Tesla Motors Inc. (NASDAQ:TSLA) stock is rising leaps and bounds on the Wall Street. Shares almost doubled within just one month – from $53.99 on May 1 to $104 on May 31. And people who invested on March 1, when the stock traded at 34.65, have made more than 200% profit. Its Model S sedan has garnered rave reviews from critics and consumers. Such a phenomenal initial success has pushed the stock far beyond what it is really worth.
Just last month, the California-based electric car maker reported its first ever quarterly profit, raised close to $1 billion in a stock and bond offering, paid off the Department of Energy loan way ahead of schedule and announced the expansion of its supercharger network. The electric car maker’s CEO Elon Musk said Tesla will triple the number of existing supercharging stations (currently eight) by the end of June.
I believe the stock is rising because of the hype it has created. As long as Tesla continues to maintain the hype, the stock will keep soaring. Once the hype is over, it will bust, or correct itself as geeks on the Wall Street say to satisfy their ego. It’s a bubble because the stock prices have gone far beyond what they are really worth. Tesla’s fundamentals are still weak, and the company is still in its infancy. Investors should look at the fundamentals, not on the story.
Let’s have a look at the ground realities that most investors seem to have ignored.
Apart from the hype, heavy short interest is another reason pushing the stock higher. Investors were heavily betting that the stock prices would plunge. Tesla is showing all indicators of a short squeeze. You can be sure that 100% of short positions are currently at a loss because the decline the shorters expected failed to materialize.
Before announcing its first quarter earnings, 45% (or 31.5 million shares) of the stock were shorted. Within two weeks, the short interest skidded from 45% to 34% of the float, indicating 7 million shorted shares were closed out. It means these traders were compelled to change their positions en masse, pushing the share prices higher. That’s called short squeeze.
First Quarter Profits Came From Emission Credits
Most Tesla bulls argue that the company has surprised everyone with the first quarter profits. But they won’t tell you that those profits came entirely from the sales of emission credits created by California regulations to reward the zero emission vehicle makers. Tesla would have suffered a net loss of $53 million on sales of 4,900 vehicles if you exclude $68 million from ZEV credit sales. That means Tesla is still losing more than $10,000 for every electric car it sells.
Tesla management has acknowledged that the sale of ZEV credits was unusually high in the first quarter. The electric car maker expects it to decline in the coming quarters and reach to zero by the end of Q4. That’s when the real challenge for Tesla would begin.
As I said earlier, Tesla’s fundamentals are still far too weak to justify the current market price. Its debt to equity ratio is 2.4 compared to the industry average of 0.8, and the TTM net margin remains negative. It is trading at the price-to-book ratio of 63.7 and price-to-sales ratio of 11, much higher than the industry average of 1.7 and 0.6 respectively. Its forward P/E ratio for FY2014 is 106. These figures clearly indicate that the stock is overvalued, and expectations are too high, so a downward revision of the share price is on cards.
Moreover, analysts don’t estimate Tesla to be profitable until 2014, with many analysts expecting a loss of 15 cents a share in FY2014. Worse, none of those Tesla bulls will tell you that the company has never generated a positive cash flow from operations in its entire life.
Looking forward, the company is most likely to build a profitable business around its luxury cars. But Elon Musk is determined to move into affordable car market as well because he recently said that Tesla’s “Gen 3” mass market car will hit the market in a few years.
The problem with Elon Musk’s ambitions is that the mass market electric car is already there, Nissan Leaf. Nissan’s electric car comes at $21,300 after tax credits, about 75% lower than the price of Tesla’s Model S sedan. Leaf may not match Tesla’s mass market car, which some say will be similar to BMW 3-series. But that’s not because Nissan is incompetent or lacks technology, that’s purely strategic choice of Nissan.
How will Tesla compete with the Japanese automaker’s global supply chain? It still doesn’t have a supercharger station in Europe or Asia. Barry Randall of Covestor believes that there is nothing game-changing about Tesla. The only edge the company has over other electric car makers is that it has a greater range. A Model S car can go about 265 miles in a single charge, compared to about 70 miles of Nissan Leaf. But that’s because of Elon Musk’s decision to use an 85 kW-h battery pack (Nissan Leaf has a 24 kW-h battery). That’s simply a design choice, not a real advantage protected by trade secrets or patents.
Wait, the auto industry heavyweights General Motors and Ford Motors are introducing their own lineup of electric cars in the latter half of FY2013 and early FY2014. Competing with those giants in the U.S. and international markets won’t be easy for Tesla.
Tesla is yet to report its first ever annual net profit, which shows how premature the company still is. It certainly has hype, but the hype doesn’t make a good stock. Tesla’s financial strength is still at its bottom. The stock is rising only because of the hype, unexpected profits and a huge short squeeze.
You can make more money with a company that may not have an equally interesting story, but has an inexpensive valuation and good financial strength.