The divide over Tesla (NASDAQ:TSLA) stock continues, and so does the stalemate. Bulls see Tesla stock as a bet on a brighter future, and Tesla as a company that will dominate the fast-growing electric vehicle space for years to come. Bears see a litany of broken promises, and a valuation that fails to incorporate the realities of the difficult, low-margin, capital-intensive automotive manufacturing business.
I’ve generally leaned bearish on TSLA. In fact, I have shorted the stock in the past. I have no position at the moment, in part because there seem to be less exhausting ways to make money in this market. I don’t see CEO Elon Musk as particularly trustworthy. And I’ve generally agreed with bears who see significant concerns about long-term demand.
But I’ll admit that the argument here isn’t over. And I do believe that bears have given too little credit to Tesla’s accomplishments — and, for his faults, Musk’s as well. Tesla unquestionably has sparked electric vehicle growth, with the likes of Volkswagen (OTCMKTS:VWAGY), Porsche (OTCMKTS:POAHY), Ford (NYSE:F) and General Motors (NYSE:GM) trying to play catch-up. Tesla will sell several hundred thousands Model 3’s this year, two years after its 2017 launch.
The problem for TSLA stock is that’s not enough. This still is a company with a market capitalization of $47 billion, and an enterprise value over $50 billion. Those valuations suggest the company will create billions in profits, not just sales. Those profits need to arrive soon, which means Wednesday’s third-quarter report might seem very different from past Tesla releases.
TSLA Stock After Earnings
Past Tesla earnings reports haven’t necessarily focused on the bottom line. It was only five quarters ago that all eyes were on the company’s production target of 5,000 Model 3 units per week. In more recent quarters, attention has focused on deliveries, with investors debating whether demand for the Model 3 would be sufficient to drive the growth implied by TSLA’s valuation.
But for Wednesday’s report, profitability seems key. Tesla already announced deliveries at the beginning of the month, and a modest shortfall led Tesla stock to tumble. The figure — an estimated 97,000 — clearly puts full-year guidance at risk. Tesla would have to deliver over 104,000 units in Q4 simply to meet the low end of its 360,000-400,000 forecast. That 104K figure implies 7%+ growth sequentially, and over 60% year-over-year.
So far, however, investors have shrugged off the deliveries figure. After an initial 4.1% decline, TSLA has rallied since. It has risen 10% in the last eleven sessions. The market doesn’t seem terribly concerned about a guidance cut at the moment.
With the Model 3 in full swing, profits now are going to be the point of focus. And at the moment, even analysts seem somewhat split. Consensus for Q3 is for an adjusted loss of 41 cents per share. But the highest of 23 estimates projects that Tesla will turn a non-GAAP profit of 34 cents per share.
If Tesla can come close to that figure, TSLA stock likely rallies after earnings. If not, important questions loom.
Why Profits Matter to Tesla Stock
To be sure, a loss in Q3 doesn’t end the bull case for Tesla stock. Those same analysts who, on average, are predicting a loss still have an average target price of $246, modestly below current levels. Bulls still can point to the potential for growth in (and from) China. Manufacturing improvements can improve gross margins, which the company has targeted at 25% or higher. The Street, even with modest skepticism toward Q3, sees profitability coming eventually. Q4 consensus earnings-per-share sits at 38 cents and the 2020 figure is modestly above $4.
But it’s not hard to imagine that the fundamental worries will get louder if Tesla disappoints in terms of margins and earnings in Q3. One of the core points made by bears has been that the mix shift away from Models S and X has left Tesla selling Model 3’s at something at or close to a loss. Tesla needs to convince the market that those bears are wrong, and that it can make real, consistent profit selling the Model 3.
Because at this point, it’s increasingly difficult to see an external catalyst. The Model Y potentially could help, but its launch hardly suggested a transformative product. The solar business is in steady decline. Tax credits for Tesla buyers are shrinking.
The third quarter report will give a key data point for Model 3 profitability. And that profitability is a key part of the investment case right now — for both long and short investors. Interestingly, options markets are pricing in just an 8% move for TSLA stock next week. From here, that looks too low. Tesla has proven it can deliver vehicles. It now needs to prove it can start delivering profits.
As of this writing, Vince Martin did not hold a position in any of the aforementioned securities.