How Musk's SolarCity Deal Could Work

| About: Tesla, Inc. (TSLA)
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SolarCity could prove a good deal if it can make the transition from sales to production.

Buyers of Tesla shares always bought a vision, not a product.

If Elon Musk decides to sell dog food, you're in on it as a Tesla shareholder.

SolarCity (SCTY) is being killed by a switch in solar business models.

As costs continue to fall, as solar panels can justify their sale based on power rather than just tax breaks, the old model of leasing them to consumers is going away. The hope had been there could be a smooth transition to panel sales, but this is real estate and things are messier than that.

Someone who bought a solar lease five years go now has inefficient panels on their roof, a contract they can't end except at extreme cost, and an "asset" that actually lowers the value of the house, when compared with a bare roof on which someone can install panels on their own.

This is not fatal to the solar panel industry. The solar panel industry is healthier than ever. Even homeowners can buy panels and get a return. But the return on a small roof is dwarfed by the return a department store can get for its big roof, or a utility can get from an open field.

SolarCity made the right decision in getting into the production of panels. Now that panels are able to sell themselves as energy producers, with the tax breaks becoming less and less relevant, you want to be on the production side of the trade. Sales costs are going to be crushed, just as computer companies found themselves switching from dedicated sales staffs in the 1970s, to stores in the 1980s, to the mass market in the 1990s, and going direct. The same thing is going to happen here.

The SolarCity business model, in short, was obsolete, but it has a promising future as a panel producer. It's just going to need capital to make the turn.

That is why Elon Musk wants to buy it with Tesla (NASDAQ:TSLA) stock.

You can call this a betrayal of Tesla shareholders because that company is taking on even more risk just at the time it is making an all or nothing bet on ramping up production. But why did you buy Tesla shares in the first place? Was it really to own an electric car company? You could have gotten GM (NYSE:GM) or Ford (NYSE:F) for a single-digit Price/Earnings multiple but you went with Tesla instead, which has the same Price/Sales ratio as those companies' P/Es.

So why did you do it? You did it because you believe in Elon Musk. You saw him as a unique business figure who could defy gravity.

OK, then. If you bought Tesla to buy into Musk, believe in him now. You bought his vision of electric cars, PowerWalls and solar panels, all of it, when you bought his stock. If Musk decides next week to fold in SpaceX (SPACE), taking Tesla stock so he can keep up his Bond villain street cred, you're in on that. If Musk decides he has a great new idea for pet food made of dog poop, you're in on that, too.

When you bought Tesla, in other words, you bought Musk Industries. You bought a jockey, not a horse. Tesla stock never made sense any other way. Now, ride him.

Disclosure: I/we 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.