Tesla Headed For Top Market Spot On Strong Fundamentals

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Investment Conclusion

Tesla (NASDAQ:TSLA) is the world’s largest pure-play all-electric vehicle company. Superb product, significant manufacturing capacity, and Elon Musk, are positive attributes, Tesla enjoys. That the rest of the all-electric vehicle industry (besides BYD from China), is capacity constrained, and that governments around the world are eager for their populace to switch to battery powered vehicles, are additional factors favoring the firm. Finally, given the projection that the earth’s two billion automobiles will be replaced by electric vehicles over time, the current demand/supply imbalance is likely to persist for awhile, ensuring the sustainability of Tesla’s business over decades.

In regard to growth opportunities, besides supply chain expansion and model updates related to the company’s current portfolio of cars, future growth drivers include the introduction of Tesla’s Semi, Cybertruck, and Roadster all-electric vehicles, scheduled over the next couple of years, and the launch of its robotaxi business planned for FY2024. In addition, margins are expected to expand due to economies of scale related to considerable increase in the production of cars, and lower capital expenditures, as the building of new manufacturing plants is completed, reflecting in significant boosts in earnings and free cash flows, over upcoming quarters and through the long term.

We are initiating on Tesla with a Buy Rating and a 1-year Price Target of $802/share, based on inputs to our 10-year Discounted Cash Flow model. There is upside to our Price Target, as our projections ignore growth opportunities related to the firm’s solar panels and space exploration businesses, which are expected to ramp substantially over an elongated time horizon.

Investment Thesis

Tesla was founded in 2003 in San Carlos, California by Martin Eberhand and Marc Tarpenning. Presently, it is headquartered in Austin, Texas, with factories in: Fremont, California; Sparks, Nevada; Buffalo, New York; Austin, Texas; Berlin, Germany; and Shanghai, China.

During FY2021, TSLA generated: ~$53.8 billion in revenues, reflecting a growth of 71% compared to FY2020, ~$5.52 billion in net income compared to $0.72 billion during the prior year, $4.90 in earnings per share relative to $0.64 over FY2020, and ~$11.5 billion in operating cash flows. In addition, compared to FY2020, gross margins expanded 430 bps to 25.3%, R&D expenses advanced 74% to $2.59 billion or 5% of revenues, SG&A spending declined 200 bps to $4.52 billion or 8% of revenues, and the tax rate decreased 14% to 11%. At the end of September 2022, TSLA had a cash and cash equivalents balance of ~$19.5 billion and long-term debt of ~$2.41 billion on its balance sheet.

The predominant issue surrounding Tesla is how long can the firm continue to lead the electric vehicle industry? The secondary element drawing investor attention is whether a multi-trillion dollar market capitalization is on cards for Tesla?

Tesla Likely To Maintain Industry Leadership For The Foreseeable Future

The company’s primary advantage is its manufacturing capacity which is substantially ahead of that of the competition. Specifically, Tesla’s production facilities in California, Shanghai, Berlin, and Texas underpin annual production capacities of >650,000, >750,000, >250,000, and >250,000. In comparison, the peer group’s electric vehicle plants are relatively production constrained with Ford (F) expected to be in a position to roll-out 600,000 cars through 2023 and 2,000,000 cars by YE2026, General Motors (GM) preparing battery packs sufficient to manufacture 1,000,000 automobiles through 2025, and Stellantis (STLA) updating its plants to deliver 6,000,000 vehicles through 2030.

Adjusting for production dynamics, average delivery times for Tesla cars is three months (long range cars take longer to deliver), while Ford cars are typically delivered within three to eight months. However, it is noteworthy that Ford is planning to invest $50 billion through 2026, General Motors $35 billion through 2025, and Stellantis $32.5 by 2025, in part to overcome their electric vehicle production limitations and bolster deliveries. Nevertheless, Tesla is likely to shift strategy to counter potential market share erosion, and considering that the actual competition is combustible engine car companies, the competitive dynamic is important but not critical for the firm.

In addition to Tesla’s superiority in manufacturing wherewithal, the cars they produce are: high performance with range limits that are among the best in the industry, with comparatively low average time to fully charge the vehicle; and high quality with superb design, functionality, materials, and finishes. Overall, the company delivers luxury cars that are top-of-the-line and provide excellent value for price. Further, Tesla has a well developed network of charging stations across North America, with 1,621 stations with an average of nine superchargers/station. Globally, the firm operates 3,971 stations with 36,165 superchargers. Therefore, it is highly probable that customers select Tesla vehicles because they appreciate their attributes, with the element that delivery windows are relatively short, being an additional attraction.

Moreover, Tesla provides purchasers of their automobiles, the option to buy the Beta version of its full self driving technology (FSD), which would potentially require zero human interventions. The deal is a win-win situation, customers get an opportunity to acquire the software on the cheap, and Tesla gets its hands on real world data to improve the system. The full self driving software Beta is priced at $15,000, with expectations that the price would shoot up manifold, once the system secures regulatory approval.

Furthermore, the firm has a robust pipeline of vehicles scheduled for launch over the next couple of years. The Tesla Semi is expected to debut in December with Elon Musk, the CEO of the company anticipated to be present, when the trucks are delivered to PepsiCo (PEP). The Cybertruck is scheduled to go into production during the middle of next year. Deliveries of the Roadster promoted by Tesla as the fastest car on the planet, are anticipated by 2H2023. It is important to note that management has guided to 50% growth/year in production and deliveries of cars for the foreseeable future. The pipeline ventures would mitigate any loss of market share as competitor’s production facilities ramp, and sustain the 50% growth projection.

In addition, Tesla has announced plans to establish a robotaxi business based on its full self driving platform, once it is commercialized. The robotaxis are expected to go into production during FY2024. Based on estimates by Ark Invest, an investment management firm focused on companies developing revolutionary technologies, Tesla’s robotaxi enterprise could generate annual revenues of $468 billion by FY2026.

Further, a large fraction of the company’s cars are compliant with the requirements of the $7,500 tax credit offered to purchasers of electric vehicles under the Inflation Reduction Act. Specifically, a majority of Tesla’s model Y’s and model 3’s will meet the hurdles that the cars be manufactured in North America, that 50% of battery components be produced or assembled in the geography, and that 40% of battery critical elements be sourced from the region or from countries with which the U.S. has free trade agreements. It is notable that electric vehicles manufactured by Toyota (TM) and Stellantis do not qualify for the tax credit, as their cars are not produced in North America. Automobiles from Lucid and Rivian (RIVN) are similarly out of contention, as they are too expensive to be eligible.

Finally, along with the above described elements favoring Tesla, as cherry-on-the-pie, is its association with Elon Musk, who never fails to utilize his position as a key influencer to promote the firm’s significant potential, and the superiority of its vehicles.

Considering these fundamentals, Tesla appears well positioned to maintain its leadership role of the electric vehicle industry for awhile.

Multi-Trillion Dollar Valuation A Strong Eventuality

Considering the average price of an electric vehicle of $66,000, that Tesla is likely to deliver 4,000,000 cars/year (which is reasonable, considering that Ford during its best years shipped 6,000,000,000 gas engine cars/year), a profit margin of 15% (Tesla’s F3Q2022 profit margin was 15.34%), a Price/Earnings ratio of 10 (which is the automobile industry’s current average Price/Earnings ratio), a time span of ten years, and a discount rate of 7%, we arrive at a present value for Tesla of $2.78 trillion, representing a 1-year Price Target of $802/share.

Based on this high-level calculation, Tesla could handily achieve a multi-trillion dollar market capitalization. With respect to timing, we view regulatory approval of the full self driving technology as a potential catalyst that could ignite a sustained rally in shares, not only because of the revolutionary shift the software would represent for commuting and transportation, but also because the robotaxi business is dependent on the platform. The authorization of the full self driving platform, would position Tesla to launch the lucrative enterprise. Although, Elon Musk is known to renege on his promises, on the F3Q2022 Earnings Call he indicated that the full self driving technology should be out of Beta testing and ready for commercial deployment by YE2022, and be filed for government approval in FY2023.

Besides the full self driving system situation, additional momentum in Tesla’s stock will be derived from the launch of the Tesla Semi in December 2022, and the debuts of Cybertruck and Roadster in FY2023. Moreover, subject to regulatory approval, the start of production of robotaxis, and the subsequent launch of the robotaxi business, would further boost Tesla’s market valuation.

Overall, given the growth opportunities, which represent a potential significant surge in earnings and free cash flows, Elon Musk’s prediction that Tesla would trounce Saudi Aramco’s present market capitalization, appears to be predicated on real world metrics, rather than being a pipe dream.

Risks

Elon Musk Might Opt Out. Although, Tesla is so far ahead as a company that it will continue to thrive even if Elon Musk decides to seek fresh pastures, we do not believe the scenario will unfold. He has been with Tesla since immediately following its founding, after bonding over space exploration with its cofounders, and subsequently providing $6.5 million of the $7.5 million Series A funding for development of the firm. Based on his public profile, Elon Musk appears highly interested in ensuring that Tesla achieve the potential he has envisaged for it.

In addition, although the firm’s electric vehicle business is flourishing, its space exploration enterprise which is his idea is still developing, and requires his leadership, insights, and vision to move forward. Moreover, Elon Musk appears excited about the robotaxi business. Given the situation, we believe that he is unlikely to bail on Tesla, over the foreseeable future.

Bottom Line

Tesla’s runaway growth is not stopping anytime soon. It is possible that most investors are likely aware of the multi-bagger potential the firm’s shares represent. However, for those unfamiliar with the opportunity, we suggest getting onboard with the story. Tesla is the top dog in a favorable neighborhood. Nothing is ever written in stone. However, based on current dynamics, investors cannot go wrong with purchasing stock of the company. The hype is justified in the case of Tesla. Buy, Buy, Buy.

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