Too Risky To Bet On Tesla Stock Rising Again
Summary
- ARK Invest raised Tesla's 2025 price target to $3,000.
- However, noted value investor, Chris Bloomstran released a scathing rebuttal to their forecast.
- Despite the recent ~20% pullback, Tesla appears significantly overvalued.
- Recent FSD (Full Self Driving) failures add insult to injury and call into question Tesla's technological prowess.
Background
As potentially the most divisive company in modern history, the Tesla (NASDAQ:TSLA) Bull vs. Bear debate continued to reach new highs last week. The action started on March 19th when ARK Invest released their updated Tesla price target of $3,000. This prompted a 38-tweet thread from famed value investor Chris Bloomstran, where he systematically rebutted a variety of assumptions in the ARK model.
In this article, I will wade into the debate, and provide my own analysis on the situation. First, we will take a step back and analyze the company from a more traditional valuation-based approach. We will then dive into some of the machinations behind the stock's price movement, which may explain the disconnect from that valuation-based approach.
Tesla forecast for 2021
Despite bearish expectations from many analysts on Q1 2021 results, Tesla once again surprised to the upside, announcing on April 2nd that they delivered 185K vehicles versus expectations of 168K. Meanwhile, on April 1st, it was reported that Apple (AAPL) agreed to purchase 85 Tesla lithium-ion megapacks to help power their Cupertino headquarters.
At this juncture, Wall Street is expecting Tesla to deliver 750,000 cars and revenue of roughly $48B in 2021. This equates to ~50% growth in deliveries and revenue. Assuming the company can achieve that outlook, Tesla would be trading at a P/S ratio of 12x. Assuming no growth from here on out, this would mean the market is valuing each dollar of Tesla sales at >12x the value of any other car manufacturer's sales. However, when we examine the company's EBIT margins, Tesla is not significantly more profitable than other car manufacturers. From this perspective, we can see that Tesla's valuation appears incredibly misaligned with their sector.
Source: Author
However, unlike the traditional auto manufacturers above, Tesla is growing revenue at a truly astonishing rate. In fact, Tesla compounded revenues at a 39% clip over the past 3 years. Assuming the company could maintain that breakneck pace for the next 5 years, Tesla would generate revenues of $179B by 2025. First, in order to increase production so rapidly, the company would need to spend tens of billions of dollars on Capex, which could require further capital contributions in the forms of increased debt or equity dilution. Additionally, the more significant problem is that even if the company could achieve that monumental sales growth, we are unsure of what sales multiple it would receive.
For example, let's say after growing at 39% through 2025, market participants decide the company's sales should still be worth 3x as much as the competition. This would give Tesla a 2025 Market Cap of only $540B, roughly 15% less than today's value. In this way, Tesla's stock may become a victim of its own success, in that the current Market Cap has already priced in the incredible sales growth of the future.
In order to best conceptualize the concept of multiple compression, investors should analyze the similarities to Microsoft (MSFT). From 2000 to 2005, Microsoft was able to grow revenue from $23B to $40B. The company achieved a dominant position in the marketplace and continued to grow rapidly over the next decade. Despite the excellent results, Microsoft saw its P/S ratio compress from 24x to 8x, which cut the stock price in half for a prolonged period of time.
Tesla Stock Price History
After an initial period of appreciation after coming public in 2010, Tesla stock traded relatively rangebound for most of its history. However, starting in late 2019, Tesla, Inc. shares went parabolic, vaulting the share price from $50 in October 2019 to $880 by January 2021 (split-adjusted). So what explains this period of rapid price appreciation?
First, analysts, such as those at ARK Invest, became increasingly confident in Tesla's lead in terms of battery, powertrain, and self-driving technology. In essence, analysts were able to provide more bullish forecasts as they increasingly became more confident in Tesla's ability to outperform their competition. For example, Morgan Stanley's Adam Jonas raised his Tesla PT from $810 to $880 on Feb 1st 2021, and detailed out a "bull-case" scenario where the stock climbs to $3,000 by 2030.
Next, there is the allegory of the Gamma Squeeze. A Gamma Squeeze is typically described as a "squeeze" precipitated by significant buying in short-dated OTM call options. This buying generally causes the counter-party to begin purchasing a certain amount of shares to hedge their risk. Those purchases along with follow-on momentum buying may cause the stock price to rise even further, which causes the counter-party to purchase even more shares to hedge the increased risk. In short, the initial OTM call buying activity sets off a positive feedback loop, which can boost the price.
As alluded to in the tweet above and explained fully in the linked tweet thread, Gordon Johnson believes there is manipulation occurring in Tesla's stock price. He is not the only one. Twitter celebrity and Seeking Alpha Author Keubiko has also noted similar buying activity in Tesla. Personally, I am unsure of the extent to which Tesla's stock price could be manipulated. However, given the parabolic move over the past 12 months, investors would be served best by recognizing the possibility and the risks associated.
Is Tesla stock a Buy?
As discussed above, Tesla seems to be extremely overvalued on the stated financials, but what is more concerning is a few cracks in the facade of invincibility in Tesla's product leadership.
First, we can take a look at the Norwegian market, one of world's leading EV markets. In 2019, Tesla was the top-selling electric vehicle in Norway by a substantial margin. However, only 12 months later, the company had fallen significantly behind the Audi e-tron. This data points us to the inconvenient truth that consumers are now receiving a wide range of EV options and they prefer them just as much, or more than Tesla products. Said another way, consumers do not prefer Tesla products as much as equity investors prefer Tesla stock.
Source: CleanTechnica
The next disconcerting development for Tesla was the company's recent beta test of Full Self Driving v8.2. Although hailed as a leader in autonomous driving, videos from FSD beta testers were extremely underwhelming to many riders. This feeling of disillusionment with Tesla's FSD feature has only grown as Waymo continues to make progress with their own offering. In fact, the company was even confident enough to invite the Today Show to ride in one of their autonomous taxis. Meanwhile, only days after launch, Tesla chose to cancel the FSD beta, scrapped plans for a FSD 8.3 beta test, and announced that significant architectural changes needed to be made, which would result in a v9.0 FSD beta.
Source: Twitter
Conclusion
As a former Tesla bull, I now believe there to be significant risk in regards to Tesla's FSD capabilities and EV product leadership. As an investor, the question inevitably becomes: "at what price am I compensated for taking such risks?" At Tesla's current extreme valuation and the unsettling options/price activity in public markets, I do not find value at this time.
Analyst’s 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.
This work and my opinions are not financial advice. Do your own due diligence, and speak with your financial advisor before investing.
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