Vadim Merkulov
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Tesla's Great Future Is Collapsing

Summary

  • By 2022 electric vehicles will cost the same as their as their internal combustion counterparts.
  • Tesla is looking to attract about 15 billion dollars of both equity and debt through 2020.
  • Possible recession in 2018 might be point of “no-return” for Tesla stock price.

Tesla (NASDAQ:TSLA) is great company with a lot of achievements, however, Tesla uses non-GAAP too often and this should be very alarming for an investor.

In order to explain Tesla's success, we need to look into Elon Musk. The image of Elon Musk is a visionary leader with a boosted public approval to the roof. The most famous companies he created are PayPal (NASDAQ:PYPL), SpaceX and SolarCity (NASDAQ:SCTY), and he did not create just companies - he created companies with extraordinary potential. Therefore, his vision for Tesla has the same extraordinary direction - transfer people from using natural gas vehicles to use electric ones. This has a great influence over Tesla's stock prices which is in my opinion slightly overvalued.

Brief E-vehicle Market Outlook

This cost is so far the biggest issue for Tesla. I know it looks pessimistic but it is not a conservative projection on the market of the electric vehicles. The table above shows us that by 2040 Electric vehicles will account for 35% of all new vehicle sales. I believe that the first million electric cars would be sold by 2026. Moreover, with current oil prices the growth of e-vehicles could stagnate longer than that. Tesla, on the other hand, is depending on the economy of scale and potential earnings are limited by the current size of the market which won't growth fast. Oil prices are going to move up slightly till the end of the year, however, don't expect too much. By the end of Q4, 2016 it may range between $40-$50. Cheap gas another small problem for Tesla as people would prefer to buy gas cars rather than electric vehicle.

The most important part of the electric vehicle is the battery and since 2010 the cost of production for lithium-ion battery packs per kilowatt hour decreased from $1000 to about $370.

However, I doubt that we can expect a significant change in efficiency of the battery because each time it is going to be harder and Tesla’s R&D has not increased significantly. The graph above provides that the best cost-efficiency is going to be around $200 by 2020. My estimation for the battery price based on the graph above is $20,000 for the first Model 3 design. The cost of Model 3 is $35,000 in total, so the battery is the most expensive part of the car and it leaves Model 3 with $15,000 for the rest of the car which is unbelievable.

Seeking for cash

Tesla is burning cash right now and it was doing it very well for several years. I think it is kind of pointless to show any financial ratio such as ROA, ROE and etc. because the net income is negative.

  • Operating cost

On the graph we can see the result of operating cost which is negative. However, those two lines are not identical meaning that some costs are rising faster than they are supposed to. R&D growth for this period is 124% which makes sense as Tesla should be as innovative as possible. SG&A grow for the same period is 170% with a 140% grow in stock-based compensation and, from my perspective, it is not appropriate to constantly increase compensation for top management with negative financial results.

  • Model 3

After you have a brief market review on what is really going on in the market let's take a look on a new Tesla Model 3. Indeed, it is the biggest event for the past 6 months as Tesla got almost 375,000 pre-orders so far. Meaning that they get a 400,000,000 cash flow, however, keep in mind that it is refundable cash and about 8,000 orders are already canceled. To complete all of those vehicles they need billions and billions of dollars. Just simple math - 325,000 multiply by $35,000 equals to $13 billion of potential revenue... Or about 12 billion dollars of costs.

  • Gigafactory

Gigafactory is essential to Tesla's economy of scale and Tesla postponed the completion of its Gigafactory to 2020. Capex for Gigafactory is about $1.5 billion for 2015 and 4 to 5 billion dollars through 2020 for Gigafactory alone. Tesla is expected to pay 2 billion for the cost of the Gigafactory and they spent 75% of its estimation and they require completed only 20% of it. Obviously, there is not enough cash on hand and they so much more to finish this project which is core element of Tesla’s future

Thus, company requires much more cash. By my estimations they are seeking to attract about 15 billion dollars by 2020 from now. With the SolarCity acquisition Tesla will have even more problem with debt. Elon Musk's assumption that SolarCity is a trillion dollar company and that Tesla is future. As a major e-car manufacturer is great but is it accurate? Those estimations are for a very long term but there are too many short term issues that needed to be addressed.

Possible scenario for the next 3 years

(Source: Bloomberg Terminal)

The graph above is representation of 1-year default probability which is 0.3048 and share price which is $240.76. The inverse correlation between these two values is obvious and a macroeconomic shakedown happens it will lead to a catastrophe. Moreover, based on my model, I believe that by 2018 Tesla will have 6 billion dollars of negative net cash with a billion dollar loss.

If we take a look on the history of business cycles we can assume that recessions happen in the range of 8 to 15 years. The last cycle happened 7 or 8 years ago, so now we are in range of a possible recession.Bloomberg surveyleaves us with 2018 as a year of next recession in the U.S.

Anyway what does that mean for Tesla's shareholder? It means that if it does happen, Tesla in one instant will run out of money and stock prices will go down by at least 48%. Moreover, Tesla's financials do not help either - burning all of its cash with no profit whatsoever and further details with a projection and stock price can be viewed in the model. Keep in mind that Model 3 pre-orders would be canceled immediately, as people would demand their money back. Therefore, Tesla loses not just sales and revenue but also almost a half billion dollars to its ex-customers. It might be just enough to expect significant drop in Tesla’s stock price.

Recommendation

Maturity -1%
Discount 9%
NPV 11,713,063
Share 87.45
Difference -61%

The financial model suggests that TSLA stock is a solid short stock with a range price around $87.45 which is 61% lower than a current price. For the next couple years it is very hard to predict exact month or year for this stock to fall because of the great public support and some of financial misleading metrics and accounting techniques but it is in the range of one to three years.