There’s no denying that Tesla Inc (NASDAQ:TSLA) has turned in the textbook definition of a “cult stock.” Despite some of the inherent risks and lack of profits, investors continue to bid up shares of Tesla stock. Now the electric car manufacturer has a market cap approaching the likes of Nissan Motor Co Ltd (ADR) (OTCMKTS:NSANY) or Ford Motor Company (NYSE:F).
And while you could make some justification for the company’s surge, one aspect of Tesla’s story should still be keeping prices in check, but investors seem to be ignoring that. Yes, I’m talking about SolarCity.
This was the first quarter that SolarCity was included in TSLA’s quarterly earnings, and not surprisingly, the numbers weren’t good. Tesla CEO Elon Musk, however, continues to ignore the elephant in the room and that the acquisition could be ill-fated.
For investors looking seriously at Tesla stock, you can’t afford to skip this troubling piece of the puzzle.
The Make-or-Break Deal for TSLA
Musk’s original vision for a green future always included SolarCity as part of its mix. And after years of high debts, cash burn and zero profits, things got so bad at the solar panel installer, that it needed a bailout … err, I mean buyout from its pseudo-parent. The deal was seen as “a must” for SolarCity stock holders and a big negative for Tesla stock.
The idea from Tesla’s point of view was that joining of forces would create plenty of aggressive cross-selling opportunities. SolarCity would get access to TSLA’s battery storage and engineering, while Tesla would gain access to SolarCity’s customer base and its vast buyers of solar bonds and capital providers. Tesla would be able to use the cash flows from SolarCity’s owned panels and leases to help finance its own expansion efforts.
Tesla expects “significant financial benefits” for the combined company. This included about $150 million in cost synergies within a year and $500 million in cash over the next three years.
While merger integrations do take time, we now have one full quarter of SolarCity being part of the Tesla stock umbrella, and the results have been, well, mixed, to say the least.
Cash Burn at Tesla Inc
The problem for TSLA and its new subsidiary comes down to spending. One of the reasons why SoalrCity sought its bailout from its automotive twin was that it simply had a funding problem. As the market for residential panels has slowed, Wall Street got a tad bit nervous about lending SolarCity money for its installations. See, SolarCity’s business model requires plenty of upfront capex cash to build-out rooftop installations.
In its past few quarters a public entity, SolarCity continued to eat cash and push its debt levels up higher and higher. Before being swallowed, SoalrCity reported nearly double the amount of debt — around $1.37 billion — than it did during the previous year.
SolarCity Burns Cash, But What About TSLA?
Here, too, the spigot is still on. Through the third quarter of 2016, TSLA managed to report ten consecutive quarters of negative free cash flows. Tesla fans will point out that the number turned positive during the third quarter. However, that was more due to an accounting slight of hand and a sharp increase in accounts payables.
With its latest results, we’re right back to spending money. During its reported fourth quarter, Tesla spent a whopping $970 million on capex. That money went toward manufacturing capacity for the Model 3, developing its Gigafactory and expand its customer support operations. So far, Morgan Stanley estimates that Tesla has spent about $10 billion since 2014 on its efforts to build out its operations. This year could see that capex spending jump by an extra $2.5 billion.
So we have one company that loves spending money that bought another company that loves spending money. That doesn’t exactly warrant a massive upward shift in equity prices. Even more so, when said firm is going to have raise about $2.5 to $3 billion in stock to keep ist spending afloat.
TSLA Is Just Getting Ridiculous
If anything, the results for the fourth quarter highlight just how much of a bailout SolarCity was for TSLA. Both firms continue to bleed cash, and that cash burn only increased because the solar company was added to the mix.
Together, there wasn’t and isn’t some magical formula that will make them not keep up their torrid spending. Adding this to the increased debt due to the acquisition and the pending equity raise, investors really need to ask themselves what are they buying here?
The answer is getting pretty ridiculous.
I’m fine with betting on vision, and Musk’s ideas are solid. But perhaps Musk is just thinking too big on this one. There’s no way a firm with no profits, huge cash flow issues and rising debt should be approaching the same levels as profitable automakers.
In the end, cult stocks never turn out good for late stage buyers. And never will TSLA. SolarCity has thrown more gasoline on the fire.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.
