Whitney Tilson’s email to investors discussing the responses to his analyst’s bull case on Tesla Inc (NASDAQ:TSLA).
Many interesting responses, roughly equally bullish and bearish (which I love!)…
Q2 hedge fund letters, conference, scoops etc
1) Well done piece. I remain a bull on the company and a bear on the stock (without a financial position). What is missing from the article (though clearly touched on) is this: I have many friends with Audis, BMWs, MBs, etc, all of which cost more than my Tesla (AWD LR 2019 Model 3). Once they are in my car, they are certain that there next car will be a Tesla. It is just that impressive and keeps on impressing in many ways, while other cars fade in glory.
To me, the biggest unknown is: how much demand might flow from more and better marketing. The car does sell itself, but it is the ONLY car I know of that does no traditional sales and marketing.
2) I'm certainly biased myself, but I do not find this whole ode to Elon convincing in the least. He is steel man-ing all his own arguments, and straw man-ing all the opposing arguments.
He never addresses the fact that the Model 3 isn't profitable, and sales for their more profitable models are slowing down continually.
He never talks about the fact that Tesla pulls in hundreds of millions in revenue from emissions credit sales every year (most likely every quarter).
He compares Chevy Bolt sales in Norway to global Model 3 sales.
Completely ignores the whole Panasonic fiasco, with the purchasing commitment that goes with it.
One second he (briefly) mentions the procession of senior management that keeps leaving the company, and next says how all engineers want to work there. Because people love to work for companies where they keep seeing the managers leave.
Never talks about all the endless servicing and repair waiting times.
Never mentions the insider stock sales, or the board members who will not be renewing their directorships.
He also confuses that Elon will say anything with Elon actually doing anything to make the company succeed.
Doesn't mention the fact that Tesla just opened new territories for sales that likely bumped up demand temporarily.
Thousands of cars standing in lots doing nothing.
China wants Tesla to succeed? When has China wanted anyone to succeed? Given their history of industrial espionage, IP theft, and expropriations, you'd have to be incredibly certain that you have covered all your bases covered in order not to lose your shirt in China.
Disclaimer: our friends have a Model X. The car is incredibly cool. But one of the first times I sat in it, the regenerative braking didn't kick in.
3) I give you credit for having hired such a smart young man ;)
4) What your Tesla bull ignores is these three issues, which completely and utterly demolish the case for BEV and not only for Tesla, but especially for Tesla since they committed themselves to a BEV only strategy.
- The consumer use case is dead. The way BMW analyzed that there is NO demand for BEV in Europe outside of incentives and regulation, for the consumer use case simply does not exist. Their conclusion, the only markets with demand for BEV are California and China.
- But China is already shifting from BEV towards hydrogen, shifting $17 bn from BEV towards FCEV.
- The regulatory use case is dead. The marginal analysis that is now beginning to be widely accepted is that hybrid cars reduce CO2 from the automotive sector far faster and much more than the BEV sector, so that even for committed greenies, if they get honest, the use case for BEV from a policy standpoint is dead. The meaningful forward strategy is hybrid now and FCEV later.
In short, Tesla committed too early to a single technology as the right one for the future, which is now increasingly being recognized as wildly suboptimal. It plunged some legacy car makers prematurely into a BEV strategy. Toyota and BMW may be a few of the smart ones that may be left standing in the end. BEV is a dead end. Combine all that with the mounting quality problems of the model 3 and it will end up that Tesla did for cars, what pantyhose did for fingerf*cking. (I would not publish that last comment, but I consider this private correspondence.) The point is Tesla did shake up the automotive industry, but caused the lemmings to go off the cliff on a BEV bet... only a few thought it through and have a chance of coming out as winners. For the most part the BEV will prove to be a historical mistake, a dead-end.
5) I think you just made Mark Spiegel spit out his morning coffee.
6) Thanks for the article. Overall, I think it’s a good one, and admire your analyst’s courage and kudos to you for your open-mindedness as the boss.
I would have liked to have seen more balance sheet analysis with more elaboration on their debt load and how they are going to cover that moving forward. I know he mentions Damodaran’s assessment, but what about his? Of course assuming Tesla’s demand is highly, highly cyclical. Given their levered balance sheet, heavy/ongoing CAPEX, and assuming a more than likely recession in the next few years; they have very little room error. Given that, my questions are:
- Assuming soft credit markets, how will they fund these needs given their current capital structure?
- How can they fund just their current operational needs as is in event of stress?
- Truly what value can be assigned to their assets in event of stress?
I may be off the ranch here, but want to help prevent “Errors of Omission.” Thanks and keep up the great work!
Kevin’s reply:
Tesla remains an incredibly risky stock. Although I alluded to that, I should have emphasized this more and maybe discussed position sizing so nobody gets hurt. Because this seems obvious to me, I didn’t spend much time on it. Nevertheless, this was still a failure on my part and thank you for pointing it out.
Your questions are good ones, but I would add to your point by saying that the company doesn’t even need a recession to experience stress given the capital structure. All it needs is softer demand than anticipated and this is why some of the smartest investors in the world - Whitney being one of them - think the game is over. This is reflected in the stock and bond market (or maybe just beginning to be reflected).
In this case - even without a recession - some sort of restructuring will likely be necessary. One of the reasons I believe Whitney chose $100 as a target as opposed to zero is because he thinks there is some value there and/or knows that Musk has quite a few billionaire friends and has a gift for raising money.
This is why my whole thesis is based on demand being higher than Wall Street expects. Their capital structure is essentially a result of their biggest asset and their biggest liability – Musk. He should have raised more equity at higher prices instead of debt, but I guess a combination of hubris, his insane comp program, and his confidence in demand for his products explains this choice.
Essentially, demand (as a result of the reasons discussed) will be the “bailout” they need to improve their operating leverage and margins so that the market will regain confidence in the story. In turn, this will allow them to continue funding the massive investments necessary through cash flows and further capital raises. Obviously, I may be proved wrong.
In terms of a recession, there is a chance that the only reason Tesla is still alive as we know it is because we have gone so long without one. Although the business is clearly cyclical, there is a decent chance that the nature of the demand dynamics with the secular shift to EVs and their unique products and brand strength will help them ride out a recession. However, this depends heavily on how the demand and margins settle out over the next 6-12 months.
I agree 100% there is little room for error, but this has always been the nature of Tesla and Elon Musk. I still haven’t quite figured him out, but I think he thrives on operating this way. We’ll find out within the next year of two if it will finally get the best of him.
Thanks for your valuable feedback. I will definitely include more of the risks if I end up publishing it.
7) I have been wanting to tell you a fun story about my wife and Tesla. Sha has been listening to me do research (on the sofa at night) on the model 3 for 6 months, but I never bought one. She owned an Audi A5 for the past four years and is a 60 year old business woman who is someone stylish (unlike me) only buys Apple electronics, ect.
A month ago she walks in the house from work and announces immediately “I saw the cutest red car on 83 (interstate) pulled up next to it to see what it was, and it was a Tesla Model 3, I am going buy one.” Now, her current Audi was 4 years old, and she had been casually listening to me talk about the software, but I was shocked buy her statement. She is not an impulse person, pretty measured.
She goes to a dealer 2 days later to see one, and buys it on-line 2 days later. I had to scramble to get the 50amp plugs installed, it was delivered 10 days later. She has owned it for three weeks and never stops talking about it, I am sick of hearing about it at this point. Talks to everyone about it. She loves it.
She bought the most expensive configuration you can get ($49,000 before rebates) – AWD, long range battery, and red (extra $2k for red). She manages the car from her phone via the Tesla app which is a beautiful piece of software I had not ever seen. She learned the user interface in the car in a few days with no support. She is a single datapoint, but if she is an indicator of the general Tesla buyer, they are gonna sell a lot of these cars.
8) Where are the numbers/projections, etc.? It appears that this article could be written whether TSLA trades at $100 or $1000. At least throw around some round numbers in some fashion. In the end the numbers actually do matter.
I see a whole lot wrong in the article; perhaps the biggest weakness is that there are a lot of assumptions about TSLA tech leading with no underlying research to support it. Are they really leading in batteries? Why would one think they are ahead of companies that have been doing it for much longer and for which it is the prime business? TSLA is ahead of Panasonic? No risk of TSLA’s battery tech becoming obsolete? Advantages in AI? Doubtful. They are ahead of Google and Amazon (and others)? These are important things to focus on if they are going to be the foundation of the bull case presented. I don’t think your analyst has actually dug into them. That is bordering on malpractice.
There is plenty to criticize in the write up but overall I see the underlying arguments as, well, immature. Really. A smart college undergrad in a business school could knock out something like this in a couple of weeks. Another smart college kid from the same class could write an even better rebuttal than the bear case he presented.
“China allowed Tesla to build the first 100% foreign-owned and operated auto plant in the country because they are so committed to electric cars. In addition, it appears that the government really wants the company to succeed and the Chinese love the Tesla brand and Elon Musk.”
Ummm, it’s not built yet. More importantly, I didn’t realize that any analyst could be so naïve. The Chinese government wants a US auto manufacturer to succeed? Really?
My thinking is that before we even get to finding out the real numbers for Q2, the new demand/sales for TSLA for July will start dribbling out. People are very carefully watching this stuff. It won’t look good and the stock is likely to start drifting lower. Then the Q2 numbers will shake things up, but, again, very quickly the focus will be on Q3 demand and as the numbers come in over time the stock will follow.
9) The bears analyze tsla as if it’s a mature soft drink company, but this is a publicly listed late stage venture capital company with an evolving market and evolving products.
Bears are worried that TSLA margins have fallen by 20bp, or that Musk hasn’t yet delivered on an insurance product, but don’t see that costs will come down and multiple revenue streams will eventually be monetized.
Re: the demand issue and concern on prices dropping...
“I will build a motor car for the great multitude. It will be large enough for the family but small enough for the individual to run and care for. It will be constructed of the best materials, by the best men to be hired, after the simplest designs that modern engineering can devise. But it will be so low in price that no man making a good salary would be unable to own one -- and enjoy with his family the blessing of hours of pleasure in God’s great open spaces.”
Musk in 2019, no Henry Ford in 1908.
“Even Henry Ford himself was surprised by how much demand responded to the lower price. A price reduction to 35-40 percent of the original price boosted sales by more than 700 times. The fact is, the relationship between price reduction and demand expansion is asymmetrical. If you cut price by half or more, demand rises exponentially -- by tens or hundreds or thousands of times.”
And this was at a time where there were only scale benefits in manufacturing, and no benefits of data or networking.
Growth stories aren’t broken when they don’t show profit, but when they stop growing. I can’t think of a clearer growth story where you have a market leader in a massively growth market since e-commerce, smartphones, and credit cards.
You should be on the right side of history here. Even Citron made the right long term call here, though he traded it poorly.
10) “Another valuable lesson from Charlie Munger is that incentives drive everything. Setting aside the inferior 204-mile range of the Audi e-tron, this vehicle is the most impressive of the competitors to challenge Tesla to date.”
-- Why is the Audi eTron more impressive than Kia Niro, Kia Soul EV, Hyundai Kona EV or Chevrolet Bolt EV? (Opel Ampera-e in Europe) The Audi eTron is a twice as expensive vehicle, is larger, vastly heavier, has AWD and is off-road worthy, sure -- but why is it a better engineering showcase than any of those other cars from Kia, Hyundai or GM? Those cars have great range for their prices -- mostly from 235 to 260 miles of range for US-equivalent prices of approximately $38,000 or so. In other words, very similar to a base Tesla Model 3.
“Yet, what is the incentive for Audi to sell money-losing e-trons as opposed to their other, profitable models? On the contrary, Tesla’s entire existence depends on selling as many electric cars as possible.”
-- First of all, we don’t know what Audi makes or loses on the eTron. Audi doesn’t report a per-vehicle line profit & loss statement. So it seems to be pure speculation. Secondly, let’s say it’s true though. Is that supposed to be a good argument in favor of Tesla’s business model -- that it alone among non-Chinese meaningfully sized automakers has no profitable business to help offset its losses that seem to be politically mandated in the BEV (battery-electric vehicle) world?
“This is likely the reason the legacy automakers have put more effort into headlines describing their future EV plans than securing battery supplies – a major mistake since a massive amount of battery supply is necessary for any serious EV program.”
-- No. The reason automakers, in the aggregate, don’t make more EVs has nothing to do with battery supply. It has all to do with profits. If they could make money selling them, they would! Battery production has been increasing constantly for several years already, and will continue to do so. Tesla will sell around 350,000 or so cars this year, out of close to a 2 million unit market. How come those other companies are able to have at or more than 80% of the market if they somehow can’t get batteries? To be sure, there will always be some automaker that will have a shortage here and there as a result of poor planning or unexpected demand. I believe Kia and Hyundai have been suffering from those phenomena for the last 10 months, for example. There will be other examples too, just like for other automotive parts. It happens here and there, but no major aggregate effect.
“However, the Chevy Bolt – the original “Tesla Killer” – is a great example of the industry’s approach. 70% of the Bolt’scomponents are made by LG Chem versus 90% of the Model 3’s being made in house by Tesla.”
-- GM has more experience in electric vehicles than any other automaker in the last two decades. Remember, manufacturing of the Chevrolet Volt began in November 2010. The Bolt EV came six years later -- November 2016. GM had the flexibility to make some of the components in-house vs letting a supplier make some of those parts. It chose the latter on this specific program. Why is that a bad thing? Isn’t it better to be flexible and allow for a supplier to outbid your internal production team?
“It’s not surprising, therefore, that the Bolt has had no success in Norway, where more than half of all car sales are EVs thanks to big government incentives. GM has sold a total of 223 Bolts since introducing it years ago – a number that the Tesla Model 3 has easily beaten many days this year.”
-- This is false. The Chevrolet Bolt EV is sold in Europe as the Opel Ampera-e, which has sold 2,664 units in Norway to date. The fact that there have been 223 Bolt EVs privately imported to Norway in addition to those, is not all that relevant. More relevant to GM/Opel in Norway are two other points, however. First, the Scandinavian countries have not been into GM or Opel cars historically. They have a bad quality reputation there. German and Swedish brands dominate in those geographies -- Volvo, VW Group, BMW and Mercedes. After those, the Korean and Japanese do pretty well. Secondly, and a lot more important in this case, is that GM sold Opel to PSA -- the French! -- two years ago, just as the Ampera-e was going on sale in Europe. Based on a variety of issues (transfer pricing, etc) between GM and PSA, the European sales plan for the Ampera-e got cut dramatically. So, that’s the main reason GM has exported so few Opel Ampera-e (and the same car with a different badge, the Chevrolet Bolt EV) to Europe.
“Battery supply is a major issue as Audi has been forced to slow production of its e-tron and delay the launch of its next model due to battery shortages from LG Chem. LG Chem is also a major battery supplier to other OEMs, so not surprisingly it’s taken advantage of this dynamic and raised prices.”
-- That’s a rumor that has never been confirmed by any of the parties involved. Besides, sales of the Audi eTron has done pretty well against Tesla Model X and S in Europe, so what’s the problem?
“VW has estimated that the industry will need the equivalent of 40 Tesla gigafactories by 2025 in order to meet battery demand, assuming that 25% of sales volumes are hybrid or fully electric vehicles. Where are all the plans for these factories? Not to worry, VW has taken a page out of Elon Musk’s playbook and recently announced that its battery supply is “secured.”
-- “Assuming that 25% of sales volumes are hybrid of fully electric vehicles.” That’s like saying that the automakers couldn’t adjust if 25% of sales volumes were to become a different body style, such as going from sedans to SUVs. If consumer preferences change, you can be sure that the automakers will shift their volumes too. It won’t happen in perfect lockstep -- building factories and changing production doesn’t happen with such smooth perfection -- but on the whole, that’s what will happen in that scenario. It’s a different story whether consumers actually *want* to pay for 25% of their cars to be electric. Of course, if the government mandates the whole thing, then you eat what The Politburo forces you to eat.
“Also, VW is just waking up to the fact that the Tesla Model 3 battery contains less than ¼ the amount of cobalt than their batteries in the VW ID3 – due to be launched in 2020. Meanwhile, Tesla is working on eliminating it entirely from their battery cells.”
-- And you don’t think Volkswagen and its battery cell suppliers aren’t?
“A clear demonstration of the difference incentives make is Musk’s comment at the shareholder’s meeting that Tesla may get into the mining business.”
-- That’s a clear sign of insanity or hubris. What’s next -- getting into the semiconductor business in order to compete with Nvidia or Intel? Oh wait...
“...the rest of the industry will do anything to continue selling their more profitable gasoline-powered vehicles.”
-- Um, this is called “sound business practice.”
“Speaking of incentives, the dealership model is an additional headwind to EV sales. The majority of dealership profits come from service. Since EVs need very little service, dealerships have powerful incentives not to sell EVs.”
-- Ironically, that’s not true for Tesla. An electric car is supposed to require fewer regular maintenance (such as an oil change every 10,000 miles) events, but Tesla sure is in the shop more often than any other car in the market: 468% more often, as measured by TrueDelta: https://www.truedelta.com/Tesla-Model-3/reliability-1376
“I saw this when I went to test drive the Jaguar I-Pace (read my review here) and the salesman didn’t even try to sell the car.”
-- And here I thought that it was a positive that salespeople were not supposed to be pushy? I thought that that was supposed to be a plus. Apple stores, hello? What you’re telling me is that trying to buy an electric car from a regular car dealer is like going into the Apple store. The reality is that any car dealer will be happy to sell you any car they have on the lot. No car dealer is happy sitting on inventory costing them interest every day. A car dealer will sell whatever is in demand -- otherwise the customer goes somewhere else, and it costs them money to sit on inventory.
“This is why Tesla has fought hard to use a direct sales model, even in the face of being banned in some US states thanks to the political muscle of the dealerships. This was a bold, smart move by Tesla that traditional automakers will be hard-pressed to match.”
-- This is true. Tesla should be allowed to sell its cars directly, just like most other products. Other automakers are prevented by state franchise laws from following this model. It’s not obvious to what degree this is an advantage, however. You need scale in order to make a direct sales model work, especially for large/heavy products such as an automobile.
“It’s great to see that Electrify America is adding high-speed chargers across the U.S., but they’re still way behind Tesla.”
-- Seeing as EA started opening its sites only little over a year ago, and Tesla started in late 2012, it should be no surprise that EA has not yet caught up. However, they’re spending $2 billion in the U.S. alone and just look at the EA map to see for yourself: https://www.electrifyamerica.com/locate-charger When I looked at EA’s U.S. map a moment ago, I counted 445 across the fruited plains -- almost complete to connect the major metropolitan areas across the country. Give it another few months, and they’re there.
“This lead is obvious when you consider Tesla’s EV powertrain, but it is also clear when you analyze Tesla’s seamless integration of hardware and software. The future car is a computer on wheels and no car manufacturer rivals Tesla’s talent in this area, including the ability to update software over-the-air. These OTA updates have been accelerating and improving since their introduction in 2012 while other companies have barely begun offering them – GM recently announced that it will offer them, but not in every model, and not until 2023.”
-- That’s not exactly true. GM cars have had over-the-air updates as early as 2006 or so. The difference is that those over-the-air updates don’t touch things such as steering, braking or acceleration. It tends to be limited to infotainment and telematics functionality. Ford has had this for the last three or so years too -- almost every Ford comes with SYNC-3 which gets over the air updates. The risks associated with over the air updates are huge. If something goes wrong, someone could die and the whole company could be sued or otherwlse legislated into oblivion. Remember the “unintended acceleration” lawsuits against Toyota a decade or so ago? Billions of dollars in liability. Did you see what happened to Boeing in the last couple of months, as its software malfunctioned? If you are an automaker, you are taking enormous tail risk with OTAs. It’s all fine and dandy as long as they work, aren’t hacked or a “bad government” doesn’t use them to insert its will into the matter. But as soon as something goes wrong, your “computer” (car) has now been hacked. As Dirty Harry said in 1970, “Do I feel lucky today?”
“But there’s evidence that demand has rebounded strongly as Tesla sold a record 95,200 cars in the second quarter – a big jump from the first quarter’s 63,000.
-- And yet, Tesla delivered fewer cars in the first half of 2019, than it did in the second half of 2018. The adjusted run-rate looks a lot like 90,000 per quarter. That seems to be Tesla’s capacity at Fremont. Until the China factory comes online, sales are unlikely to average much above 90,000 at best, and perhaps a little below, depending on pricing and other quarterly fluctuations.
“If the “demand cliff” so integral to the bear thesis – which has now been moved forward 6 months - is wrong and second half numbers are better than expected, I think the short thesis will unravel and the stock will soar.”
-- Let’s say that Tesla sells 91,000 cars in Q3 and 101,000 cars in Q4, from Fremont. That means 350,000 for the year. Perhaps add another 10,000 from China, for a grand total of 360,000. Do you think that will be bullish or bearish for the stock? Unless this volume comes with healthy and sustainable profits -- not one-time gimmicks -- I say it is more likely to be bearish.
“Tesla is destroying the competition with the Model 3 and this is before it enters the most popular segment, crossovers. Although the Model 3 was indeed a “bet the company” program, it’s only a warm up for the Model Y. Tesla plans to sell more Model Ys than S, X, and 3 combined given the size of the crossover segment. And given that 75% of the parts in the Model Y are shared with the Model 3, I think both the cost and speed of the Model Y launch will surprise everyone.”
-- There is some truth to that. However, look at the competition as it emerged for the Model S, X and 3, and then compare it with the competition for the Y. The S, X and 3 had little to no competition for the longest time. The Y will have stiff competition essentially from Day One -- and in some cases even before it arrives. Yes, the compact crossover segment is the place to be, but that’s also why other automakers are going there. I can’t think of a single volume automaker that isn’t going to blanket this with entries. Here are just some initial examples (there will be close to 50 or so of them in the market by 2022): Audi Q4 eTron, Volvo XC40, VW Crozz, Ford (no name), GM (several), Nissan, Hyundai, Kia, Toyota and others. You add them all together and consider the pricing pressures in that segment. Profits will continue to be elusive.
“Do the bears really believe that Tesla’s market share a few years from now will still be 0.29%???”
-- Actually, the bears think Tesla’s market share will be 0%, for it will have gone out of business. But if it stays in business and it continues to sell below cost, and government subsidies (emissions credits, etc) continue or even worsen, then it’s possible that Tesla’s market could approach 0.5% in four years from now. That’s probably the best-case unit volume scenario for Tesla.
“To do this, however, you need a massive amount of capital and conviction – and, of course, the will to design EVs that people actually want to buy.”
-- You must not have been paying attention to how much money automakers are spending on electrification. In fact, it’s taking a huge hit to their earnings numbers. Also, how do you explain that the Audi eTron and Jaguar i-Pace are doing so relatively well against Tesla Model X and S in Europe? Those were just the two first premium mainstream-form-factor EVs to arrive in competition to the X and S. What will happen when the Mercedes, BMW, Ford and Volvo start their equivalent sales over the next several months, between now and Summer 2020?
Sandy Munro, a well-respected auto consultant, was surprised to see that the Model 3 has the potential for a 30% profit margin and claimed, “No electric car is getting 30%. Nobody.”
-- Munro has been a credible guy, widely respected in the industry -- but most people in the industry think he is wrong on this 30% number. Every automaker has bought dozens of Teslas and torn them down. If Munro was right, Tesla wouldn’t have lost $700 million in Q1 alone.
“Whether Tesla can achieve this with their current cost structure and manufacturing issues remains to be seen, but the fact remains they are the only company making the necessary investments to produce a desirable, profitable EV without incentives.”
-- Without incentives? What? Whatever the other items of dispute, two things are clear: No company gets as many incentives (government-mandates policies, such as emissions credits) as Tesla, and no major automaker still loses as much money per car as Tesla if you average out a few quarters in a row, say a rolling two-year average.
“China allowed Tesla to build the first 100% foreign-owned and operated auto plant in the country because they are so committed to electric cars. In addition, it appears that the government really wants the company to succeed and the Chinese love the Tesla brand and Elon Musk.”
-- When it comes to Chinese treatment of foreign automakers on Chinese soil, let’s just say that the that jury is out! China has well over 300 of its own EV automakers, and it would be a shame if anything happened to the business prospects for any of the foreign-owned (in whole or in part) automakers trying to compete with China, on Chinese soil.
