No Significant Upside In Tesla Motors

| About: Tesla Motors (TSLA)

Tesla Motors (NASDAQ:TSLA) confounded many Wall Street analysts when it announced its results for the second quarter. It sold a record number of its Model S luxury sedans which have become fashionable with rich eco-friendly buyers, and the announcement pushed up share prices to a point where the company's market capitalization has overtaken that of the medium size Japanese car manufacturers such as Suzuki, Isuzu and Mitsubishi. The car manufacturer has been in existence for ten years and delivered 5,150 Model S sedans in the quarter against a forecast of 4,500 vehicles. It has expanded its Silicon Valley manufacturing facility to 500 cars weekly, and is preparing to ship cars to Europe followed by Asia.

Second quarter financials

The maker of electric cars reported a smaller net loss for the quarter than had been anticipated, but took analysts by surprise when it reported an operating profit. The loss was $30.5 million ($0.26 per share) compared with $105.6 million ($1.00 per share) in the same quarter of the previous year. Excluding one=off items and adjustments for lease accounting, the profit came to $0.20 per share. The major one-off items included a charge of $16 million associated with the repayment of a loan from the Energy Department of $465 million which was repaid nine years before it became due. Analysts had been estimating a loss of $0.19 per share. Revenues grew to $405.1 million compared with $26.6 million in the same quarter of the previous year and exceeded the analysts' consensus estimates of $386.9 million.

The company ended the quarter with $750 million in cash and cash equivalents and has subsequently used some of this cash to acquire 31 acres of land next to its factory in Fremont for future expansion. It also hopes to speed up the development of its next model, which is the Model X crossover expected to be on the market next year. It is also planning to launch a right-hand drive Model S towards the end of this year. Tesla currently makes one car, the Model S, which sells on average for $70,000 and has received the top rating from Consumer Reports'. The company has said that it remains on track to deliver 21,000 cars globally this year and has just completed its first delivery in Europe. It expects to ship 40,000 Model S automobiles per year by late 2014.

The future outlook

The goal of selling 40,000 cars a year could seem daunting with the company having to succeed in Europe and Asia (particularly China) and for demand to continue to be strong. What is particularly encouraging is the gross margin of 13% compared to 5% in the first quarter, though there is still some way to go for the company to reach its fourth quarter target of 25%. Company CEO Elon Musk says that there is a lot of work to be done, but that he is confident of achieving this 25% target as long as nothing short of the ordinary happens. For some time, the company had problems with its suppliers and could not expand sales without adequate supplies of components, but the problem is being resolved as 90% of suppliers were able to ramp up supply. However, as he points out, you cannot ship a car that is 99% complete. The company also now has the credibility and the cash to draw the attention of the best suppliers.

There have been concerns about the sustainability of the demand, but you should take into account the fact that the company is doing well in the United States with only one product. The introduction of the new SUV should help in generating new demand. Moreover, China accounts for more than half of the sales of luxury sedans globally, and Europe overall is larger than the United States. The company only needs to sell 10,000 vehicles in each of these markets and maintain sales in the United States to achieve its target of 40,000.

The bottom line

Tesla Motors has the intention of being the first automobile manufacturing start-up in the United States, since the nineteen twenties to become successful. Investors have given the company stock a handsome valuation because of its growth prospects, but it must be remembered that the company is still minuscule when compared to the giant U.S. and foreign carmakers. I am also skeptical about whether there will be any further earnings surprises in this fiscal year, though it cannot be ruled out. As such, I believe that the current valuation is a bit too lofty, and any further earnings surprises are fully priced in.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.