August 03, 2019 - 10:09pm EST by
2019 2020
Price: 234.34 EPS 0 0
Shares Out. (in M): 179,127 P/E 0 0
Market Cap (in $M): 41,977 P/FCF 0 0
Net Debt (in $M): 9,370 EBIT 0 0
TEV (in $M): 51,347 TEV/EBIT 0 0

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Tesla has been written up on VIC  only 6 months ago. And three times before that. Why again? Well, so far I only wrote about non-US companies and didn't receive many votes and comments from members. Just yawn!  If history is any guide this one is going to top all my previous writeups in number of comments and votes combined. People seem to be  very passionate about Tesla.  Of all the ideas written on VIC since the beginning of the website, there are three Tesla ideas among the top 7 most active ones. I've read every single comment and boy, people can   really get emotional about the stocks! It is one of the most followed companies out there. A day doesn't pass by without news or comments about the company. Everyone has an opinion on it so it is hard to bring anything new to the table. I'll try to focus on the most important aspects and add some new points.

Tesla is not loved on VIC. I do get that part that Buffett  disciples don't like a  company that is burning cash and  operates in a tough industry. But I don't get this short-term, quarter-to-quarter focus like quarterly data  could tell much about the long-term prospects of the company. You wouldn’t value Coca Cola or See's Candy on this basis but on the strength of the brand and company’s long-term earnings power. Tesla has a tremendous brand. In auto industry only Ferrari comes close to it (although as a niche player).

I wasn’t always a Tesla bull. Initially, I though auto business was way to hard and no one, not  even a smart guy like Musk, could develop  mass production in a short period of time. Such a time-consuming and capital intensive business, I though, would not justify  the high stock price since its IPO. Also, in the last 30 years auto business was  a rather bad one. Even the best of OEMs during that time like Toyota, weren't able to beat the market. Although its business model has been studied  in business schools all over the world.

I am going to lay down  reasons  for changing my mind.

2018 was a crucial year for Tesla, I believe. It proved me wrong and showed that Tesla is perfectly capable of mass-producing cars. This certainly was not a minor accomplishment. They've done it in such a short period of time like no auto company before.  Also, it finally came to me that the  industry  is heading for a radical change. Both in terms of hardware and software. And that would mean reshuffling the cards that will  place  the old legacy players like German and Japanese auto OEMs to  the bottom of the deck, while Chinese and Tesla on the top.


Shorts are overly focused on quarter to quarter Tesla sales. Or even worse – monthly data. That is totally irrelevant. Instead looking at quarterly data, one should look at the big picture. The big picture shows the auto industry is going through the largest transition in its 130 history,  in terms of moving to EV  and adopting autonomous driving. And when dust finally settles we will have a much different industry!

Macro  Serious progress has  been made in environmental policies to curb C02 emissions. Yet the progress was made mostly in  electricity production. In Germany, for example, roughly 35% of electricity is produced from wind, solar and biomass. In other countries, things are also moving fast. Wind and solar have become increasingly important sources of energy. With every new auction, prices become cheaper. I am pointing out these well known facts for two reasons: 1) to show how the governments around the world are determined to move to renewables  and that there is no turning back at this point  2) but also to underline how EVs have been lagging behind. Globally EVs represent a bit more than 2% of auto market. Far lower percentage than renewables in electricity production. A serious environmental policy that is not tackling the greenhouse emission coming from transport is not possible since it represents roughly 25% of the global C02 emission.  The goals that were set in Kyoto and Paris can't  be met without dealing with gasoline and diesel engines. But EVs  are now finally catching up at the fast pace. So I am pretty certain that we are going to see dramatic change in the next decade. It is hard to talk precisely about percentages in  such fast growing market because a year or two can make a huge difference. I think most people underestimate how fast this industry is going to grow and that in 2030 EVs will take a half of the global auto market.

 Norway has set a goal to forbid buying ICE vehicles after 2025. Denmark, Sweden and Netherlands from 2030. UK and France from 2040. Chinese government is pushing for 7 million EV target for 2025. Green parties are getting stronger by  every day. They were the biggest winners of the last EU elections. Much stricter environment laws and C02 targets will be introduced across Europe and worldwide. US lags behind but similar laws will probably be followed in coastal, ZEV states. Germany, that has  one of the strongest green movements in the world, is going to put even more pressure on the domestic auto industry and the government to move toward EV. From the next year, EU will introduce strict C02 emission targets that will lead to more EV production ( and  since the industry is not ready for this, that will earn Tesla easy money in the short to medium term by selling regulatory credits to other auto OEMs).

Industry struggles to meet strict emission targets with potential penalties of €30bn


Norway is leading the way with EVs holding 50% market share in new auto sales. Others will follow. Due to high taxes and tolls on fuel and ICE vehicles it is  really economically prudent to own a EV in Norway. US  is on the opposite end of the curve and other industrial nations  are somewhere in between( actually more close to Norway than US). I mention this because it shows that most of demand  for Tesla cars currently exists overseas. International market is larger and lean more toward EVs than the American. Surveys show that while in US  between 10 and 30 percent of consumers are considering an EV as their next purchase, in Europe the share is  much higher, between 40 to 60 percent and in China, it is  over 70 percent.

Government policies  are followed by strategic shift  of the largest  auto manufactures. They are planning to invest $300 billion in EVs in the next five to 10 years. The largest part of that will come  from Volkswagen which is in serious trouble ( and much better short in my opinion)  and as the largest auto company in the world has to defend its market position. The inflection point has been reached, EV is the future, there is no doubt about it anymore.

Brand  As  the  EV market leader, Tesla is best positioned to gain from such macro trends. It has the strongest brand, the longest range, the cheapest batteries with highest density, cutting edge tech, a lot of  cool gadgets and the largest charging infrastructure in the world for its fleet. Tesla is nearly a synonym for EV.

Tesla's brand is one of the most globally recognized brands, not just in the auto industry. In my opinion far stronger  than various brand rankings give it credit for.  It's the auto company every child has heard of. To consumers it means innovation, high-tech, green energy, safety, speed and luxury. It's the coolest car brand there is. People love it. According to Consumers Reports, consumers have been more satisfied with Tesla than with any other car brand for the third year in a row, and Model 3 was voted the most satisfying car by the owners. 

As Ferrari is not just  the car but also a statement about the owner (rich, likes to live dangerously) so is the Tesla car. Tesla owner cares about environment or would  like you to believe so, and he has a soft spot for tech gadgets and innovation. Very similar to the Apple demographic. Even cult-like. A large chunk of Tesla's brand depends on Elon Musk's charisma. If he would quit, stock and sales would fall of the cliff. Musk means to Tesla far more than Jobs ever did to Apple.

Tesla is also a company that is the most successful at removing what consumers think are the  most important obstacles of owning an EV: range, charging time and lack of charging points. It has 13 thousand supercharger stations across the world and  according to Morgan Stanley, Tesla accounts for 30 to 40 percent of all chargers in US. No competitor comes close to Tesla in that respect or  on range or miles per charge.

 The quality of the product is undisputed among consumers and experts. Model S has been named the best car in the 70 years of Motor trend. Motor 3 was named the safest car ever. Tesla has the best engineering team in the industry. Various auto industry experts declared that Tesla has a huge lead over the competition. A German expert Ferdinand Dudenhofer thinks the technical lead is at least four to five years with range and driving pleasure unmatched. Sandy Munro, another auto veteran, after a teardown of the Model 3, has called  car's electronics  "a symphony of engineering", "military grade", that motor despite being  "smaller and lighter.....outperforms everybody" and that "nobody has electronics like Tesla". A UBS teardown team declared that "the technology in the battery pack appears to be ahead of all current production EVs and the BMS operates within tolerances not seen in others". Just comparing what other companies are bringing to the market clearly shows that they can't even match Tesla products from 2012 in many aspect. The only car that comes close – Porsche Taycan still isn't on the market and its specs are something Tesla offered to its customers 3 years ago.


The battery technology Tesla developed with its partner Panasonic is the most advanced in the market and about 20% cheaper than the next best competitor according to the UBS. It is the result of scale and better battery design on a cell level but  also on module and pack levels which is a Tesla's domain. Munro called Tesla's battery pack far above Bolt or BMW i3.


Models  The only demand issues that I can see are related to Model S and Model X and they are somewhat temporary. Model S cars produced in 2019 are much better than early types made in 2012, yet that news didn't come to  to the consumers who are used to model refreshes every few years. Demand  has picked up in q2 and will probably be  around 20 000 units per quarter from now on.

The next five years belong to Model 3 and Model Y. Model Y, a crossover/SUV has been presented to the public in May this year. Some critics commented  its looks as being too much like the larger Model 3 or smaller Model X, with no new design (and not being a real SUV). That's true but something has to give. The whole idea of Model Y is that it should be affordable crossover/SUV. It will be hugely popular because it's the best value for money in this large category.  You get the usual from Tesla:   safety, speed, space, high-tech but affordable for the segment. It has 66 cubic feet of cargo space.  Comparing it to Audi e-tron emphasizes how far ahead Model Y is to its EV competitors: it has much larger range, acceleration and  cargo space and yet, it is significantly cheaper.

Due to the fact that EV market is rising exponentially, I would argue that in the case of global or US recession Tesla as a pure EV company is much better protected than its competitors. EV  demand certainly is not going to fall like  the broad auto market, if it is going to fall at all.


Safety concerns with Tesla cars have been raised after Musk's statement that they are far safer than the average fleet. The article  written by the HF guy called Midwestern Hedgie (who is short Tesla)  made the most splash.

Tesla’s Driver Fatality Rate is more than Triple that of Luxury Cars

 In it, the author uses controversial methodology but let's put that aside. His analysis shows that Tesla drivers are three times more likely to experience a fatal accident  ( 41 deaths per  million vehicle years vs. 13 death for other luxury cars)  than the drivers of other luxury vehicles. It was written a year ago and  the author used data up to 4Q of 2016. But if we take a look at the same data after that period, using the same methodology he uses( from his website Tesla Deaths https://docs.google.com/spreadsheets  ) we get a starkly different picture. Post 2016 Tesla fatal rate fell  to 17. With only two Model 3 Tesla driver deaths. Which kinda confirms NHTSA Model 3 great safety ratings.

Gross margins

 Tesla's gross margins are closely followed by investors and the media. Lately, they have become a great cause of concern. The company is targeting 25% automotive margins so  every quarterly drop causes quite a stir and sell off. The shorts believe that wider adoptions of Model 3 and  the cheapest Model 3 SR in particular, should be accompanied by the fall in gross margins.

 What this  argument doesn't take into account are several  reasons that will eventually push the margin upward. In the long run, positive effect on the margins  will be a combination of much lower D&A costs, labour and material( specially battery) costs, better WC management,  higher software share....In the short to medium term margins will be improved by rising regulatory credits coming from EU and ZEV states.

 First od all, Tesla is new at mass production of cars and they still have to  learn all production tricks a century old auto company knows and uses for decades. And since Tesla makes most of it in-house, from battery modules( soon even battery cells) and powertrain to deliveries and charging, the potential for economic efficiencies across the value chain is even greater. Likewise, the price of batteries will continue to fall. Just as reminder: from 2010 to 2018 prices fell 85%. For every doubling of cumulative volume, the price fell 18% ( very similar to what they call a Swanson law in the solar energy). If we take last year UBS' cell cost estimate of $111 per kwh and add $29 for pack cost, the battery of a standard Model 3 costs $7000. According to BNEF's estimate the average battery price will  fall to $62 by 2030.  That would lower the the price of Model 3 SR battery by $4000. More if you believe that demand is going to be higher and that Tesla will lead (on the last earnings call, Musk has been talking about Twhs per year).

Another reason for margin expansion lies in capex /depreciation. As production scales, there will be less depreciation per vehicle. In 2017 depreciation per car sold was  around $7500. In 2018 depreciation fell to $4500. In the first six months of this year to $4k. Now, a small part of that is related to energy business but it doesn't change the story much. There are $2000 to $3000 in depreciation  savings per car just to reach  depreciation levels of other auto companies. Scaling production never  goes  easy or fast and in  Tesla's case it was  followed by plenty of rookie mistakes that caused bottlenecks while trying to operate a complex system of mass production for the first time. Also, Tesla certainly won't repeat earlier mistake with excessive automation. The company expects that Chinese factory will cost 50% to 60% less than its factory in Nevada. Musk estimated $2bn for capacity of 250 thousand Model 3s. Including batteries.  The plan is to bring capacity to 500k ( the other half will be Model Y) so $4 bn for the whole thing. The speed of building Shanghai plant and related costs in H1 of this year prove him right.  We should expect lower capital cost per unit of capacity in all future projects.  Or to look at this from another angle: Tesla's revenue/PP&E of less than two is the lowest in the industry but is growing fast ( 70% increase in 2018) and over the years should come in line with the rest of the industry. Maybe even surpass it. Anyhow, $2k to $3k alone per car dramatically improves the margins. Apart from depreciation and battery costs there are other  fixed costs per car that will go down with scaling. Lowering of fixed costs have much larger positive effect on cheaper models of cars so it is silly to look at current margins not taking into account that fact.


Above: relative capex per unit of capacity

With Chinese and later European Gigafactory, working capital efficiencies will improve. No more 15 days shipping time and high transit costs. More importantly, the combination of a strong brand and lower labour costs will make Chinese business the most profitable one. By producing cars in China Tesla will bypass huge tariffs on imported cars.

Furthermore, in the fall of 2020 Tesla will start producing the Model Y.  The model Y is going to be more profitable  model as it is pricier then Model 3 while their manufacturing costs are roughly the same due to high component overlap. Tesla expects Model Y to be its best selling model given the size of the segment, approximately 1,25 million units annually vs 750k for the Model 3.

Even though Tesla mission is to accelerate the world's transition to sustainable energy by building affordable cars, it didn't give up on building expensive supercars. The new version of Tesla Roadster will cost $200k ( early version $250k) and it is going to cause  havoc in that niche market. Its range and performance are out of this world and no supercar can match it in terms of performance, speed and safety. Acceleration to 60 mph will be in 2.1 seconds ( less than 2 seconds by adding SpaceX rocket thruster option) and range of 620 miles is something Ferrari, Bugati and Aston Martin can't compete with.  Assuming 7 000-10 000 Roadsters per year at average price of $200k and 50% gross margin Roadster is going to increase overall automotive gross margins by 70 to 100 bps.

Given the strength of Tesla brand and performance of Tesla Roadster I believe that just that line of the business ( supercar, luxury) could be worth 20-30 billion dollars.

Finally, the largest margin booster will come from the software side of the business. Currently, FSD is accounted as deferred revenue so it doesn't have an impact on  auto margins but soon it will. It is a better and pricier version of Autopilot and currently costs $7000k but according to Musk's comments the price will increase in time.FSD as well as it's less expensive Autopilot predecessor are  changing the economics of auto business. It becomes much more attractive. FSD alone could have 65%-70% margins so Musk's long term guidance of  30% gross margin on its overall auto business is actually very likely. Probably it will take a while to make this technology near perfect but until that day   Tesla is going to sell upgraded versions for higher prices.

If  we sum up all saving costs, from battery, capex /depreciation, labour costs, other manufacturing costs, working capital costs there will be more than enough to lower the prices of vehicles and have  high margins at the same time. Add more expensive models and FSD and margins will get even higher.

And yes, in the meantime, easy money from regulatory credits will keep coming since conventional OEMs won't be able to produce EVs at a scale.   

Besides, it is not just the  gross margins where Tesla has advantage over competitors. Tesla's advertising department consists of a guy writing tweets in the middle of the night which costs the company multi-million fines now and then, but  it is  peanuts compared to advertising spending of other auto companies. Their ad spending is around 3% od sales! That makes  a huge difference.


Now, the question is when autonomous driving is going to be 99.999% reliable so that Musk's plan about entering taxi/ridesharing business will come to fruit. I don't have any special knowledge on this but among experts there is little doubt that FSD and robotaxis are  coming.

Also i think it's safe to say that it won't come from Volkswagen, Daimler, BMW, Toyota or Ford. The safest bet is it will come from the Northern California. The pool of engineering talent in the field of Deep Learning that companies which  are operating in Silicon Valley have at their disposal is the largest in the world.  Even more important is the Silicon Valley's culture focused on innovation. The question that I think still remains is Waymo or Tesla ( I would put GM Cruise on the third spot)? My guess is they will both own the market with Tesla FSD operating as a closed system like Apple IoS and Waymo is going to be used by other brands when they realize that they are far behind in this game and abandon their own systems. Tesla is going to be the first with the product since it is the most aggressive and decided to go with  a more affordable solution which doesn't rely on a expensive Lidar.

I won't include Robotaxis  in my valuation because there is a lot of unknown here but whenever Robotaxis come, it will be a great, high margin business and worth tens of billions at least.




Ultimately, this comes down to the fact do you believe Musk is a genius or a fraud. On VIC there has been a lot of people who would put Musk in  the latter  category, with the likes of Elizabeth Holmes and Kenneth Lay. Maybe he doesn't do everything by the book, he can appear arrogant, cocky, has a tendency to over promise and doesn't deliver on time, he disregards regulators and tweets crazy stuff but putting a guy that created Paypal, now a $100bn company, even though at the time he didn't know anything about banks and financial markets, in the same category as Holmes who didn't make anything is a bit much. Musk is a dreamer and he dreams big but unlike most dreamers he eventually delivers. In 2001 Musk was a laughing stock of Russian officials when he came to Moscow to buy a rocket. 18 years later SpaceX  controls 65% of commercial launch market share and Russians are left with a fraction of what they used to have. How many thought  it was possible 5 years ago? I certainly didn't! After 70 years of space travel and 45 years of space race between two superpowers  and many hundred billions of dollars spend,  it took Musk to finally develop a reusable rocket. Why would anyone bet against this guy? 

 For me there is no doubt that this guy is one of the greatest entrepreneurs world has ever seen and that he belongs at least in the same category as Steve Jobs and Jeff Bezos. In terms of social impact he has certainly achieved more than those two and in a decade or two he might produce significant value for his shareholders as Jobs and Bezos did despite operating in a much tougher industries. Musk  has clearly shown not just that he has  technical smarts but also the brilliant sense for monetization of his ideas. He is a true visionary that can see alleys of growth much sooner than anybody else. There are a few of those in Silicon Valley,  but none in the auto industry. A long time ago there were visionaries in the auto industry  as well, but now Musk is just competing with  descendants of great founders, innovators and visionaries who are not his match. What do they have against him? The auto industry was changing at a slow pace until he came aboard. They don't have the energy, stamina,smarts, resilience, vision or speed of an average Silicon Valley founder, not to mention the best. Its not a fair contest!


Old auto vs new auto vs old new auto

As mentioned earlier, I believe that the case can be made that  Tesla doesn't share the same risks as ICE OEMs due to the fact that it operates in a fast growing EV market. As a result, in  the next recession ,whenever it comes,  Tesla won't be hit as much as ICE auto manufactures. A good example is the Chinese auto market. It has fallen by 12.4 percent this year yet EV sales increased by 72% in the same period. The same divergence has been seen in Europe in the first half of the year. The economics of auto industry, especially its cyclicality,  won't fully apply to EVs for many, many years, even decades.

 Tesla's $5 billion cash cushion  is big enough to withstand market turmoil. It represents 20 % of Tesla's revenue, higher percentage than BMW's, Daimler's, Ford's or GM's.

The biggest risk in my opinion is not the bankruptcy but the possibility that instead of  becoming a real technology company  Tesla would just become plain old auto company. Meaning less innovations, less software and high tech, just steal and aluminum. It wouldn't wipe you out but wouldn't guarantee nice returns over time either. It wouldn't justify high multiples. With Musk in charge that possibility is rather low. Innovation and creativity are parts of Tesla's culture.

In fact, I believe the auto industry as a whole is going to become a lot better business due to transition to electric and autonomous. Auto industry was not always a commodity business. Once it was  quite profitable with returns on capital of 50%. It was the time when the industry was innovative, fast growing, vertically integrated and  in the hands of only a couple of producers (at least on a national level). EV business has many characteristics of this old auto dynamics. In addition, software is becoming more important part of the product. Consumers will be willing to pay this extra cost due to convenience that the autonomous driving will bring with it.


How to think about valuation? For a fast growing company like Tesla 10 year horizon would be the most appropriate, at minimum 5 year horizon. Also, auto industry multiples should not be applied since the EV market is in the early phase of  secular growth without  cyclical swings in demand that are typical for the auto industry.   I think that in 5 years ( probably earlier, in 2022 or 2023 ) Tesla  is going to deliver 2+ million cars globally.  The average selling price in the high 40s, ( due to more expensive Model Y and semi trucks ) with gross margins much higher than today, 27% ( depreciation will be much lower, battery costs probably 20-30%) and lower than average operating expenses( remember, no advertising!). Margins should be higher despite the fact that in the meantime Tesla plans to build Gigafactories in China and Europe   plus additional investments in Fremont for Model Y. So revenue close to $100bn and  EBITDA around $12 billion. Using 11 to 13  x EBITDA values the company at $132-$156 bn.

In 2030 in terms of units sold probably three times its 2023 deliveries. So, 5 to 6 million vehicles sold. During the period  overall costs should fall significantly and despite lower ASP,  margins will grow to 29%-30%. Revenue around $260 bn and $37bn in EBITDA.

On top of that you can count Robotaxis  and who knows what since Musk is constantly finding new opportunities. 


I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.


Gigafactory 3 production, Battery day, better margins, revenue growth,FSD announcements, new models,.....

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