Tesla Unprofitable Till 2020: Time to Sell?

by Ryan Fitzwater, Director of Research, The Oxford Club

Tesla Motors’ (Nasdaq: TSLA) prolific CEO, Elon Musk, stole headlines last week when he stated the ritzy electric vehicle (EV) company wouldn’t be profitable until 2020.

Musk made this sobering comment at the Automotive News World Congress, which coincides with the North American International Auto Show in Detroit.

This sent many investors running for the exits, and the stock finished the week down over 5%. Now many are wondering if they should jump ship as well. Let’s take a look...

Growth Over Profits

Since its founding in 2003, Tesla has yet to turn an annual profit. Musk admitted that his company would be able to do so if it “weren’t growing and investing great amounts of money.”

This has been Tesla’s modus operandi for more than a decade: Invest in growth now, bank profits later. Hence the company’s $5 billion plan to construct a battery factory in Nevada.

As you might imagine, developing EVs that go from zero to 60 in 3.1 seconds and have a range of over 300 miles per charge requires a substantial amount of power. There isn’t an existing facility capable of meeting Tesla’s battery demand, so the company must build its own.

When this factory opens in 2017, Tesla should finally be able to ramp up EV production.

Of course, even without posting a single profitable year, Tesla’s stock price tale over the last two years has been one of hypergrowth. Shares are up more than 400% since the beginning of 2013. Look the definition of a “story stock” up in the dictionary and you will see a picture of Tesla.

So far in 2015, however, it hasn’t stuck to the same growth script...

As you can see, Tesla stumbled out of the gate this year. It is currently lagging the auto industry by a wide margin, more than 14%.

Troubles in China

This is largely due to the company’s recent struggles in China.

Tesla is on record stating that China would be a major growth driver for the company. Unfortunately, demand in the People’s Republic has been weak.

Musk chalks declining sales in China up to “misperceptions” regarding charging stations. But consumers’ “misperceptions” are actually warranted.

Unlike in the U.S., where the majority of people live in single-family homes, most people in China live in apartment complexes. That means parking in public garages or on the street, which creates a big obstacle for Tesla.

Installing charging stations requires approval from building managers and city planners. And many refuse to install stations on their properties. This has left some Chinese Tesla buyers with a car they cannot charge at or even near their homes.

As a result, the country has failed to meet its lofty goal of having half a million EVs on the road by 2015. To date, the total is well under 100,000 - including buses.

More Speed Bumps?

Oil’s 50% drop in price has presented even more concerns for Tesla. Many analysts believe this will have a negative effect on EV sales as car shoppers see lower prices at the pump.

But for Tesla, gas-price concerns are largely unwarranted. Most of Tesla’s buyers are so well-off that the price of gas is of little or no concern. The Model S, for example, costs over $70,000. Factor in tax incentives, and that price tag is closer to $60,000. But even with that discount, you’re still paying far more than the going rate of most Kias and Hondas.

Musk himself noted that in order to turn a profit, Tesla will need to sell half a million cars a year. To put this goal in perspective, the 2014 sales numbers are projected to come in at around 33,000 cars when the company reports annual results in mid-February.

While that would represent a 50% increase over 2013’s numbers, it is a far cry from 500,000. Knowing that it needs to spur sales, Tesla introduced the Model 3...

Targeting the Masses

The Model 3 is Tesla’s crack at lower-budget drivers. It will cost around $35,000 (about half the price of a Model S). Unfortunately, the vehicle’s projected release date isn’t until 2017. So while the Model 3 could be just what the company needs to push itself firmly into the black, we’ll have to wait two years to find out.

In the meantime, competition is growing. Last week, General Motors (NYSE: GM) introduced its newest EV, the Chevy Bolt, at the same Detroit auto show where Musk made his now infamous remarks. The Bolt will compete directly with the Model 3, with a sticker price of around $30,000 and a 200-mile battery range. It is also set to debut in 2017.

Musk shrugged off questions about the Bolt stating, “I don’t see it as a competitive threat because I think all cars will go electric. It’s not going to affect us, really.”

A Crossroad for Investors

Many analysts argue that investors are overreacting to Musk’s comments from last week. According to them, the drop in price has created a great buying opportunity for one of the top growth stocks of the last few years.

But as we just discussed, there are short-term problems in store for Tesla: low Chinese sales, hefty investment costs and growing competition. Musk himself has confirmed many of these problems.

In a recent CNBC interview, he even said, “I do think people sometimes get carried away with our stock. I think our stock price is kind of high right now, to be totally honest. Or rather, let me put it to you this way. If you care about the long term of Tesla, I think the stock is a good price. If you're looking at the short term, it's less clear."

The fact that the company probably won’t be profitable for five more years is something investors have to grapple with. The long-term investor can speculate that in five years Tesla will be worth the investment today, but shorter-term investors have to be wary.

For now, why don’t we see how Tesla performs on our Investment U Fundamental Factor Test?

  Earnings-per-Share (EPS) Growth: We already know that Tesla has negative earnings. It’s had only one quarter of positive earnings over the last five years. And positive net income on an annual basis is probably another five years down the road.

  Price-to-Earnings (P/E): Since Tesla has negative earnings, we cannot calculate P/E. But we can look at its price to sales (P/S). Just like P/E compares price to earnings, P/S helps us evaluate the price of a stock compared to the sales. In general, a lower P/S compared to its peer group means we can get a better deal on a stock. Tesla’s P/S is 8.38, while the industry is averaging 1.10. Tesla is almost eight times more expensive than its peers on a sales basis. Big whiff on value here.

  Debt-to-Equity : It is not surprising to see Tesla with a debt-to-equity over 235%. We already know that Tesla has been focused on growth over profits since its founding. But the industry is averaging a debt-to-equity of 127.87%. While car manufacturing is a capital-intensive sector, Tesla is clearly overleveraged.

  Free Cash Flow per Share Growth : Tesla has negative free cash flow growth, both in the last quarter and over the last 12 months.

  Profit Margins : With no profits, Tesla’s profit margins clock in at -8.77%. The industry is averaging positive margins of 4.31%.

  Return on Equity : And Tesla closes out the last metric with another “X” mark. The company’s ROE of -24.39% is well below the industry average of 13.21%.

While Tesla could be the car manufacturer of the future, that future has yet to arrive. Longer-term investors might be willing to take a chance on the stock and hold on for another five years. But for shorter-term investors, the picture is much clearer. Tesla has major obstacles to overcome. And its fundamentals today scream “warning.” Getting a negative mark on every single metric in our Fundamental Factor Test, Tesla has earned itself a “Sell” rating.


*Why did we look at these specific metrics? Find out more here.

Fundamental Factor Test Score

F: Sell (One key metric or less)

Please note that our fundamental factor checklist is just the first step in performing your own due diligence. There are many other factors you should consider before investing. That’s why The Oxford Club offers over a dozen newsletters and trading advisories all aimed at helping investors grow and maintain their wealth. For more details, click here.

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Photo credit: www.autotalk.com

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