Devonshire Research Group has just released Part II of its short thesis on Tesla Motors. Part I of the short-selling firm’s thesis was released in March when it accused the automaker of having a financing model that mirrors scams. This time around, the firm accused the automaker of having a financing model that mirrors scams and explained its view that Tesla’s financing model shares “features of common Ponzi, Pyramid, and Matrix schemes.”
Currently the automaker remains a popular short with high-profile investors like Jim Chanos selling its shares short.
Tesla not an automaker?
Devonshire claims in its newest report that Tesla isn’t a car, battery or tech company, as most view it as, but rather, “an experimental financial services company,” and it states that the company should be regulated like such companies. The firm also claims that while the non-GAAP strategies used by it to limit the depreciation of its Model S sedans boost its stock price, this comes at the expense of “increased fragility and hidden downside risk.”
The mass market Model 3, for which Tesla has already taken more than 400,000 orders, creates even more risks, Devonshire also claims. Before the big reveal, the firm sees a 60% probability of at least one “tail risk misstep,” and after the reveal, it sees an 80% risk. Among the possible risks the firm names are quality issues that force delivery delays, a delay from Panasonic in its investment into the Gigafatory, the removal of tax credits, a worker strike, and the Securities and Exchange Commission antagonizing the company for CEO Elon Musk’s use of Twitter to promote the car.
According to Devonshire, all of these risks and more, if they occur, could cause drivers who have preordered a Model 3 to cancel their orders and demand a refund of their $1,000 deposits.
Alleged problems with Tesla’s business model
The firm maintains that there are three big problems with Tesla’s business model, which are: “Future-earnings pyramidal financing;” “loss-tolerant investors;” and “financing pyramid reporting.” The first problem involves “the act of raising capital to finance future losses rather than future returns,” Devonshire explained. It added that this dynamic assumes that a second capital raise will over future losses, thus enabling some investors to get out of their investments with a profit while others reinvest or take losses on it.
The second is described as investors who may lose their investment without even knowing that they’re losing it. The third is a type of financial reporting commonly used by nonprofits and venture capital firms which the firm states “accurately reflects businesses that are designed to lose money for long periods of time until subsequent investors are secured, who must confront the needs to building a profitable business.”
Tesla Motors vulnerable to collapse?
Devonshire states that Tesla is vulnerable because of its future-earning financing dynamic in its business model and argues that if the company doesn’t manage it, then it could collapse. The firm does admit that this dynamic is frequently not malicious in nature, but “delusional ambition” can lead to the same outcome. It’s easy to see how Devonshire came up with the word “delusional” as even Musk has said that it’s “impossible” to meet their July 1, 2017 production deadline for the Model 3. And yet, they moved up the target year for reaching production of 500,000 vehicles by two years to 2018, which some might say was a “delusional” decision. Even the automaker’s suppliers say they probably won’t be able to meet the demands.
“Tesla is operationally vulnerable, too dependent on the success of the Model 3, and needs to prepare for the possibility of a future-earning death spiral,” Devonshire warns.
The firm adds that there are several supplier-related problems as well, suggesting that the cost reductions that are needed for a $35,000 price tag on the Model 3 will strain the supply chain. It also warns that the high-tech components used in Tesla’s cars are vulnerable to patent suits in the U.S. and important bans invoked by the ITC. Devonshire also doubts that the Gigafactory will reduce battery costs enough to make a $35,000 price tag for the Model 3 possible.
Short interest in Tesla Motors remains high
Overall short interest in Tesla remains quite high at more than 28.1 million shares, although that has come down from earlier this year when more than 34 million shares were being sold short. Other high-profile investors that are shorting the automaker include Jim Chanos, who compared the automaker to embattled drug firm Valeant Pharmaceuticals recently.
Mark Spiegel’s Stanphyl Capital upped its Tesla short earlier this year, calling it the “market’s biggest single-company stock bubble” in its April letter. Citron Research is also targeting the automaker and its suppliers as well.
We have contacted Tesla about today’s report from Devonshire, but our request for a comment was not returned. We will update this article is one is received. Shares of Tesla Motors stock climbed by as much as 0.72% to $217.63 on Tuesday after ending Monday in the red.
UPDATE: We received the following statement from a Tesla spokesperson:
“To better understand, I’ll point you directly to language from our recent shareholder letter: Non-GAAP revenue is “useful in understanding the underlying cash flow activity and timing of vehicle deliveries. Management believes that it is useful to supplement its GAAP financial statements with this non-GAAP information because management uses such information internally for its operating, budgeting and financial planning purposes. These non-GAAP financial measures also facilitate management’s internal comparisons to Tesla’s historical performance as well as comparisons to the operating results of other companies. Our non-GAAP measures align the recognition of revenues and costs related to a vehicle sale with the time when the customer takes delivery of the car and cash is received or owed to us. This contrasts with the approach of other automotive manufacturers who under GAAP accounting recognize revenue when the vehicle is sold into dealership inventory rather than to end customers, even though in the case of a captive finance lease they may not collect cash for several years on a consolidated basis.”
For further details, please see the full update letter that we publicly released on May 4, 2016. http://ir.teslamotors.com/releasedetail.cfm?ReleaseID=969248 “