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Full Rebuttal To Article: Tesla Is Not The Next IPhone By Anthony Ruben, Inflection Point Consulting

|Includes: Tesla Motors (TSLA)

TSLA

Re: seekingalpha.com/article/2963776-tesla-i...

Thank you for an intelligent article and for summing up the rational bear thesis. It is good to see that under-estimating Tesla is not just limited to politicized protectionism of the fossil fuel industry.

What I am getting here is that either

1. Your thesis holds water on its merits: Good for the shorts.

or

2. Your thesis falls down under cross examination - You just defined a much deeper well of market vulnerability upside surprise.

Note: We are only discussing the validity of the short case. The long case does not require validation. It is sufficient to simply listen to guidance from Tesla and observe that the company is executing to plan.

Note also: It is impossible for a 'priced for perfection' argument to hold true if the stock price is balanced between a flawless long case and a faulty short case.

So let's take a look if your 1~8 holds up to the standard you set for them i.e. "Laws of Nature".

"1. TSLA product line of electric vehicles is essentially a niche product- though a very cool niche product"

Tesla is anything but a niche product. The Model S offers far-reaching proof that it is possible for Tesla to disrupt the value for money proposition of the internal combustion engine, something that is anything but niche.

In most respects and for a majority of buyers in the $100K price category, the Model S is better value for money and strongly acknowledged to be so by its customers.

There remains only four items that remain at issue: Initial price, Interior luxury, Range per Charge and Highway Charging Times.

This is balanced against new customer value propositions of:

Home Charging, Free Highway Charging, Incomparable Performance and freedom from the negatives of Gas Pumps, Franchised Dealers and Economic Incompatibility with Renewable Energy.

This is proof positive of a disruptive technology. The four challenges are easily addressed while the benefits cannot be attained by the old technology.

Model S is a clear warning that the subsequent platform iteration (The Tesla Model 3) will completely disrupt the market for internal combustion engined vehicles at a mid-market price point, making an equivalent internal combustion engined vehicle impossible for consumers to justify paying the *additional money* required to build them.

*The Tesla Model 3 at $35K can afford to include a 60KWh battery pack and a high performance electric drive train of at least 300hp. In a smaller lighter platform than the Model S that will deliver approaching and possibly exceeding 300 miles of range with very high performance and is expected to be highway charged for free in 5~10 minutes in accordance with Tesla's stated R&D trajectory. At $35K meaningful competition on interior luxury is non-existent and it is impossible to build an ICE vehicle cheap enough to match the Model 3 on performance specs, neither at the initial price point and nowhere close in terms of total cost of ownership (or monthly cost when considered as a vehicle loan or lease + fuel). The Model 3 extinguishes all four of the remaining competitive challenges facing Model S: Initial Price, Range, Charge Times, Interior luxury.

Hence no, Tesla is not a 'cool niche product'. The take home message of the Tesla Model S is that Tesla has achieved commercial verification of an ICE-killer mass market technology as well as validating customer satisfaction with its business model.

2.) TSLA operates in a highly competitive marketplace and the Company's sales projections of 500,000 exceed some of the most successful , storied, valued and sought after auto brands

The first part of this statement is simply false. There is extreme competition between ICE vehicle makers because there is no fundamental difference in the customer value proposition provided between any two ICE vehicles of a similar cost of manufacturing. They both go from A to B, carry people and other items and require fuel and maintenance in near identical ways. The Tesla vehicle does all of that only better while reducing the negative aspects of requiring fuel and maintenance. Tesla also has an entirely different manufacturing cost base that allows it to replace the ICE consumer value proposition at a reduced cost of manufacturing. This is akin to a competitive market between fax machine manufacturers facing competition from an email provider - while both fulfil the consumer value proposition for electronic messaging, email does so in new and better ways with a dramatically reduced cost base.

As for the second part of the statement, yes 500,000 vehicles is a good number to take from storied auto brands, but the Model S is proof positive that taking business from Mercedes, BMW, Audi, Porsche and so on is no obstacle. It California sales of these brands at a similar price point lag behind Tesla Model S sales. It is also fair to say that the Model 3 is likely to enjoy immediate demand greatly exceeding 500,000 units AT LAUNCH because it is the natural next car anticipated by more than 2 Million Prius owners.

TSLA stock trades at multiples beyond that of any auto company (or technology company like AAPL or GOOG); the current valuation creates virtually no potential upside and lots of downside risk

The long case takes into consideration the fact that there is no obstacle to Tesla continuing to execute as it has been, accumulating a 50% compound annual growth rate for many years to come. The upside potential over 10 years is guided to $700 billion market cap in 2025 vs today's market cap in the region of $27 billion with minimal dilution.

Also, there is no reason for TSLA to be compared with multiples from traditional auto makers. A past history of selling vast quantities of fax machines is no counter to the argument that an email provider is likely to end up dominating the consumer market for electronic messaging. As regards to AAPL and GOOG, it is not expected that these mature businesses share the growth potential of TSLA. Tesla has an addressable market to grow into that is many multiples of its current sales, Google and Apple not so.

TSLA's "volume" car, the Model 3, will begin to be sold in 2017, the same year as GM's Chevrolet Bolt EV is also slated to be sold (in other words, no monopoly on technology or availability)

This is a very basic misreading of the vehicle market. The GM Bolt fails to fully address the customer value proposition of the GM Sonic while requiring customers to pay double the price. Conversely the Tesla Model 3 (that will effectively go on sale in 2016 and possibly sooner as a pre-order item) will exceed the customer value proposition of a BMW M3 in every possible respect and at a significant discount from the BMW's $62,000 base price www.google.com/?gws_rd=ssl#q=bmw+m3+price

"5. TSLA's stock price ignores the potential of other market entrants, such as Apple (NASDAQ:AAPL) or completely new (to the market) technologies such as Google's (NASDAQ:GOOGL) self-driving car."

There is logically no more secure or faster route for these companies (AAPL or GOOG) to go to market with an EV other than in cooperation rather than in competition with Tesla. Note that Google in particular this year to date has made strategic investments totaling $1,65 Billion in a combination of SpaceX and Solar City. Recent rumors described the potential for a strategic investment in Tesla by Apple. The entry of any new EV maker is a potential customer for Tesla's batteries and drive trains.

As a side issue, Tesla states that it is likely to be first to market with significant autonomy. This is clearly reasonable considering Tesla's R&D prowess but also in the fact that a fully electric drive train is closely and securely compatible with fully electronic controls. This is unlike the engines and transmissions of internal combustion engined vehicles where numerous points of mechanical servo linkage failure such as moving gears, throttle linkages and ignition solenoids introduce an additional category of hazard that cannot readily be contained in software. A three phase motor supplied from a DC source cannot function without being positively fed a coherent three phase signal constructed in software.

"6. TSLA, in warranting the resale value of certain vehicles (currently the Model S) bears significant market risk, especially as newness fades and new models steal the spotlight from the old"

One can only go on guidance that is strongly supported by information in the used vehicle market that demonstrates that the Model S is currently holding a resale value trajectory that appears to be holding in excess of the residual guarantees offered by Tesla. The first of these guarantees mature to three years of age in 2016. It must also be noted as a matter of fact that the maximum possible impact on Tesla is already deducted from the GAAP accounts. All residual guarantees are 100% deducted from Tesla's sales GAAP revenues and profits. This makes any remaining residual value in the vehicles above $0.00 a net positive contribution to the GAAP accounts three years after the sale. Furthermore it must be noted that on the current sales growth trajectory any impact of residual guarantees on cash flows three years after the sale, even in the improbable event that residual values of the vehicles are materially lower than the guarantees, is diluted by a business that is 337% bigger than it was when the guarantee was issued.

Bottom line, this contention is invalid. GAAP has already fully discounted this risk leaving only upside potential.

"7. TSLA is counting on great success in product-saturated, uber-brand conscious China (where it is underperformed to date)"

This statement is incorrect. Tesla is counting on a convergence of R&D, Internally Generated Cash and Execution of the Gigafactory to launch a vehicle at a mid market price point globally. A vehicle that fundamentally overturns the value for money proposition of the automobile in favor of an electric vehicle verses an internal combustion engined vehicle. Tesla is cautiously ramping Model S and Model X production figures behind the demand curve and accordingly is well buffered against learning experiences in China or elsewhere as they arise, as evidenced in recent months when it was simply able to allocate deliveries to standing demand in the USA and Europe while restructuring its operations in China.

"8. TSLA's valuation assumes the on-time, on-budget competition of the giant Gigafactory. As the first facility of its kind, there is substantial construction risk"

While this statement is superficially correct, it is not the most interesting feature of the Gigafactory where rewards thoroughly outrank risks. On that basis it is fair to state that the valuation is not as exposed as this statement suggests. The Gigafactory is an extraordinary consolidation of Tesla's first mover advantage in the 21st century automotive market. The project's capital is justifiable on the basis that Tesla's vehicles already represent the world's largest customer for EV batteries, and further justified by trials of the economic viability of home storage by Solar City. In other words the Gigafactory is being built for waiting and identifiable demand that is something that only Tesla can lay claim to. Accordingly there is no potential competitor inside or outside of the auto industry that could so easily justify a project like this to its shareholders.

It is fair to say on that basis that the rational bear case does not hold water like "a law of nature".

For bulls that are interested in being more imaginative than simply observing guidance matching execution here is something that will be of interest regarding the nature of the Tesla Model 3.

Naturally for Tesla to be able to present a competitive offering at the $35K level, it is understood that the price of the battery in particular needs to be halved vs the battery in the Tesla Model S.

Tesla's battery cost is proprietary information, nevertheless it is public information that the Model S is selling at a 27% gross margin. The cost of the battery is well contained within the high-margin sales price of the vehicle.

Picking any arbitrary figure for the cost of the Model S battery and halving it gives close to a definitive answer regards the size of the pack Tesla can afford to put in the Model 3. And from that we can determine the likely capabilities of the vehicle (hint it is not going to be Bolt-like).

$X * 85 = $85X

half of that is $42.5X

$42.5X / $0.7 = 60

$0.7 is the 30% Gigafactory (minimum) price reduction.

60 is the 60KWh battery Tesla can afford to put in the half priced Model 3.

Considering we know that the Model 3 will be 20% smaller and consequently much lighter than a Model S, we therefore know that the $62,000 BMW M3 is toast, and if that is toast the Prius is definitely toast, the $57,500 Toyota Mirai with its 0~60 in 9 seconds and highly questionable environmental credentials does not even get a look-in. Still more than $10,000 over priced even after $13,000 of subsidies free hydrogen.

That is the bull case for a disruptive technology company in the Auto market.

All else is just talk.

Disclosure: The author is long TSLA.

Additional disclosure: I have every respect for good chart work when it comes to trading long or short, however TSLA is in my opinion a superb buy and hold value proposition. I have no respect for going short or long a stock based upon a thesis that is fundamentally in error. I believe that description describes the current TSLA bear case as this instablog seeks to describe in detail.