To The Moon

Tesla$Tesla Motors(TSLA)$ formerly known Tesla Motors Inc, needs no introduction for regular readers of The Armchair Trader. The US electric vehicle and clean energy company based in California specialises most notably in electric vehicle manufacturing but also produces other electricity solutions such as battery energy storage from home to grid and through its SolarCity subsidiary solar panel and solar roof tile manufacturing.

With the global shift to focusing more on environmentally friendly solutions and carbon footprints Tesla is certainly in a prime position to benefit. But is the recent drop in the price a buying opportunityor are the longer term valuation metrics kicking in and the shares set to correct further? The PE ratio still sits at a lofty 95 with shares at $703.

A brief history of Tesla

Tesla was founded in July 2003, by the engineers Martin Eberhard and Marc Tarpenning, under the name of Tesla Motors. Interestingly Elon Musk was responsible for 98% of the initial funding and served as Chairman of the Board but wasn’t the first CEO. He appointed Martin Eberhard to be the first CEO. Then in its 2004 Series A funding Tesla Motors was joined by Elon Musk,J. B. Straubel and Ian Wright, all of whom are retroactively allowed to call themselves co-founders of the company.

Products

The Tesla Cars product range includes the Model S, Model 3, Model X, and Model Y cars. With all the hype and focus on the cars it is easy to forget that Tesla is not simply a car manufacturer but also sells a range of environmentally friendly energy solutions for your home and business as well; these include the Powerwall, Powerpack, and Megapack batteries, solar panels and solar roof tiles.

The Powerwall: theTesla Powerwall is a solar battery for homes and small businesses that stores the sun’s energy and delivers clean electricity when the sun isn’t shining. The second edition, Powerwall 2 uses a built-in inverter to convert DC energy to the AC energy required in our homes. This lowers cost and complexity.

The Powerpack: The Powerpack is the company’s utility-scale rechargeable battery, designed to store energy for off-grid and supplemental power systems, including large facilities and the electric grid. Like Powerwall, Tesla’s battery for home and small business use, Powerpack is based on lithium ion battery technology but ultimately used for larger scale applications.

The Megapack batteries: The megapacks are a grid energy storage battery with a capacity of three megawatt hours designed for battery storage power station use. Megapacks significantly reduce the complexity of large-scale battery storage and provide an easy installation and connection process. Each Megapack comes from the factory fully-assembled with up to 3 megawatt hours (MWhs) of storage and 1.5 MW of inverter capacity, building on Powerpack’s engineering with an AC interface and 60% increase in energy density to achieve significant cost and time savings compared to other battery systems and traditional fossil fuel power plants.

Solar roof: Tesla andSolarCitydeveloped a solar roof system that integrates the solar cells and modules inside the structure of the roof rather than just panels on a roof. The idea is to design something that looks just like normal roof tiles when installed but each tile is a solar panel.

Tesla financial summary – full year 2021

2021 proved to be a very positive year for Tesla with the firm reporting annual revenues of $47.2bn, a 73% increase compared to full year 2020, which happens to be their previous record year. Gross profit increased by 105% to $13.6bn, as a result of a near 100% increase in operating margins.

Tesla attributes the growth in revenues to increased vehicle deliveries and “growth in other parts of the business”, while profitability was boosted by reduced manufacturing costs, increased deliveries and more profitable leasing and service operations. The firm did also highlight some negative impacts to profit including rising raw material prices, logistical costs and a recall of nearly half a million Model S and Model 3 cars to fix faults. They have also highlighted that their own factories “have been running below capacity for several quarters” considering the supply chain crisis, and expect this to continue through 2022.

Overall, Tesla delivered 24,980 Model S and Model X, winding down production of its two most expensive cars in line with both planned updates and semiconductor supply issues, and 911,242 examples of the cheaper Model 3 and Model Y. Overall, the manufacturer delivered 936,222 cars last year, up 87% from the 499,647 it supplied in 2020.

The firm notes that in the fourth quarter its output was still hindered by “global supply chain, transportation, labour and other manufacturing challenges” which restricted capacity. But Tesla plans to start building the Model Y on a new line in Texas imminently and to boost capacity at its Fremont, California plant beyond 600,000 units annually, in line with its belief that “competitiveness in the EV market will be determined by the ability to add capacity across the supply chain and ramp production”.

Tesla’s new factory in Shanghai increased production of the Model 3 and Model Y throughout 2021, which was “essential for reducing the cost per vehicle and improving the stability of the global supply chain”. Over the next few years, Tesla expects to boost vehicle deliveries by 50% and says it has “sufficient liquidity” to fund its product roadmap, expansion plans and other expenses.

Tesla have been slower to comment on some of the new wave vehicles that have previously been discussed, saying “making progress on the industrialisation of Cybertruck” in Austin, Texas, however, the firm has yet to make any concrete announcements on the launch of its radical EV pick up, the Roadster sports car or long-promised £17,000 hatchback.

First quarter 2022

Tesla started 2022 on the right foot with production up 69% compared to the same period last year. Revenue grew faster than production, highlighting Tesla is generating better margins on every vehicle it produces. This margin increase comes partly from price increases throughout 2021 as well as increases in production efficiency. This revenue growth is also being represented in the bottom line, as quarterly net income rose 658%; this was also coupled up with Tesla’s 17.7% net income margin.

Management also highlighted that they do expect to grow Tesla’s vehicle deliveries by 50% annually over the coming years. Using this forecast to model revenue growth and keeping Tesla’s 17.7% profit margin, Tesla could have $14.9bn in earnings by the end of 2022. This means Tesla could be trading at 49.5 times full-year 2022 earnings, not so bad as the current lofty valuation suggests and for a company that expects to grow around 50% annually over the next few years, yet even with all this “potential” it still places the share price in the “expensive” category.

Summary…. So, is now the time to buy…?

There can be a compelling short-term and long-term argument for and against buying the stock largely based on multiples and potential earnings as well as how much value you as an individual put on the word “potential”. Whilst the die-hard Tesla fans will comment on the recent pullback becoming a huge buying opportunity with such long-term potential, the long-term traditionalist’s will still highlight it is an expensive share with a P/E ratio of 95 and potential isn’t really enough to commit to. But who is right?

So, are the growth and numbers sustainable? 

Tesla have a strong argument for maintaining the growth for several reasons – Tesla sells directly to consumers, so no need to share profits with any dealers. The firm is also solely focused on electric vehicles giving an extra edge in the space over the more established automakers. It’s gaining a first-mover advantage and capturing many customers while other manufacturers are still in early stages of development and are now only just ramping up production.

With the average price of gasoline across the globe hitting record highs, more consumers are seriously considering making the switch to EVs for their next vehicle purchase.

If Tesla can keep up with the demand, it should be able to capture customers before the more established fossil fuel automotive firms, also helping to give Tesla a big advantage. However, to counter this argument the costs of raw materials used in the battery manufacturing are hitting record highs, causing the production costs of Tesla’s vehicles to rise.

Forget the business and the fundamentals for a moment; one of the big concerns for potential investors is the impact Elon can have with non-business-related announcements. Since Elon Muskdisclosed his stake in Twitter, Tesla’s stock has been on a volatile downward slide falling over 40%, despite the company recently reporting a great set of first quarter 2022 figures and setting ambitious long-term goals.

But the long-standing question that has hounded Tesla for years is still being asked:

Is the valuation for Tesla too expensive for what the company does?

Tesla is now nearing luxury vehicle margins. Because of this some in the industry state it should be valued closer to Ferrari at 35x earnings rather than the likes of General Motors$General Motors(GM)$ at 6x or Toyota$Toyota(TM)$ at 8.6x. While Tesla is still valued at 90x earnings after the recent drops, the pullbacks still make it hard to fit compared to the valuations of luxury motors. Granted it could reach that threshold if it maintains its growth and that’s a big IF.

EV’s are gaining market share, and for now Tesla is leading the way. If you’re buying Tesla stock with a long-term mindset then the short-term volatility caused by Musk and his shenanigans rather than anything business related shouldn’t be too much of a concern and could in fact offer you the entry you want.

However, the entire sector as well as the tech market stocks in general are all undergoing a correction, and this could continue for some time. For me it’s still a struggle to stomach the valuation, the impact Musk’s tweets can have on prices and the long-term prospects once everyone else has caught up.

However, it’s an exciting stock and whilst prices jump around considerably, if you are looking to get involved then I would use the big pullback seen recently to have a bit of exposure in my portfolio. This would be done accepting the volatility in the prices. I would also look to stage entry in an effort to attain a better overall average entry price, but make no mistake I would also place the shares squarely in the high-risk high-reward section of your portfolio, much like an AIM stock.