Questions I’d be Asking If I Owned Tesla Stock

By Vitaliy Katsenelson CFA

 What happened to 345,000 reservations?

When Tesla’s Model 3 was released, it was supposed to be a $35,000 car. Four hundred thousand people, including yours truly, put down a $1,000 deposit to reserve their spots in line so they could get their hands on that marvel as soon as it became available. It was a brilliant move by Tesla, as it provided the company $400 million of interest-free financing — the biggest crowdfunding project ever.

Today, after some delays, the Model 3 is being produced. However, $35,000 seems to have been a fiction of CEO Elon Musk’s imagination. Though the car is getting great reviews from auto critics, the price for a bare-bones Model 3 starts at $49,000, and the tax incentives are fading away.

But something interesting happened recently. I received an email from Tesla that said: Model 3 is available to order, and no reservation is required in the U.S. We’re now offering all our best options — including our Long Range and Performance configurations with dual motor all-wheel drive. You can design and order yours today for delivery in approximately 2–4 months.

On the surface this sounds like great news, except that it begs a question: What happened to 345,000 orders? Let me explain. According to Bloomberg, which has been tracking Tesla’s production, to date (as of July 28, 2018) Tesla has produced 55,000 Model 3 cars. Since a $1,000 deposit was supposed to secure buyers a place in line, any car ordered today will only be delivered after orders that were placed years ago are fulfilled — after all, 400,000 people paid Tesla $1,000 to hold their places.

Thus there are only three possible explanations for the email I received. One is that Model 3 production is expected to accelerate at an exponential rate to 40,000 cars a week, starting now. However, Bloomberg estimates that Tesla’s normal production cadence of the Model 3 is closer to 2,825 cars a week, so this is a highly unlikely scenario.

Or two, maybe Tesla has been extremely liberal with its statement of a two-to-four month delivery schedule because it still has 345,000 cars to produce before it can start fulfilling new orders, and the company is using that email to raise additional funds from new customers making deposits. (The required deposit is now $2,500.)

There is a third explanation: The bulk of the original 400,000 orders were for a $35,000 car. When it came time to actually buy the car, consumers may have realized that the out-of-pocket expense was much more than expected and simply canceled their orders, draining Tesla’s balance sheet of $345 million.

How sound is Tesla’s balance sheet?

What Musk has achieved with Tesla and SpaceX is truly astounding. I have incredible respect for him, but he is also a magician playing a confidence game. If Musk can continue to convince the market that Tesla has a bright future, then the market will continue to finance Tesla’s losses, and maybe Musk will figure out how to produce the Model 3 more cheaply and then Tesla will sell hundreds of thousands of Model 3s and the future will be as bright as Musk paints it.

For that to happen, Tesla needs to maintain its high stock price, and investors have to believe that Musk is the Iron Man. Investors have to suspend belief, ignore current problems, and focus on the future. However, if the market loses confidence in Tesla and Musk, Tesla is done. This company is losing billions of dollars a year; it has an over-levered balance sheet. This is where Musk’s confidence game comes in.

If you believe in magic stop reading right now. Okay, you’ve been warned.

There is no magic. Magic is just the art of misdirection. The magician gets you to focus on the shiny object he holds in his left hand and you don’t see what he is doing with his right hand.

Musk has been showing us a lot of shiny objects. Some are real, like the success of SpaceX; some are superfluous, like sending a Tesla Roadster into space, and some are future promises on which Musk may or may not be able to deliver, like his futuristic underground railroad for cars (the hyperloop) and the Tesla truck, which is unlikely to be produced on time and at the promised price. The list is long in this category and never-ending; Musk’s futuristic thinking knows no bounds.

But importantly, these promises are the shiny objects that keep Tesla’s stock price high.

If I was a Tesla investor I’d be seriously worried about the company’s balance sheet. There are some ominous signs that Tesla’s financial situation is deteriorating rapidly. Tesla reportedly recently sent an email to its suppliers asking them to give some money back to help the company with its profitability.

Such requests are made by companies looking for Hail Mary solutions to significant financial problems. If suppliers start questioning Tesla’s financial viability, they’ll start shortening their accounts receivables periods and start requesting letters of credit. This would escalate the company’s problems. Hail Marys are acts of desperation. Putting this in the context of the likely Model 3 cancellations, — Tesla’s cash burn has likely gotten a lot worse.

 How effective is Musk at running Tesla?

Tesla is Elon Musk. He has achieved more than many of us will achieve in a thousand lifetimes. But today Musk is running half a dozen companies (Tesla, SpaceX, Solar City, Boring, OpenAI, Hyperloop). To make matters worse, he is also an incredible micromanager. I read that he interviews (or at least used to) every new employee who joins Tesla and SpaceX.

It is clear that Musk is quite exhausted, and his behavior is becoming more erratic. In a conference call snafu in April, he called the British diver who saved the Thai cave kids a “pedo” on Twitter. This sort of thing undermines Musk’s Iron Man image — if he loses that, the confidence game is lost and Tesla is done.

Another red flag went up recently: Musk started to attack short sellers. A short seller who went under the name of Montana Sceptic posted negative research on Tesla on Twitter and SeekingAlpha. Elon Musk personally called the man’s employer and threatened a lawsuit if the employer didn’t silence Montana Sceptic. Historically, companies that have gone after short sellers have had something to hide or were playing a confidence game. (The short sellers were interfering with the misdirection to shiny objects.)

Assessment

Tesla investors are still fascinated by the shiny objects, but I note that CDS insurance on Tesla’s bonds prices in a 24% risk of default by 2025. I am not long or short the stock. But if I were long Tesla’s shares I’d be asking myself these questions. After all, you’re paying $50 billion for a company that trades completely on the spoils of future dreams.

 Conclusion

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