In 2012, Elon Musk said Tesla Inc. (TSLA, Financial) would never need another funding round. What followed were 12 funding rounds with an average size of $1 billion. Throughout 2020, the company has been tapping the stock market with at-market offerings to take advantage of its irrationally high stock price. Issuing more shares while the valuation exploded caused the company to surpass Berkshire Hathaway Inc. (BRK.A, Financial)(BRK.B, Financial) in value. Tesla is now worth $555 billion, while Berkshire is stuck at $543 billion.
According to Christopher Bloomstran of Semper Augustus Group, Tesla has raised $15 billion in debt and $21.6 billion in stock since its inception. However, the capital Tesla raises in the market isn't the only way it subsidizes production.
Governments around the world have heavily incentivized the adoption of electric vehicles. Tesla has been the main beneficiary of these policies. In the Netherlands, a country where the EV maker has historically sold many cars, a consultant advised lawmakers through a carbon-tax model on subsidy policies. It turns out he also worked for Tesla. It was easy enough to direct capital toward measures decreasing carbon emissions 100 times more efficiently. I'm not using 100 times as a figure as speech, but literally.
But Tesla has also been a huge beneficiary of aggressive European Union regulations that, according to Nikkei, punish automakers that aren't selling electric vehicles (whether they profitably can or not). They can buy regulatory credits from automakers that produce relatively high percentages of electric cars (greatly benefiting pure-plays). According to its recent quarterly filings, Tesla raked in $1.1 billion in just the last nine months.
This is an amazing and magical windfall because the revenue is basically a gift from regulators. Tesla doesn't have to spend or do anything to generate this revenue. It all falls straight to the bottom line as profit. In other words, the margin is 100%.
It is worrisome to the Tesla bull case because this magical profit (the only thing qualifying it for S&P 500 inclusion in the first place) is not sustainable beyond a year or two.
Comparing Berkshire to Tesla
I primarily want to focus on how little sense it makes that a company like Tesla is worth more than the venerable Berkshire. Our human brains are not very good at valuing things when thinking in absolutes or isolation.
If you ask yourself whether or not Tesla is worth $500 billion, that's a tough question to answer. The human brain is fairly great at making comparisons between options, even if they are quite different. The premise of this discussion will be whether Tesla or Berkshire is a better investment for the next 10 years.
First, Berkshire has 10 times as many employees, most of which work at its various subsidiaries. The conglomerate's headquarters are notoriously unimpressive and sparsely populated. Berkshire occupies just one floor in the 15 stories of Kiewit Plaza. Blackstone (BX) acquired the building for $20 million. It was a great buy because it's one tenant less to worry about in this pandemic. Also, lunch with the tenant gets auctioned off annually and can fetch up to $4.6 million. By comparison, being his landlord is a steal.
All jokes aside, it is interesting that 33 analysts are covering Tesla, and only three are covering Berkshire. Tesla, of course, brings a lot more business to Wall Street.
On Nov. 18, Morgan Stanley (MS, Financial) upgraded the stock from equal weight to overweight. Bank of America (BAC, Financial) lowered its price target to $500 but kept its rating neutral.
Goldman Sachs (GS, Financial) initiated coverage on Nov. 3. It had previously dropped Tesla coverage after Musk enlisted it to supposedly take Tesla private. The take-private affair later led to a settlement with the Securities and Exchange Commission. The SEC came after Musk for committing securities fraud. Musk and Tesla settled the case, but without denying the securities fraud.
Barclays (BCS, Financial) has a $125 price target and a sell rating on Tesla, while Deutsche Bank (DB, Financial) upgraded the company from a hold to a buy and added $100 to a $500 price target.
Fundamentals
Let's get to some of the fundamentals. Berkshire holds about $145 billion in cash, but it also has $107 billion in debt. Tesla holds $14 billion in cash with only $15 billion in debt. However, Berkshire actually only holds $22.2 billion of debt at the holding company. The other $85 billion in non-recourse debt is at consolidated subsidiaries. Berkshire is considered so fundamentally sound by bond markets that it recently issued 1.0 billion euros ($1.2 billion) of 0.0% senior notes due in 2025. On average, Berkshire pays about 1% of its debt. Tesla's 2025 bond trades at a yield of 4.358%, indicating the market is far less certain the bond is good for the money. In fact, the yield is roughly equal to the 30-day SEC yield of 4.39% on junk bond exchange-traded funds like the SPDR Bloomberg Barclays High Yield Bond ETF (JNK, Financial), an ETF that is host to several questionable borrowers like cruiseliner Carnival Corp. (CCL, Financial), Caesars Entertainment (CRZ) and Occidental Petroleum (OXY).
If we look at net operating cash flow, Berkshire delivers almost 10 times more per year compared to Tesla.
Admittedly, growth has been much better at Tesla. Revenue per share jumped 97% in the last three years while Berkshire's only increased 17%. I will argue that Berkshire's revenue growth is on a much slower decline trajectory than Tesla's. Tesla's revenue growth over the past year was only 14%.
But it remains very much to be seen if Tesla's revenue growth can result in permanent value creation. Its earnings per share growth isn't following the revenue trajectory, which is odd because the company claims scale is its path to profitability. Earnings growth is also predicated on regulatory credit sales that contribute little to revenue and dominate earnings per share.
On an earnings per share basis, Berkshire wins handily over the last 12 months, beating Tesla 47.82% to 29.12%. But Berkshire's earnings get influenced by its equity portfolio, which diminishes the value of the comparison.
Shares outstanding
Berkshire, arguably the best capital allocator of all time, is buying back stock. Meanwhile, at Tesla, the number of shares outstanding increased by 30% over the past three years. In some way, it's like a junior mining company. And it's only 30% because Tesla has always commanded very high multiples. If it had been trading at a reasonable valuation, I'd argue shareholders would have been diluted into oblivion.
When a company keeps issuing shares to fund executive compensation or to raise capital, this dilutes shareholders. Future cash flows, if these ever materialize, need to be shared with more and more people.
Insider selling
I also like to look at insider selling. At Berkshire, the picture of insider buying and selling is mixed. There are very few insider sales to begin with. The company doesn't give out much of any stock compensation, which sets it apart from other companies. This also means the ratio is naturally not going to be as skewed toward sales.
At Tesla, it is just wave after wave of selling. It is sporadic, but sometimes an insider besides Musk will buy. Currently, they are overwhelmingly selling into the rip.
Historical returns
The last data point I want to highlight is Warren Buffett (Trades, Portfolio) paid $7.50 for the initial Berkshire stock he acquired. Today, these shares are worth $347.401 apiece. A return of 4,631,913.33%. If you had invested $10,000 alongside Buffett in 1962, that investment would now be worth over $460 million. Buffett is considered to be the greatest capital allocator by many.
Tesla's share price has run up a respectable 12,000% since its initial public offering not even a decade ago. But if you ask me, there's no good reason Tesla has suddenly become 700% more valuable in 2020 while revenue increased only 14%. Many consider Musk a certified genius. He is also considered, notably by the $TSLAQ community on Twitter, a villain. On balance, he's a much more controversial figure.
At the very least, Tesla, lead by Musk, only has a short history of profitability, which is predicated on regulatory quicksand. Buffett is clearly in the hall of fame. Musk is in a good position to get there, but he needs to seal it with a deep playoff run.
Bottom line
With Tesla surpassing Berkshire Hathaway in value, there's an opportunity to compare a company (which has been crystallized over decades of public trading and currently not subject to much market enthusiasm) with Tesla.
Berkshire can use operating cash flow and buy a Ford (F) every year. It can deploy its cash hoard and buy Chinese electric vehicle designer Nio (NIO), or the electric vehicle builder Fisker (FSR), electric drivetrain developer Workhorse (WKHS) and even Chinese electric vehicle manufacturer Xpeng (XPEV). In the end, Berkshire would still have cash left over. It already owns over $3 billion worth of BYD Co. Ltd. (BYDDF). We are still in the middle of a pandemic, and Berkshire has proven it is able to survive and even thrive in crisis after crisis. Tesla raised $5 billion just this year.
I believe Tesla will continue to need capital to fund its wild plans as there are no sustainable profitability signs. At the time, I wasn't right about the downward pressure on the share price. But at some point, shareholders will realize there's isn't a lot of upside from $500 billion or $600 billion while there's a tremendous amount of air beneath them.
Even though I see the tremendous downside, I'm not convinced there's an imminent catalyst. I don't particularly appreciate getting run over, so I'm maintaining a long-term short put position but not adding at present. On Berkshire, I've sold puts because I believe if the stock sells-off hard, Buffett will step in big time and seize the opportunity to buy back loads of shares.
Disclosure: Net long Tesla puts and short Berkshire puts.
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