Everyone can agree that Tesla Motors Company (NASDAQ:TSLA) is different. TSLA is almost as interesting as biotech companies on the cusp of finding therapies for previously untreatable conditions, probably more exciting to some people. But like biotech companies, TSLA is probably best viewed with cautious optimism. Companies like TSLA can be rewarding for investors, but they usually come with a risk that can get drowned out by the hype and understandable enthusiasm. Nonetheless TSLA is exciting from almost any perspective. They are changing industries, the standards for the quality, and even the infrastructure that supplies them, not to mention making some remarkable cars in the process.
But now that TSLA has raised the bar for themselves and for others, it is hard to say what success for TSLA means for the company and for shareholders. It is not as simple as just making a great product. Does success for TSLA mean that they simply stay alive? Would they suddenly drive the big guys out of business? Or is it something in between? So far the stock has doubled at times since the IPO two years ago without even making a profit. They have a polarized group of stakeholders and have had about 50% short-interest for some time now. The "shorters" of course want to believe that TSLA will fail, and those who are more optimistic of course want to see success. Another SA contributor Nick Butcher observed how vehemently some feel about TSLA one way or the other and he acutely summed it up by noting that TSLA stakeholders seem to fall into three categories:
1. Those who are negative, and will be even if TSLA becomes bigger than Toyota (NYSE:TM).
2. Those who are positive, and will be even if TSLA goes bankrupt and has their factory razed to the ground.
3. Those who, whether bullish or bearish on EVs in general, are capable of making a reasonably pragmatic assessment and adjusting their holdings and perspectives accordingly.
The mudslinging and braggadocio that comes from groups 1 and 2 might make politicians blush. And as TSLA continues to march into a very critical period, the mudslinging will probably only grow until the speculation subsides (a bit like a certain upcoming election). Those who are firmly rooted in group 2 will tell you that a day of reckoning will soon come for the "shorters." Enigmatic CEO and founder Elon Musk warned "shorters" in a recent interview to get out while they still can, because "there is a tsunami of hurt coming." Those from group 1 of course are waiting for the opposite. In the meantime, those who are content to stay in group 3 are trying to evaluate TSLA as best they can, with what information is available. They have to try and make sense of what is happening with the company, and how that might reflect in the price of the stock. What will an investment in TSLA today look like tomorrow or next year?
As aforementioned, I find what they are doing interesting on an investment level and even a consumer level (although I would still rather buy a Euro diesel BMW 5 series that gets 70mpg). But in looking at TSLA you have to take an unconventional approach to get a real sense of the picture. Just looking at ratios and comparing them to other car companies does not do it justice. For example on the macro level, there is one heavy hitter that not only affects the adoption of the Model S but all alternative vehicles, oil prices. There is a tipping point (feel free to grab a price out of the air), at which consumers would decide that gas is just too expensive. So as oil prices rise, so too will demand for alternative vehicles. TSLA might actually be making a better car at this point, but they still have to make a better and cheaper-to-own car to get a mass-market revolution (TSLA hopes to do just that with a new model in a few years). But until then, EVs have to settle for the niche market (the luxury market for the Model S). With fuel economy mandates increasing in efficiency, diesel imports gaining traction, and new ways of extracting crude, and the looming fiscal cliff, we might have a long wait until that tipping point is reached.
On the more micro level, the good news for TSLA is that statistically they should easily generate enough demand to sustain the business model. As I previously detailed, only about 1% of the amount of U.S. citizens who could easily afford to buy a Model S with cash would need to do so for TSLA to meet or exceed their sales goals for 2013 (20,000+ Model S). So statistically, that is a bit like saying that they have a 99% chance of having enough demand. But the truth is that statistics do not always translate perfectly or immediately to the real world. Right now, TSLA has a relatively big backlog of orders which is impressive considering that many depositors have not even gone for a test drive, but assuming that none are cancelled, it is probably only enough to get them through 1-2 quarters of production at a "ramped" up volume.
So they will need to catalyze a significant increase in orders between now and then. And it should be noted that financially, if that does not happen, it will be rough. However one ace up their sleeve is that by 2012 standards, TSLA has done almost zero marketing of the Model S. They have been allowing the cars, press releases, in-house events, auto reviews, and TV interviews do the job for them. Over 12,000 orders have been taken without a single TV spot being purchased. It has been a pragmatic strategy to allow the products speak for themselves, but it will be interesting to see what happens to the demand as the voice grows, which it almost certainly will. Every time a new Model S meets its new owner or a journalist writes up a review (which have been largely positive thus far), it is free advertising for TSLA.
Metrics and comparisons do not apply easily to TSLA because of what TSLA is doing, and how they are doing it. They are breaking into a largely homogeneous industry with unorthodox methods, so comparisons are just plain hard to do without a lot of contextual caveats. There really are no current companies that can serve as peers for TSLA. TSLA is one of those cases where you have to be careful how and what you are comparing to, if you compare to anything at all. For now, typical metrics and comparisons for TSLA have to be interpreted within a lot of context. Having said that, optimistic upgrades by respected analysts, most recently by Morgan Stanley, are surprising because they should be more aware TSLA's metrics than TSLA itself. While most analysts would agree that TSLA metrics are less telling than normal, that does not mean they should be ignored. One such ratio that may be worth noting is price to book ratio:
*Yahoo/Fidelity, based on June 30th 10Q and Sept 21 stock price
For those who are not familiar with it, price to book value states how closely the stock price of a company reflects its book value. Fundamentally, it is a way of taking a snapshot of the health of a company relative to market price (usually the lower the value P/B, the better). As shown above, compared to other automakers TSLA is pretty much dead last in this metric. To provide more color, F is ranked in the 74th percentile with a ratio of 2.88, and Toyota is in the 23rd percentile with 1.01. Even AAPL is in the 90th percentile in its industry with a P/B of 5.93. The average P/B for the computer/peripheral industry is 5.7; the communications equipment average is 3.14. So TSLA's P/B even across numerous industries is very high at 52. But we have to take it back into the context of the big the picture.
Before weighing the P/B too heavily, we have to suspend judgment and remember that TSLA is currently in the midst of a dynamic transformation. That is why metrics with companies like this are tough to interpret. One of the weaknesses of P/B is that it does not really account for companies that are in the growth stage of development. It is like trying to judge a basketball player's free throw average before the season has started. In fact, pretty much any metric done off today's numbers will change dramatically over the next year one way or the other. Over the next year, they could go from being a hemorrhaging start-up to being a company that is able to bring in a continuous stream of revenue and maybe even stay profitable. Knowing today's P/B is good, but it would be really great to see what it looked like after that revenue stream kicks in.
|AVG Sales Price|
|# Model S Sold||$57,000||$75,000||$100,000|
|Revenues||25% Margin||12.5% Margin||Revenues||25% Margin||12.5% Margin||Revenues||25% Margin||12.5% Margin|
|Revenues||25% Margin||12.5% Margin||Revenues||25% Margin||12.5% Margin|
|* This only represents revenue from Model S sales, not other revenue sources (Roadster, partnerships etc.)|
Last time they posted earnings I put together the above spreadsheet projecting revenues and profits. Both variables have a wide spectrum of possibility, so I used a range starting with the lowest numbers I could conceive of ($57,000 sales price and 1,500 cars sold) to very optimistic numbers ($100,000 sales price and 30,000 cars sold) to get an idea of what things would look like. Instead of trying to put together a range of fixed and variable costs or guesses of COGS, simple margins using 12.5% and 25% were used. Finally, I decided to just look at a grossly optimistic outcome to see what the high end of the range looked like rather than guessing at the myriad of variables. Since they have an inverse relationship, looking at the optimistic scenarios gives us a more favorable or lower P/B value, the ceiling of possibility. Using these numbers, I tried to model what TSLA's balance sheet would look like at the end of 2013 and rolled it back into a projected P/B value.
So if we plug-in (pun intended) that TSLA will sell 30,000 Model S at $100,000, they would consequently have $.75 billion in profits and a book value of maybe $.6 billion after partially repaying their loans. If the stock price doubled by that point to $60 without issuing more shares, the P/B would become a high but palatable 10. If the stock price were $120 the P/B would yield 20; if it stayed at the current price of $30 it would be 5. And remember that these results are coming from extremely optimistic scenarios, the upper range of possibility (pretty much impossible, the average selling price is not going to be $100,000 and the shares will likely have been diluted by then).
If you go back and take a look at the P/B for F, TM, and even AAPL, it is a little sobering; and as the projections become less gratuitous the P/B only gets higher. Even if we model that everything goes well and that 25% margins are exceeded, and they had significant ancillary revenue in addition to the Model S and TSLA was amazingly at a 1.2 billion book value at the end of next year with a $30 stock price and no additional shares, it would still be 2.5 P/B (which looks great but still a little worrisome considering the immense generosity of the scenario). And lastly, there is one final caveat. The initial P/B discussion of the current P/B is not entirely accurate, it is based on the book value reported from June 30, 2012 of about $62 million. The actual P/B over the past couple of months has likely been significantly higher than 52.
Considering that TSLA could have had negative book value or an astronomically high P/B sounds a bit scary as isolated metrics, but we still have to try and put things in perspective. Consider AAPL, a company that has enjoyed financial success for years and become one of the biggest companies ever, bigger than any of the auto manufacturers. On the other hand we have TSLA, another "disruptive" company that while impressive is still very juvenile and has never posted profits, which has a P/B much higher than the former. Even a year ago when AAPL was trading at around $400 before its breakout 2012, its P/B was around 4.5.
Netflix (NASDAQ:NFLX) had a P/B of around 50 just before it started falling from about $300 to its present price of $57 over the past year and a half. Amazon (NASDAQ:AMZN) had a P/B into the 80s in 1999 and into the $60s in 2005. The AMZN comparison might be the most relevant of all. While AMZN the company has done quite well over the years in many ways, the stock did something interesting not long after the P/B high in 1999, being part of what many would remember as the Dotcom bubble and falling about 90%. And in the 2005 P/B example, it is notable that while the stock did not crash, the stock price did not increase with much decisiveness until the P/B started to come down.
So is it fair to look at actual or projected P/B for TSLA? Metrics never fully capture a company even when the company is conventional right? Even if we look at every last caveat and variable, they still cannot take into account everything. After all, maybe TSLA has a whole deck of aces up its sleeve, a tsunami of hurt. But the P/B might help us wrap our brains around the dynamics of how TSLA the company is looking compared to TSLA the stock. In line with TSLA's mission, they really are making a convincing attempt at jolting the EV market. In spite of their weak balance sheet, the odds that TSLA the company will cease to exist in the next year are small. TSLA will probably be around for a long time to come in some form. But even if that proves to be true, it does not necessarily mean that an investment in TSLA today will be worth $300 by the end of 2013 with a nice steady climb. While TSLA could hit $300 at some point, that point might be at the end of a long bumpy road that goes over mountain passes and valleys. It is hard to say if TSLA is now where AMZN was in 1999 or in 2005, or neither.
We know for sure is that TSLA is making some pretty cool products with a very smart and daring business model. After looking at the P/B, TSLA is a great stock to remember that until there are a few less variables, there is no joining Nick's groups 1 or 2 without stepping out on weak limbs. Both parties might end up being right in their own ways. TSLA is without a doubt already in an awesome and rare breed of companies. But maybe more rare is when we see P/B ratios like this exist without corrections or very long waits for significant and stable ROI. At $5 or $30 TSLA probably presents a lot of eventual value, they are planning a lot farther out than 2013. For example they just unveiled plans for a network of charging stations to supply the Model S (and only the Model S and future TSLA vehicles) on long trips. The idea is that Model S owners will be able to drive anywhere in the country without needing to charge overnight, and without having to pay for fuel. It sounds pretty good because it is. But P/B ratios are worth keeping an eye on, even when they need a lot of context. An investment in AMZN started in 1999 or 2001 both look good today, but if you bought at the end of 99' you would have had to wait till 2009 to break-even.
Disclosure: I am long TSLA, AAPL. 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.