It goes without saying that Tesla Motors (TSLA) is no ordinary company. You can’t really be considered ‘ordinary’ if you’re manufacturing the next generation of human transport vehicles – and even market analysts agree. They’re calling Tesla a technology company, rather than a conventional automaker. We’ll leave that discussion for another day, because right now Tesla has our attention for entirely different reasons.
Tesla stock is up 460% year-to-date, while sales are expected to grow fourfold to around 21,000 units by the end of 2013. Even though the mean market consensus for its stock price is around $155, Deutsche Bank (DB) recently upgraded it to $200. The Germans must be on to something, as Tesla’s stock is already trading at $185, at a 12-month forward price-to-earnings (P/E) multiple of 194x.
But despite the obvious upside – battery electric vehicles will be the next big thing in human transport – Tesla faces numerous challenges. It has not yet reported GAAP* profitability, although its adjusted EPS was positive for the first and second quarters of 2013. Supply chain problems persist, and Tesla hasn’t exactly figured out how to scale production capabilities to meet global demand. Meanwhile, battery issues are lurking in the shadow of the apparent success of its suave electric cars.
In its second quarter (2Q) note to shareholders, Tesla lowered its Fiscal Year 2013 (FY13) guidance for operating margins from 25% to around 20%. Even its founder and CEO Elon Musk stated in a recent interview with CNBC that Tesla stock is overvalued. Some investors agree – short interest in Tesla is around 26% of the total float.
So, why is the market still bullish on Tesla?
The market expects the battery electric vehicles (BEV) industry to flourish in the coming years: BEV sales in the US for the first six months of 2013 totaled 22,700 units, up 385% from 4,600 units in the same period last year. Analysts expect around 50,000 units to be sold by the end of this year, a large number of which will be Tesla’s Model S, which is expected to surpass the Nissan Leaf as the best-selling battery electric vehicle in the US. At the same time, global BEV demand and sales have also increased in 2013 by a similar amount, if not higher.
Automobile sales are typically highest in the fourth quarter (4Q) due to the holiday season: If this holds true, Tesla is expected to beat its sales guidance of 21,000 units in 2013. Analysts believe it can sell up to 23,000 units, provided that it resolves issues with production capacity. It may be on the right track: the company recently purchased 31 acres of land adjacent to its Fremont factory for expansion purposes.
The latest consumer sentiment data shows that there are no issues on the demand side; Tesla has been a trending topic on social media, and interest in its car models recently overtook that of German luxury automakers.
Given that there is strong demand – estimated to be around 30,000 units for FY13 – a bumper holiday season for Tesla could result in 4Q unit sales and EPS beating analyst expectations. That could mean that Tesla may be inching toward its first fiscal year profit, which is a huge psychological barrier for investors.
International demand is a major upside for Tesla: Tesla has been quite open about the fact that it is looking for production locations in Europe and Asia to meet the growing demand for its vehicles in foreign markets.
Recently, strong pre-orders for the Model S from Hong Kong and Norway have proved that international demand has potential to grow. Tesla has not yet entered Mainland China, the largest market for automobiles; when it does so by the end of the year, investors are expecting robust demand from wealthy Chinese customers. That expectation is not misplaced: the luxury car segment has seen significant growth in Asia, with BMW (BMW) and Audi (VLKAY) opening manufacturing locations in India in the past decade.
Of course, Tesla needs to overcome the internal challenges that arise from its use of costly battery technology, large-scale production and bottlenecks in the supply chain in order to deliver on these expectations.
So far, the company has shown great promise, and the recent rally in Tesla’s stock price reflects investor sentiments that Tesla will steal market share from its European rivals in the luxury car segment. But such high expectations make the stock susceptible to volatility or even a crash if its 3Q and 4Q earnings clock in below analyst estimates.
Stay tuned for an in-depth piece on Tesla’s valuation in the near future.
*Generally Accepted Accounting Practices