Tesla Motors Inc’s (NASDAQ:TSLA) recent offer to buy SolarCity Corp (NASDAQ:SCTY) certainly caught the market by surprise — and the view was completely different depending on which side of the river you were standing on. Namely, TSLA stock plummeted more than 10% on Wednesday, but SCTY stock soared more than 5%.
However, many investors still are deciding what to make of the proposal — and thus, how to deal with TSLA and SCTY.
Here’s a look at three scenarios that could play out in a potential Tesla-SolarCity tie-up, the argument for each and three basic trades to exploit them.
1.) Tesla Is Fine! Buy TSLA Stock on the Dip.
If you believed in Tesla’s overall story before Wednesday’s selloff, the 10% pullback should be seen as a great buying opportunity. At least, that’s the argument a number of TSLA stock bulls have floated since the deal was announced.
For instance, Global Equities Research analyst Trip Chowdhry says that TSLA and Amazon.com, Inc. (NASDAQ:AMZN) are the two most transformative companies in the world, and he compares TSLA to Apple Inc. (NASDAQ:AAPL) prior to the release of the iPhone.
Baird analyst Ben Kallo says of the deal: “TSLA believes it can benefit from SCTY’s sales and distribution networks, and we believe the transaction would add cross-selling opportunities for Tesla Energy products and TSLA’s vehicles for SCTY’s large customer base.” The firm maintains an “Outperform” rating on Tesla and a lofty $338 price target for the stock.
If you believe Tesla eventually will dominate the global auto and battery markets … frankly, don’t sweat this buyout bid. TSLA just became more of a screaming long-term buy, so pick up shares at will.
2.) Musk Will Run Tesla Into the Ground. Sell TSLA!
Other analysts, such as Kynikos Associates president and TSLA short seller Jim Chanos, see the merger as Elon Musk using Tesla to bail out a struggling SolarCity.
It’s not the craziest thought in the world. After all, Musk is the largest shareholder of both companies.
Chanos told CNBC that this proposed deal is “a shameful example of corporate governance at its worst.” He pointed out that SCTY bonds were yielding 20 percent this week and that the company is burning hundreds of millions of dollars in cash every quarter. If the deal goes through, SolarCity’s problems will fall on the shoulders of TSLA stock holders.
Standpoint’s Ronnie Moas is also maintaining his short on Tesla. In an interview on CNBC, Moas said the proposed deal “doesn’t make any sense” for TSLA shareholders. Instead, he sees this as a “bailout” of a company that was “on life support 24 hours ago.
3.) This Isn’t Happening. Pair-Trade TSLA and SCTY.
The third trade option might be the most compelling of all.
Credit Suisse analyst Patrick Jorbin thinks the deal is a terrible move for TSLA and therefore will not ultimately be approved by the company’s shareholders. If that’s the case, expect a pop from TSLA stock … and a big drop from SCTY stock.
Jorbin predicts that the deal “will be met with resistance from Tesla shareholders” and ultimately gives the deal about a 40% chance of happening.
UBS analyst Colin Langan agrees that there “may be challenges in getting shareholder approval.”
Shareholders at both companies must agree to the deal via a vote sometime within the next two months. Based on the stock trading action, even Elon Musk himself couldn’t convince the market of the benefits for Tesla during a pair of conference calls. If the merger doesn’t go through, the companies and their stocks will likely end up right back where they were before the deal was announced.
If that happens, a long TSLA/short SCTY pair trade would work out perfectly. You could do this either via direct buying/shorting of shares of each, or call/put strategies.
Just note that it might be a little difficult — Musk made a couple of bylaw changes that could make it more difficult for shareholders to oppose the deal.
As of this writing, Wayne Duggan did not hold a position in any of the aforementioned securities.