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Dilantha De Silva
Dilantha De Silva
Articles (115)  | Author's Website |

Tesla Might Continue to Hurt Short Sellers

The electric vehicle maker is continuing to defy the odds and meet targets

July 05, 2020 | About:

With a market capitalization of over $200 billion, Tesla Inc. (NASDAQ:TSLA) is the most valuable automaker in the world as of July 2. More than anything, the company's stock has defied the odds of famed short sellers, including Andrew Left of Citron Research and David Einhorn (Trades, Portfolio) of Greenlight Capital. According to Wedbush analyst Dan Ives, the stock could rise to as much as $2,000 in the best-case scenario, while his base-case scenario indicates an intrinsic value estimate of $1,500 per share, which suggests that Tesla is still undervalued by approximately 24% at the market price of around $1,208 on July 2.

Tesla is keeping its promises

CEO Elon Musk has faced several litigation issues with the Securities and Exchange Commission for being vocal on social media platforms about the unexpected success of Tesla. On the bright side for investors, Musk has pushed the company to achieve the unthinkable at times and deliver the promised numbers. For instance, at the beginning of 2019, the company came up with a delivery forecast of between 360,000 to 400,000 vehicles for the year. At the beginning of the fourth quarter, Tesla needed to deliver at least 104,000 vehicles to meet this goal, which many analysts thought would not be possible. Defying the odds, the company completed more than 112,000 deliveries at a record pace to meet its objective. The bigger-than-life image of Musk is not only beneficial for the stock market value of Tesla, but also is a driving factor of the efficiency of its employees according to many analysts.

The company reported better-than-expected numbers for the second quarter of this year as well. The consensus analyst estimate was for Tesla to deliver 83,000 vehicles in a quarter that was dominated by record-low unemployment levels in the U.S. and financial distress in many other regions, including China. However, the company reported more than 90,000 deliveries for the three months ended on June 30, once again highlighting its ability to buck the trend and remain relevant even during unprecedented times that saw other automakers scramble to reach their sales targets.

The macroeconomic outlook is promising

According to data collected by Bloomberg, global passenger electric vehicle sales have grown from 450,000 in 2015 to 2.1 million in 2019, which is a clear indication of the exponential growth seen by this industry. Bloomberg projects the electric vehicle share of total new car sales will jump to 10% by 2025, which would be a significant improvement from the 2.7% reported in 2019. There are multiple drivers behind this business sector.

First, governments continue to encourage consumers to replace traditional vehicles with electric ones by offering subsidies. For instance, in the United States, there is a $7,500 consumer tax break for the first 200,000 vehicles an automaker sells. Even though Tesla has already breached this limit, the company is in talks with regulators to increase this allowance substantially to promote the use of eco-friendly vehicles. Elsewhere in the world, many developed and developing regions, such as Norway, China, Canada, India, The Netherlands and Germany, have all introduced several measures to promote the use of electric vehicles.

Second, the production capacity of many leading automakers is projected to increase in the coming years, which would help brand-loyal consumers choose electric vehicles from their preferred carmakers. At present, the number of models available is very limited, prompting consumers to prefer traditional gasoline-powered vehicles.

Source: Deloitte

Third, technological developments related to the efficiency of batteries will boost the sentiment of consumers in the future. The consensus estimate is that the battery of an electric vehicle will last around eight years, or 100,000 miles. Contemporary Amperex Technology, a Chinese battery maker, announced in June that it is ready to develop a battery that could last one million miles. It is widely believed that this technology is developed in collaboration with Tesla, which would be a groundbreaking development that could establish its dominance in the industry. In any case, this improving efficiency will help automakers sell more electric vehicles in the next decade than the current estimates. Commenting on this recent development, Ives wrote:

“If you’re talking about batteries that can last twice as long for the same price, it completely changes the math for the consumer. Iron phosphate batteries are safer, and they can have second or third lives as electricity storage.”

Based on these developments, it’s reasonable to conclude that the electric vehicle industry will continue to grow at stellar rates over the next decade.

Tesla is poised to reap the rewards

It’s no secret that dominant players in a high-growth industry are well positioned to improve their revenue and earnings in the future. This is exactly the case with Tesla as the clear leader of the electric vehicle industry. As of October 2019, Tesla had a market share of approximately 16%. Tesla's Model 3, on the other hand, reported almost triple the sales of its closest competitor in the first 10 months of 2019, which establishes the company as the undisputed leader in this space.

Source: Investor Intel.

The company is aggressively investing in securing future growth as well. For instance, it opened the Tesla Gigafactory 3 in Shanghai in late 2018 in a bid to manufacture vehicles locally in China to cater to the massive demand for its products. These types of investments will help the company remain leaders of this industry for many years to come.

Finally, Tesla’s moves into the commercial truck market are likely to pay off in the future. The Tesla Cybertruck, the all-new SUV, is expected to hit the market in 2021, marking a new beginning for the electric vehicle giant. Global Market Insights projects this industry will grow to $160 billion by 2025, up from $120 billion in 2019. Tapping into this growth opportunity could prove to be a catalyst in the company's quest to become an automaker that meets consumers' tastes.

Takeaway

Before short-selling Tesla, an investor should ideally consider what Charlie Munger (Trades, Portfolio) had to say about the stock back in February. In an interview with CNBC, the guru said:

“My thoughts are two. I would never buy Tesla and I would never sell it short. I have a third comment. Never underestimate the man who overestimates himself. I think Elon Musk is peculiar and he may overestimate himself, but he may not be wrong all the time.”

This advice seems to be aging well. Tesla is a highly volatile stock and even if an investor believes the company is significantly overvalued, entering a short position might not be the most prudent decision. Many things could go right for the company as a result of the favorable outlook for the electric vehicles industry.

Even though shares seem to be overvalued from a purely fundamental perspective, the narrative behind the company is strong and relevant more than ever. Aswath Damodaran, a professor at the Stern School of Business who is considered the "Dean of Valuation," believes that ignoring the story behind a company is a fatal mistake committed by many novice investors. According to him, market moves that are irrational from a numbers perspective can often be explained by the underlying narrative behind the company. In a blog post published in 2014, he wrote:

“While your final valuation may be composed of forecasts of revenue growth, profit margins and reinvestment, it is the story that binds together these numbers that represent the soul of the valuation. That said, the balance between stories and numbers can vary across companies and for the same company, can change across time. For most companies, it is the story that comes first, with numbers following, and for others, it is the numbers that tell the story. There are some companies that I would classify as story stocks, where the story is so dominant in both how people price the stock and what determines its value that the numbers either fade into the background or have only a secondary effect.”

Tesla is a company that has yet to deliver numbers. At the same time, its market value is attached to the success of the electric vehicle industry, which is considered by many analysts to be one of the business sectors that would see exponential growth in the future. Therefore, concluding Tesla to be overvalued without incorporating this factor is likely to result in an erroneous intrinsic value estimate according to Damodaran, who has followed the stock for quite a while.

In the base-case scenario, Tesla is likely to hit new highs. Even if an investor is bearish on the prospects of the company, it would be prudent to avoid short selling the stock.

Disclosure: I do not own any stocks mentioned in this article.

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About the author:

Dilantha De Silva
I am an investment professional with 5-years of experience in financial markets. I specialize in U.S. equities and incorporate a top-down approach to identify developing macro-level trends and the companies that would benefit from such trends. I am a strong believer that the best investment opportunities could be found in under-covered equities.

I currently work with leading financial publications including Refinitiv, Seeking Alpha, ValueWalk, GuruFocus, and TradeGrill to produce investment-related content.

I'm a CFA level 2 candidate and an Associate Member of the Chartered Institute for Securities and Investment (CISI, UK). During my free time, I enjoy reading.

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