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Long/Short Investments in L/S Equity: Valuation and Ideas,

Electric Vehicle Makers Main Issue – The Future Probably Isn’t Electric

Tesla’s (TSLA) goal of having an electric vehicle (EV) in every garage is unlikely to happen as a basic matter of economics. In order for electric cars to get to the point where they’re economically feasible for the average consumer (and without taxpayer rebates) either the price of oil is going to have to increase by several multiples, battery costs will need to decrease (by several multiples), or some combination of the two.

Based on this graph, courtesy of the WSJ, electric cars are far outside what’s feasible.

Even if more consumers were pushed into EVs from a massive increase in the price of oil (highly unlikely), this would mean the cost of owning a car (of any sort) has heavily increased as a whole. At a certain point, if the cost of a vehicle is too high, the demand will decrease irrespective of the energy source used to power it.

Accordingly, for EVs to be “the future,” battery costs are going to have to come down substantially.

CEO Elon Musk has a goal in mind to reduce them another 60%+ to approximately $100 per kilowatt-hour by 2020. But even with that optimistic goal, the breakeven price relative to oil is nearly $100 per barrel.

With improvements in directional drilling technology that have lowered the breakeven price of oil for exploration and production companies, and global oil supplies that have remained elevated, a large increase in oil prices is unlikely.

Moreover, the internal combustion engine (ICE) increases in efficiency by 1.5%-3% per year. How much ICE vehicles actually contribute to pollution to the point where life on Earth could be facing an existential crisis is unknown and dubious. The energy source that feeds into charging EV batteries is still also largely dependent on fossil-fuel based sources. Consequently, the idea that these vehicles reduce the globe’s total carbon footprint is questionable when considering the entire battery life cycle from formation through disposal.

But going back to a pure economics standpoint, unless battery costs are markedly lowered, it’s going to take some time before EVs are on par with ICE vehicles.

On top of that, EV makers need prove they can produce these profitably without the need for public funds. The range also remains fairly limited (~250 miles) and boosting this will add cost to the battery, as will increasing how quickly it can recharge.

Tesla is also facing increased competition in the space from all the main players, including Ford (F), General Motors (GM), Fiat Chrysler (FCAU), among others, which will strain margins on an already low-margined industry.

If Tesla is to validate its status as a company worth north of $50-$60 billion, it’s likely to be through innovation in products and services that are not yet reflected in its share price.