Tesla’s Key To Future Success Is Its Battery Plants

Tesla’s Key To Future Success Is Its Battery Plants

Tesla’s decision to build two battery plants has spurred a lot of investor interest, and for the right reasons too; the plants might well hold the key to the automaker’s future growth

By Usman Farooq on May 20, 2014 at 2:28 pm EST

Tesla Motors Inc. (TSLA), the Palo Alto, California-based electric-car maker, has long been the subject of heated debates. From angles that cover company’s current performance and headwinds to the possibilities of achieving ambitious future objectives, analysts on both sides of the fence have been vocal. Probably the most interesting aspect is that of Tesla’s upcoming massive GigaFactory project.

The company is looking to build two battery plants in at least two of the four states contending for Tesla’s consideration, namely Arizona, Nevada, New Mexico, and Texas. The factories will cost the company around $5 billion and unlock 6,500 jobs in the host states. The plants will be equipped to handle production volumes of 500,000 lithium-ion battery packs, which will match current global production volumes. With troubled cash flows, the company will most likely be raising the required funds from $1.6 billion worth of convertible notes, and the rest from partners, possibly including its current battery supplier, Panasonic Corporation (PCRFY).

The company’s lofty valuation of $23 billion should partly ease the fund raising process. The figure is almost half that of the largest automaker in the US, General Motors Company (GM), which is currently valued at just over $54 billion.

The Battery Plants – A Massive Opportunity

Tesla has recently been citing supply chain issues relating to battery supplies falling behind its Model S production rates. This is a serious concern, as supply chain inefficiencies resulting from sales of around 22,000 units globally last year, are only expected to exacerbate as the company looks to cater to the rising global demand for its Model S, and launches its cheaper Model X crossover next year. Moreover, a car for the mass market, the model E, will be released in 2017.

In addition to ensuring a timely supply of battery packs, economies of scale are expected to compress production costs by up to 30%, making Tesla’s claims of pricing the Model E at half the price of a Model S all the more believable. A separate revenue stream could also stem from Tesla’s contracts to supply batteries for electric cars for other automakers too.

Tesla’s ability to make 500,000 cheap power storage units with a combined capacity of 50 GWh could even open doors for an altogether new disruptive opportunity in a trillion dollar market: electric utilities. Adam Jonas, an analyst for Morgan Stanley (MS), notes: “If it can be a leader in commercializing battery packs, investors may never look at Tesla the same way again.”

The foundations have already been laid under a future partnership with SolarCity Corp. (SCTY), which was also co-founded by Tesla’s CEO, Elon Musk. Under the partnership, SolarCity will leverage Tesla’s battery technology to build a sustainable residential solar backup power system. SolarCity currently sells power storage systems that help reduce electricity costs for households and commercial entities by selling the stored solar-generated electricity back to the national grid.

Bolstered by Tesla’s battery technology, the new system could eventually lead to enough power storage to free Americans from the antiquated national grid, which lags in capacity compared to the grids in developed European countries.

According to a report from Morgan Stanley, batteries currently found in Tesla’s Model S store enough power to supply an average household for 3.5 days. By 2020, the investment bank projects Tesla cars on US roads to jointly store 1.6% of electricity consumed by US households; and by 2028, a combined storage of 8% of US household power consumption in some 3.9 million Tesla cars on American roads. The report also lays a bullish case for Tesla, valuing the company’s stock at $320 apiece based on the assumption that the company will sell a quarter of a million vehicles by 2028.

Tesla Will Need to Meet Deadlines

Tesla’s current sky-high valuation is closely tied to optimistic growth expectations, many of which directly depend on the company’s plans to deploy the battery plants by 2017. Tesla is up against a tough deadline, considering that it has not even confirmed the locations for the plants yet. However, given how the company has driven through roadblocks in the past, we caution against betting against Tesla and its mastermind CEO.

The stock is currently trading at around $197, representing an upside of about 29% year-to-date, and 120% over the last one year. For more information on Tesla’s growth drivers in 2014, refer to our article here.

Do you agree with our take on the importance of Tesla’s battery plants? Voice your opinion in the comments section below, and our analyst will reply to you shortly.

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