Tesla Inc (NASDAQ:TSLA) is going to $500. At least, that’s the word according to Iou1000, a message board participant at Seeking Alpha. “Again the shorts need a bear [market] or something untoward happening to Elon Musk to make money — Otherwise Tesla will make a new high on the way to 500,” Iou1000 commented on TSLA stock on March 20, 2017.
TSLA stock closed trading Mar. 17 at $261.50, 91.2% less than $500, halfway to a G-note. Assuming the prediction is on the money — when does it get there, and more importantly, how?
There are three answers to this question, in my opinion, the first being the best option for TSLA stock blowing past $500 on its way to $1,000.
TSLA Needs to Be Profitable
It’s a simple concept but one that investors have grappled with since TSLA stock started trading on June 29, 2010. Since then, it has amassed $2.4 billion in operating losses and $17 billion in revenue. That’s an average of $343 million in annual operating losses and $2.4 billion in annual revenue for a 14.2% negative operating margin.
It has never made money on an annual basis, not even with the zero-emission vehicle (ZEV) credits it sells from time to time as a result of producing emission-free vehicles. In Q3 2016 it did make a $0.71 per share non-GAAP profit, but that included $139 million in ZEV credits sold during the quarter. Without the ZEV credits according to UBS lead auto analyst Colin Langan, it would have been a $0.18 loss.
Future earnings are what ultimately drive stock prices.
If Tesla could simply generate positive free cash flow on an annual basis, it would be more than enough ammunition for the bulls that TSLA stock was worth owning at $500 and beyond. Of course, it doesn’t — negative free cash flow in 2016 of $1.4 billion — hence the line in its 2016 10-K:
“Until we are consistently generating positive free cash flows, we may need or want to raise additional funds through the issuance of equity, equity-related or debt securities or through obtaining credit from financial institutions to fund, together with our principal sources of liquidity, the costs of developing and manufacturing our current or future vehicles.”
That’s exactly what Tesla did recently when it raised $1.2 billion in cash — $350 million in new equity and $850 million in senior convertible notes — to pad the amount of capital available to bring the Model 3 to production.
Blowing past $500 would be a lot more of a sure thing if it started making some kind of a GAAP-like profit. Until then, you’re going to have a lot of skeptics. That’s just the nature of the beast.
TSLA Stock Is a Winner If Model 3 Is a Success
The honeymoon is over.
Elon Musk has said that it will produce 5,000 Model 3s’ per week in the fourth quarter of 2017, ramping up to 10,000 per week in 2018. At 400,000 pre-orders it will likely fill that pent-up demand sometime in 2019.
Skeptics point out that Tesla has only delivered 183,000 vehicles over the last five years, making this kind of production increase fraught with risk. If Tesla can’t meet the pre-order demand in a timely fashion, the odds of the Model 3 becoming a big commercial success decrease exponentially putting significant downward pressure on TSLA stock and ultimately, Tesla’s long-term viability.
“While we are bullish about Tesla’s long-term potential, we have several near term concerns, most notably (1) gross margins, as Model 3 and its associated capex ramps up, and (2) Tesla’s overall customer experience — which we believe is not strong today — and could be further pressured as the company migrates to selling to a more mass-market consumer,” a Bernstein analyst recently wrote in a note to investors. “A poor ramp and customer experience on Model 3 could not only impact Tesla’s near-term financials, but undermine the franchise longer-term.”
The positive in all of this is that Tesla is said to be already making “release candidate” versions of the Model 3, eliminating the costly “prototype” phase, which suggests the company’s ability to get concept vehicles into production in a timely manner will continue to improve in the future. This bodes well for its future vehicles and the Model 3.
Car companies are known to use a single platform to produce several different vehicles in one production facility. Tesla is said to be introducing its Model Y crossover SUV sometime in 2018; it’s a vehicle that could be built on the same platform as the Model 3. If so, the cost of producing the Model Y would drop significantly helping to point its way toward GAAP profitability and automotive mass production.
We don’t even know if the Model 3 is going to be a hit, but a smooth rollout later in 2017 should pave the way for strong demand of the Model Y.
Bottom Line on Tesla Stock
In December, I suggested Tesla stock belonged in one’s IRA, albeit that it shouldn’t represent more than 5% of your plan. The reason: TSLA stock is still a risk despite all the good things happening at the company.
Frankly, I think Tesla stock gets to $500 by this time next year, because by then we’ll know if the Model 3 is a success or failure. When it starts making money, and that’s a big if, $1,000 will look like chump change in the scheme of things.
Unfortunately, there’s a lot of water to go under the bridge yet. If you’re long, I’d stay long. If you’re short, good luck to you, and if you don’t own TSLA stock, I wouldn’t get overly aggressive in your purchases until its future is a little more clear.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.