Tesla (TSLA, Financial) produces great products, and there’s no doubt in my mind that the upcoming Model 3 will be a great product as well. Demand has never been a problem for Tesla. All of the company’s cars have been successful and the company has only been plagued by the supply constraints. Out of all the problems a company can face, inability to meet demand may be the best kind. However, in case of Tesla, the problems are deeper, and although the company’s products are great, the stock’s valuation is struggling.
Running into trouble
When it comes to producing enough cars to meet the demand, Tesla has always failed to deliver. In addition, Tesla has lost a lot of money in the process and is expected to continue doing the same. The company’s margins have been negative despite the fact that it sells luxury cars, and it has lost billions of dollars in producing them.
Things may still get worse for Tesla with the arrival of the Model 3. While the Model 3 will probably be a great car, it will hamper Tesla’s margins as it has lower price points. Tesla has remained unprofitable despite selling high-margin luxury cars, and its profitability will get a lot worse once it starts selling cheaper cars.
Selling cheaper cars in high volumes is a lot more difficult than selling luxury cars. The overheads involved are higher and obviously the margins are lower. Given that Tesla has already lost a lot of money, the arrival of Model 3 will be disastrous for its balance sheet.
Given the lack of funds, Tesla will have to issue equity in order to fund its growth, which is why I think the stock is currently overvalued and destined to fall to under $200. Keeping in mind the history of losses, high debt and interest expenses, and the upcoming margin compression, I think Tesla’s shares are overvalued.
Conclusion
Due to the reasons mentioned above, investors can consider shorting Tesla after the recent rally. The stock has moved a lot higher from its 52-week low levels, but the rally will probably be short lived. The arrival of Model 3 will lead to more losses, which in turn can probably lead to dilution of shares. Thus, for the multiple reasons mentioned above, Tesla has a lot of downside potential.
Disclosure: The author doesn’t have any position in the stocks mentioned in the article.
