million" Tesla "robotaxis" with "full self-driving hardware, feature complete at a reliably level that we would consider that no one needs to pay attention" as Musk promised by July of this year on Autonomy Day in April 2019 and which now are significantly overdue (see Tesla "Autonomy Day" Takes Investors For Another Ride on 4/24/19).
I mean, if you can't trust claims from Elon Musk what about Tesla's bulls?
Yes Virginia, Tesla is a car company.
This time last year the world was enthralled with WeWork, The We Company (WeWork) (WE US), another prohibitively expensive market darling about to launch its eagerly awaiting IPO. Proclaimed the "ultimate unicorn," WeWork's incredible $47 billion valuation despite nearly a decade of astonishing losses was justified by its celebrated Silicon Valley approach to commercial real estate.
However, as I wrote at the time, WeWork was "just another glammed up real estate company with slick marketing and lots of shiny objects to help it sell its overpriced office 'space as a service,' a deliberate play on 'software as a service' to make it sound high-techy" (see Gravity Works As WeWork Doesn't; Now Plan B, 9/17/19).
As I had projected, WeWork's fatally flawed business model and critically weak financial condition collapsed even before its first-ever experience with distressed economic conditions when COVID-19 hit.
Indeed, it ran out of cash as I expected within months of pulling its IPO and was bailed out just ahead of bankruptcy by its largest and most complicit investor, Softbank Group (9984 JP).
WeWork's business didn't fail because it's Silicon Valley-type apps stopped working. It failed because it sold overpriced office space by the month, funded by $47 billion in excessively expensive long-term leases it couldn't afford.
As I said then, this made WeWork "vulnerable to adversity since its targeted market groups of capricious freelancers and small businesses can easily melt back into their ether worlds should stalling economic conditions settle into protracted decline, which now seems increasingly likely" (see Gravity Works As WeWork Doesn't; Now Plan B, 9/17/19).
Tesla is still being categorized as a high-tech startup—at 17 years old.
And throughout those years investors have used the "Tesla is a tech company" lens to overlook that its operations have remained unprofitable no matter how many cars it sells, that it still consumes billions in cash, and that it still borrows significantly every single quarter to fund its operations—much like WeWork.
Tesla sells cars, and, to a far less degree, poorly received solar energy products, but it's not primarily a technology company.
Tesla's cars run with intricately integrated technology that monitors and controls all its internal systems, navigation, and engine performance—most of which can be updated on the fly via software.
So did my 2011 Ford F-250 Super Duty diesel truck.
The point is all cars, for dozens of years now, comprise increasingly complex technology which governs all their systems.
This includes electric cars made by all of Tesla's competitors, comprising now all the major automakers plus hundreds of EV startups.
Taken even further, Boeing Co (BA US) produces arguably far more comprehensively complex technology versus that found in any electric car made today in its commercial and military aircraft, satellites, and other products designed for domestic, defense, and space programs.
But Boeing is not valued as a tech company. Tesla shouldn't be either.
Not surprisingly, Tesla stock is substantially overvalued versus automaker multiples:
But sure, if you want to value Tesla as a technology stock...it's still severely overvalued versus even the FANG stocks Facebook Inc A (FB US), Amazon.com Inc (AMZN US), Alphabet Inc Cl C (GOOG US), and even Netflix Inc (NFLX US).
Tesla's core operations really aren't profitable
Tesla's multiples in the charts above assume its reported revenue and profits. The trouble is, as I have noted every quarter for years now, those numbers are substantially overstated. Tesla relies increasingly and aggressively on energy credit sales, deferred revenue, unusual items, conveniently timed reserves adjustments, and other creative accounting maneuvers to boost reported revenue and manufacture profits.
I calculated that without the record $530 million (up 175%) in such boosts reported in the second quarter, Tesla's most aggressive yet, revenue fell by double digits, consolidated gross margin was 750 bps lower, reported free cash flow and profit evaporated, and leverage was more than 2x higher versus reported at 7.5x as floundering US sales and significant global declines in pricing and mix offset substantial incremental contributions from market expansion into China and Europe (see Investors Aren't Worried, But Tesla Seems To Be on 8/17/20).
This plus nearly $300 million in apparently deferred overhead costs was how Tesla transformed a $680 million loss into the reported $104 million profit.
Reported free cash flow was more substantially overstated at $418 million (down 32%) because Tesla reported cash from operations boosted as noted above and highlighted only Auto segment CAPEX ($546 million, up 119%).
Excluding those boosts from CFFO and subtracting $819 million (up 88%) in total CAPEX (including $20 million in energy segment CAPEX plus $259 million CAPEX funded by leases) revealed $380 million actually consumed —$800 million worse versus reported and significantly weaker versus $238 million generated last year as similarly calculated.
The impact of over time is even more startling, and explains how Tesla has reported four consecutive quarters of "profit" sufficient to be eligible for inclusion into the S&P 500 (SPX INDEX). For the trailing 12 months ended June 30th, core operations lost more than $1 billion instead of the $368 million profit reported when I stripped out boosts from energy credits, deferred income, and unusual items. Tesla actually consumed more than $1.5 billion versus generating $900 million as reported—a $2.4 billion swing—when I also subtracted total CAPEX from all sources.
Considering that Tesla's core operations actually remain significantly unprofitable and that it burns substantially more cash than advertised help explain why it persistently exhibits cash-strapped concern.
Even with a reported $8.6 billion in cash on hand at the end of June, we still see excessively stretched accounts payable, quick ratio consistently 0.8x or less, failure to pay off nominal debt amounts due, borrowing every quarter including debt up another $1 billion in the second quarter versus last year.
So it's no surprise that cash actually available is far less versus cash reported on hand at the end of the second quarter. Again, from Investors Aren't Worried, But Tesla Seems To Be:
Tesla reported $8.6 billion in cash on hand, up $2.3 billion versus yearend. However, that included $713 million in customer deposits it can't spend.
Nearly half of that, some $3.6 billion, is held in foreign currency overseas—mostly in China where it's probably stuck. The $4.3 billion remaining in effectively available cash is down nearly $1 billion versus the second quarter and essentially unchanged versus yearend even though Tesla has increased debt and leases by $305 million and raised $2.5 billion selling stock since then—nearly $3 billion raised.
Where did it go? Core operations burned through $2.4 billion in the first two quarters, masked by $962 million in unusual items. The rest went to overseas cash—mostly in China where Tesla's cash and assets are held in unrestricted subsidiaries not available to US investors and creditors (see Tesla - Shanghai Surprise, 1/29/19). Remember, the lion's share of Tesla's expensive debt and purchase obligations are supported by its significantly unprofitable —and heavily cash-burning—US operations.
Analysts Just Don't Understand Tesla's Business (except we do)
Once one accepts that Tesla actually is a car company, and a money-losing one at that, it's not hard to understand its business. And being an automaker is hard.
Tesla deserves enormous credit for proving to the world that regular people will buy an electric vehicle if it is beautiful, affordable, and offers reasonable range.
Now that this revelation is several years old, Tesla and its increasingly aggressive competitors offer dozens and dozens of models that buyers have been scooping up faster than traditional ICE cars.
However, Tesla is increasingly cracking under the strain of executing in the big leagues:
Its cars are plagued with persistent and serious quality and reliability problems and its customer service is notoriously problematic.
This further impairs demand it increasingly struggles to sustain even with multiple rounds of steep price cuts over more than two years on all its models.
Chronically starved R&D to bolster margins inevitably shows up later with botched and delayed launches (Model 3, Model Y, CyberTruck, Tesla Insurance),serious design flaws and reckless design on the fly (Model Y, CyberTruck, Autopilot Summon, FSD Autopilot, Tesla Insurance), and delayed production on credible pipeline offerings overdue for years (every Tesla model; full-feature FSD Autopilot)—not helped by Musk's bombastic promises which go unfulfilled for years.
As a result Tesla has been losing ground in the US, it's largest market, since 2019, with all existing models—Model 3, Model X, and Model S—in significant decline offset now only by incremental sales of Model Y. US deliveries on Models S & X have fallen by double digits for six straight quarters, and were down for Model 3 by double digits for two of the last three quarters—including a 67% drop in the second quarter just released (see Investors Aren’t Worried, But Tesla Seems To Be on 8/17/20).
This means all of Tesla's growth remains dependent upon incremental sales from Model Y plus market expansions since spring 2019 into Europe and China plus new production from the Shanghai plant which started producing sales in January.
Tesla has only 2-3 more quarters of comparatively easy comps before it will lap strong numbers from its last new launches.
That's a tall order given substantial competition coming online globally over the next several quarters plus meaningful subsidies boosting sales for competitors in Europe and China—all during what I expect could be protracted economic malaise.
Hence Tesla's rush into building new assembly plants in Texas and Germany and accelerated expansion at the Shanghai plant to add Model Y.
Cue accelerating problems already materializing, as I projected, resulting from similarly hurried manufacturing noted in the US and its notably poor management oversight and quality control.
Impair Demand/Impair Competitiveness. Loop: See Loop.
But Tesla Batteries!
I'll have another report out shortly about what we might expect from Tesla's Battery Day Event, scheduled after its Shareholders' Meeting on September 22nd.
In the meantime, I have a few observations:
Whatever "breakthrough" battery technology Tesla announces, I doubt it will be commercially viable in the near future, if at all.
And I’m not alone. As Elon Musk told investors on Tesla's Q217 conference call:
"I would love it if we could have some breakthrough. It'd be awesome. I think there are some interesting things on the horizon. But then the time it takes from something working in the lab to working at moderate production levels to working at higher production levels to optimizing the cost is several years."
I suspect the long-promised "million-mile battery" concept will have the most relevance for electric medium to heavy trucks, which Tesla won't even deliver in scale for another year—at least.
Any range benefit increase for cars must be substantial and be commercially viable soon to make a competitive difference.
Tesla's Model S has long delivered the highest range among all its major competitors—and it's been Tesla's worst-selling car for the past two years. Most of the industry now delivers competitively acceptable range near or approaching 300 miles, and that limit is extending every year.
Moreover, scores of competitors, many far better capitalized like Toyota, Panasonic Corp (6752 JP), and Samsung Electronics (SMSD LI), are heavily engaged in battery research to develop their own "breakthroughs."
In any case, the market values battery makers far less dearly than Tesla, including Panasonic which makes almost all of Tesla's batteries. How much more value to Tesla's already exorbitantly priced stock can a Tesla battery-making business add?
Moreover, scores of competitors, many far better capitalized like Toyota, Panasonic Corp (6752 JP), and Samsung Electronics (SMSD LI), are heavily engaged in battery research to develop their own "breakthroughs."
In any case, the market values battery makers far less dearly than Tesla, including Panasonic which makes almost all of Tesla's batteries. How much more value to Tesla's already exorbitantly priced stock can a Tesla battery-making business add?
So, to sum up
One can be a strong proponent of alternative energy and electric vehicles, like me, and still have serious reservations as an investor in Tesla:
Elon Musk is an unreliable, untrustworthy CEO with a long track record of failed promises and misinformation.
Tesla's operations and liquidity are far weaker and its financial condition is more fragile than advertised.
It's desperation to mask its persisting weaknesses is driving its increasingly more questionable financial reporting which overstates its progress.
Tesla is losing ground competitively in its primary US market and potentially overseas versus the growing collective of strongly appealing and more reliable models produced and marketed by better capitalized rivals.
Tesla's new product offerings are incrementally less likely to drive substantial increases in sales and profitability and credit quality.
Tesla's actions to carve out and direct cash, assets, and resources into unrestricted subsidiaries like the Shanghai plant (and likely the plant in Germany) increase the obscurity of profitability and risk of its growing operations in larger markets overseas while leaving an increasing debt support burden responsibility to floundering US operations and reducing value for claims available to US investors.
And, most importantly, the Earth is not flat, but the Moon Landings did happen.
Tesla's pricey bonds are little changed since my last report at 104 (3.8% ytw; 350 bps). The meager yield is 183 bps tighter versus the BoA High Yield general index even though Tesla is a Caa1/B- issuer. Pricing also indicates a meager 48 bps per turn of leverage on my estimated 2020 reported EBITDA and an appallingly low 24 bps per turn of leverage on core operating EBITDA. Such levels are priced for perfection with no margin for disappointment, and when Tesla finally hits reality we're looking at a trail of tears. Maintain "Underperform."
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