Tesla security analysis - Q3 2018


(Vladislav Kozub) #1

Disclaimer: please do not base your investment decisions on any other people’s opinions in the world except for yourself.

Happy Friday!

We have not had any interesting earnings reports recently, but this one has shaken the market. I have kind of spoilered everything in the title (as usual) but there we go, drum roll… Tesla Inc.

This one will be relatively short because Tesla is one of those odd cases that shall not be looked at from normal company’s perspective. No ratios, no adequate product-risk analysis, limited cash flow analysis (which gives you a minimal understanding of how Tesla is doing) - not much can be applied to this stock. Hence I will look at some competitors’ comparison, Tesla’s notorious cash flow history and a little bit on its finances. You could always see other similar posts for Netflix, Facebook and Microsoft, but they are significantly longer though, so be prepared.


On the 24th of October, Tesla released its latest earnings report. The company has earned $312m for the quarter. The media died down, shares are up 20% in a week (poor those who shorted the stock…), and now we can have a look at their financial statements in greater detail.

Revenue

Tesla increased its total revenue by 129% in comparison to the Q3 2017: from $3bn to $6.8bn dollars. 129%. It is a lot. Thanks to Tesla Model 3, the company has become the №1 leader in car sales in the United States in monetary terms. In previous quarters, however, the revenue grew by 20 to 50 per cent, which is both unusual and very positive. This is purely because even smaller companies with revenues of under $20bn or less (which Tesla is yet one of) do not tend to grow rapidly… Doubling? No chance. When it comes to those giants with revenues of over $20bn, they can barely hit positive single digits, let alone double digits. Therefore, even by looking at the companies of comparable revenue, Tesla is growing way faster than the rest.

The following table compares Tesla against most other car manufacturers. Non-US companies’ revenues were translated to USD for convenience purposes:

Revenue under $20bn Q3 2017 ($bn) Q3 2018 ($bn) Growth
Tesla 3,0 6,8 129%
Volvo Group 7,0 8,5 21%
Navistar 2,2 2,6 18%
PACCAR 5,1 5,4 7%
Revenue over $20bn Q3 2017 ($bn) Q3 2018 ($bn) Growth
FCA Group 31,9 33,8 6%
Toyota 62,9 65,7 4%
Hyundai 21,2 22,1 4%
Ford 36,5 37,6 4%
Volkswagen Group 62,5 64,3 3%
General Motors 37,0 36,8 −1%
BMW 29,5 29,1 −1%
Nissan 24,7 24,3 −2%
Daimler 47,8 46,6 −3%

Prime Cost

This quarter, Tesla has reduced the cost of production of its electric vehicles by optimising and rationalising the production. This was reflected in the reported gross margin - the company’s profitability rate based on revenue less the cost of production of electric cars. The formula: gross profit / revenue (in percentage terms). A greater value means that more money remains to cover the overheads. In the 3rd quarter of 2017, Tesla’s gross margin from the sale of electric vehicles was 15%. Now it is 25%.

Gross margin of automotive companies for the most recent reporting quarter:

Company Gross Margin
Tesla 25%
Volvo Group 24%
Daimler 21%
Volkswagen Group 20%
Navistar 18%
Toyota 18%
BMW 18%
Nissan 16%
Hyundai 16%
PACCAR 14%
FCA Group 14%
General Motors 10%
Ford 8%

Plans to expand the production lines to China and Europe

Tesla plans to launch a plant in China. Due to a very recent trade war between we-all-know-whom, electric vehicles imported to China are taxed at 25% - Tesla had to raise prices for Chinese consumers by 20%. The company will now produce and sell the cars within the Chinese mainland to avoid paying the additional duty, as well as save on shipping from the United States. Tesla also wants to build a plant in Europe to reduce the cost of shipping there too.

Debts and working capital

Bank loans have increased by 2% over the year to $11.8bn. Own cash-in-bank is only $2.9bn. During one of the recent press conferences, Elon Musk gave a pre-warning: Tesla will repay a big chunk of its debts in Q1 of 2019, hence it may be even shorter on cash. How much will be repaid? Nobody knows.

In any case, significant debts = significant interest costs = slower R&D = slower growth = unhappy investors = share price going down. A potential solution could be repaying the debts and issuing more shares to cover the R&D deficit. But again, there is no clarity on this either and no public knowledge about what they are planning to do.

Another problem with Tesla is its negative working capital of $1.9bn. Negative working capital means the company does not have enough current assets (cash) to cover current liabilities (short-term loans and purchasing credits). This is not good. However, the current state has improved and is now better than in Q2 2018. The working capital back then was negative $2.4bn, which is an effective 12.5% reduction. This is good better. If Tesla will continue to be profitable, it should not be a problem in the long term.

Free cash flow

You may have read in the media that the company has a positive free cash flow and that “Tesla no longer burns money”, have you not? Free cash flow represents the cash a company generates after cash outflows to support operations and maintain its capital assets. Unlike earnings or net income, free cash flow is a measure of profitability that excludes the non-cash expenses of the income statement and includes spending on equipment and assets as well as changes in working capital. It shows how much free money is left with the company for repaying debts and possible dividends (haha, just kidding!). Tesla’s free cash flow for Q3 2018 amounted to $881m.

In the previous seven quarters, however, its value was negative: the company took out loans and kept issuing additional shares to support the launch of the Model 3. In 2020, Tesla plans to launch a new model again - the Model Y. New investments for production will be required again. It will be interesting how Tesla will tackle this - using cash generated from Model 3 sales or going back to being heavily indebted. Therefore, it is yet unclear whether Tesla will consistently achieve a reasonable (or any) free cash flow next year.

download

Conclusion

Tesla is a very extraordinary business. It is one of those cases where you either have faith in it or you do not. Some investors have all their money in it and some will not touch it in their lifetime. The technical analysis simply cannot justify the reasons to buy Tesla in its current state due to the enormous risks involved. However, it is certainly interesting to follow Tesla, especially since it finally showed a profit and beaten all of its US competitors in sales. The company is still effectively a risky startup, all of the money it spends goes towards growth and expansion, which is why it is reasonable not to expect consistent profits nor dividends.

But in hindsight, it has been a public company for eight years now, investors want to see the profits. Another key issue is its debts, which can lead to stagnant development if cash will be mostly used to cover the interest payments (let alone the principal). Needless to say that its competitors are not non-existent anymore and they have a far more significant advantage with consistent cash flow to fund R&D and potentially (although not yet likely) out-innovate Tesla. The company’s management is great, no matter what the media says, but it is not yet clear how they will solve Tesla’s numerous problems in the future. I personally will be waiting for the future earnings reports.

Whether you decide to invest or not, remember that you are liable for your own losses.


(Viktor) #2

I’m personally one of those people who “have faith in it”.

When Elon Musk said something along the lines that we are effectively subsidising fossil fuel companies by externalising the cost of their damage to society, I thought that was a profound way to think about why I should invest into renewables. And I’m prepared for a long road ahead.


(Alex Sherwood) #3

I enjoyed Musk’s interview with Kara Swisher at the weekend, he didn’t sound 100% convincing when he said that Tesla wouldn’t have to raise more money, now that it’s profitable :sweat_smile:


(Vladislav Kozub) #4

Their Q4 report is something I am very eager to see. If it proves to be consistently positive for two consecutive quarters, then Tesla could have a chance of not having to raise more capital and its image will improve significantly (and the share price potentially -> harder to get in :frowning:).

But they need at least extra 50 to 100 per cent growth and at least double FCF :sweat_smile:


(Chris) #5

Is that your subtle way of telling Freetrade to hurry up wth the US stuff?


(Vladislav Kozub) #6

I am quite impatient indeed :wink: