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John Engle
John Engle
Articles (607) 

Tesla's Solar and Battery Storage Business Is in Trouble

Declining solar installations and persistently negative margins have weighed on Tesla Energy

March 05, 2021 | About:

Tesla Inc. (NASDAQ:TSLA) has won wide acclaim for its pioneering role in developing the modern electric vehicle market, but its ambitions stretch far beyond the automotive industry, as the company's mission statement makes abundantly clear: "Tesla's mission is to accelerate the world's transition to sustainable energy."

This mission has led Tesla to expand beyond its EV business into the renewable energy space, even though its EV business is not yet profitable (unless you count the sale of regulatory credits). Tesla Energy, its energy generation and storage segment, focuses on solar power manufacturing and installation, as well as battery storage systems serving residential, industrial and grid-scale customers.

Tesla has touted its energy segment as a value-additive business unit. Yet for all the positivity surrounding Tesla Energy's public relations front, the economic reality is far gloomier. In fact, the long-term viability of Tesla Energy looks increasingly uncertain, by my calculations.

High hopes for Tesla Energy

Tesla CEO Elon Musk has been an enthusiastic evangelist of Tesla's energy segment for years. In November 2019, Musk asserted that Tesla Energy was poised to grow at a far faster rate than Tesla Automotive, the company's EV manufacturing segment:

"The really crazy growth for as far into the future as I can imagine. ... It would be difficult to overstate the degree to which Tesla Energy is going to be a major part of Tesla's activity in the future...I think both over time will grow faster than automotive. They're starting from a smaller base. I think, especially, if you look at sort of — if you look at, like, year-over-year growth, it will be absolutely incredible...over the course of, say, a year, gigantic increase."

Since then, Musk has rarely missed an opportunity to tout Tesla's growing energy generation and storage prowess. Speaking on the subject in July 2020, he even suggested that Tesla Energy would eventually grow to equal Tesla Automotive:

"I think long term, Tesla Energy will be roughly the same size as Tesla Automotive. How big is the energy sector? Bigger than automotive."

Musk's enthusiasm has been taken up by a number of Tesla's high-profile investors, such as venture capitalist Chamath Palihapitiya, who have argued that Tesla Energy makes Tesla "more than a car company." In October last year, Palihapitiya went a step further, arguing that Tesla's opportunity to disrupt the energy industry is actually more valuable than its automotive business:

"Tesla is no longer about the car business. The value of this business is about deregulating energy. That's about batteries and battery storage and it's about disrupting utilities. People continue to misunderstand and underestimate this business."

While such hype and enthusiasm swirling around Tesla Energy may give a casual observer the impression of a healthy and growing business segment, a review of the numbers tells a rather different story.

Harsh reality sets in

Tesla's solar energy business has been in decline for years. Solar installations for the company actually peaked in 2016, followed by a multi-year precipitous decline. Installations fell a whopping 38.3% the next year, followed by a 37.5% decline in 2018 and a 46.9% decline in 2019.

This means that, from 2016 through 2019, Tesla's annual solar deployments fell from 522 megawatts to 173 megawatts – a 69% decline from peak to trough. Things did start to get a bit better this year, with solar installs jumping 18.5% to 205 megawatts in 2020. Whether Tesla can maintain this reversal is far from clear.

Moreover, even if solar installs manage to sustain the same pace of growth as last year, it would take six years to match 2016 installation levels. Meanwhile, the company faces stiff competiton.

The battery storage story is somewhat rosier. Last year, Tesla deployed more gigawatt-hours worth of battery storage systems, an 83% surge from 2019. Combined with the arrested decline in solar installations, Tesla Energy brought in $1.99 billion in revenue in 2020, a 30% rise from the $1.53 billion it brought in the year prior.

Unfortunately, accelerated deployments and revenue failed to translate to expanded profitability. In the fourth quarter, for example, Tesla Energy brought in $752 million at the cost of $787 million. In other words, the segment had negative gross margins.

Valuation

Tesla's share price of $620 translates to a market capitalization of $595 billion, more than five times that of Volkswagen AG (XTER:VOW3) and 12 times that of Ford Motor Co. (NYSE:F), despite having only a faction of those venerable automakers' annual vehicle sales. Clearly, the market has already priced in many years of rapid, profitable growth in Tesla's automotive business, but even that seems insufficient to me to justify the current valuation. Tesla Energy has been put forward by some bullish analysts and investors as a reason to value Tesla at a premium.

Yet, while Tesla's offerings may go beyond cars, cars still dominate its business operations. Indeed, far from growing to match the automotive segment, Tesla Energy has faded into the background with expanding battery storage installations barely filling the gap left by the long-term decline of the company's solar energy business. Given the segment's multi-year struggle and challenging margin environment, I find it hard to conclude that Tesla Energy is anything other than a drag on the rest of the business.

My verdict

There is a clear divergence between what Musk says about Tesla's solar power and battery storage opportunity and the tough realities facing the business segment, and that divergence has only grown in recent years and months, in my assessment. As the reality eventually begins to set in with the investing public, I expect a lot of air will be let out of the Tesla stock bubble.

When that realization will occur, however, is far from clear. Thus, my recommendation to investors – as ever with this name – is to move with caution and treat all news regarding it with a healthy degree of skepticism.

Disclosure: Author is short Tesla.

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About the author:

John Engle
John Engle is president of Almington Capital Merchant Bankers and chief investment officer of the Cannabis Capital Group. John specializes in value and special situation strategies. He holds a bachelor's degree in economics from Trinity College Dublin, a diploma in finance from the London School of Economics and an MBA from the University of Oxford.

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