Tesla Motors (TSLA, Financial) is reportedly pledging its Fremont factory as collateral, in a revision of its borrowing agreement with creditors. The company is apparently shoring up liquidity options in order to ramp up the production of Model 3. Tesla has half a billion dollars left in its $1.8 billion credit facility while the company continues to burn cash.
Despite CEO Elon Musk’s recent comments on financing, the company is trying to make conditions favorable for further financing. Fremont factory is one of the most critical assets of Tesla as it’s the home for Model 3 production.
Financial risk keeps on mounting for Tesla. Not only is the company burning through cash, but one of its convertible bonds is maturing next year. Tesla will most certainly need favorable liquidity scenario going forward. Currently, the company has more than $2.7 billion in cash with an additional $543 million available through a credit facility, making the total liquid funds in excess of $3 billion.
With almost $1 billion spent on operations and capital expenditure during the first quarter of 2018, the runway is limited to three quarters if the company continues with its capex spending. Without capex, the company still has six to eight quarter of funds to finance its operation.
Musk refuses to acknowledge the need for funding
Musk is persistent in saying that the company is not in immediate need of funding. Moreover, he said that Tesla will start turning a profit by the third quarter of 2018. Based on these two comments, at least on the surface, Tesla’s financing needs might not be imminent. However, the actions are telling something entirely different. The collateral deal is a clear indication that the management foresees a need for further financing at some point in future.
Profit might not be enough given capex needs
The problem for Tesla primarily lies in capital expenditure and debt maturity. Even if Tesla turns a profit, it might not translate into free cash flow due to capital spending. It is worth mentioning that Tesla depreciates its assets by almost $500 million each quarter.
This means that the company has to spend at least half a billion dollars on capex each quarter in order to sustain its asset base. Tesla will continue to burn its cash reserves even after turning a profit unless its Ebitda crosses the $500 million threshold. Note that the company reported a net loss of more than $700 million during the first quarter of 2018, meaning that it has to turn $1.2 billion in net profit in order to break even in terms of free cash flow. This doesn’t seem likely, at least in the next couple of quarters.
Maturing debt is also a problem
Moreover, $920 million in senior convertible notes are maturing in March 2019. This further aggravates the need for financing in the short term. Unless Musk believes that the company can turn $1 billion in cumulative profit during the next couple of quarters, financing seems essential to Tesla’s going concern.
Can Tesla go bankrupt?
The chances are remote, at least in the short term. Tesla has several valuable assets including its Gigafactory and electric-vehicle-related IP. Given that the company is using an asset-backed strategy for financing, it can use its prized assets to secure liquidity channels in the short run.
However, such measures in the short term will only add to the financial risk of the company, making further financing almost impossible.
From a long-term perspective, Tesla must turn a good profit consistently in order to remain relevant. Whether the company achieves that feat or not, only time will tell.
Disclosure: I have no positions in any stocks mentioned and no plans to initiate any positions within the next 72 hours.
