Note: This is not investment advice. At heart, I’m a value investor, and Tesla is no value investment. I view it as a binary venture-type bet. I am a shareholder.
I believe that Tesla is one of the most misunderstood (and most exciting) tech companies right now.
After I rented a Model S for a weekend in 2017, I started following the company more closely. I turned from skeptic to enthusiast. (I even almost bought one, and would immediately buy one if I really needed a car).
Here is what people don’t understand:
1. It’s all about battery supply
It’s 2020. Companies like Daimler, Volkswagen or Jaguar are slowly and painfully realizing that the limiting factor of electrification is battery supply:
- Mercedes-Benz cuts EQC electric SUV production target in half due to battery shortage, report says.
- VW holds battery suppliers tight amid anticipated shortages
- Audi’s first electric car reportedly delayed again because of a battery shortage
- Jaguar halts electric SUV over battery shortages
Meanwhile, Tesla has a multi-year head start:
- In July 2014, Tesla announced Gigafactory Nevada, a $5 billion investment, which started mass production in January 2017
- Tesla is investing in fundamental battery research: Tesla battery researcher unveils new cell that could last 1 million miles
- Tesla bought automation company Grohmann Engineering in 2017, putting pressure on the competition.
- In 2019, Tesla acquired Maxwell Technologies, which has dry electrode and ultracapacitor technologies, promising more power, more range and more durability in the future.
- The Model S of a customer has reached 1 million kilometers.
Elon Musk is remarkably transparent about this:
“So, the thing we’re going to be really focused on is increasing battery production capacity (…) we got to scale battery production to crazy levels that people cannot even fathom today. That’s the real problem.”
Tesla Q4 2019 Earnings Call
As a result of all this, Tesla not only has the best cell chemistry, but also the highest battery production capacity, resulting in superior energy efficiency:
2. Gigantic ambition
Tesla’s mission is to accelerate the world’s transition to sustainable energy.
https://www.tesla.com/about
Elon Musk has repeatedly said that he won’t stop until all cars are electric. Tesla ultimately wants to produce millions of electric vehicles per year, if not tens of millions.
“A few years ago, I said in my estimate, that Tesla would grow at an average compound annual rate in excess of 50%. I still hold to that belief.”
Tesla Q4 2019 Earnings Call
In 2006, Elon Musk published his master plan:
Build sports car
https://www.tesla.com/blog/secret-tesla-motors-master-plan-just-between-you-and-me
Use that money to build an affordable car
Use that money to build an even more affordable car
While doing above, also provide zero emission electric power generation options
By 2018, they accomplished what they said they would do.
In 2016, they published the master plan, part 2:
Create stunning solar roofs with seamlessly integrated battery storage
https://www.tesla.com/blog/master-plan-part-deux
Expand the electric vehicle product line to address all major segments
Develop a self-driving capability that is 10X safer than manual via massive fleet learning
Enable your car to make money for you when you aren’t using it
If there is no major catastrophe, like Tesla or Elon Musk dying, I’d say the chances are pretty decent that they’ll achieve part two as well. The only question is when.
3. Healthy gross margins
The common belief is that Tesla is losing money on each car they sell. This is wrong.
Tesla’s automotive gross margin is ~20% (source). Exactly the same as Volkswagen’s (source).
This is okay, but of course very low compared to technology companies like Microsoft, with a gross margin of 67% (source).
However, Volkswagen’s customer fleet, due to its maturity, has many more cars that are out of warranty, allowing them to sell high-margin spare parts and service.
Tesla, on the other hand, is achieving the same gross margin with a much smaller percentage of out of warranty cars (70-80% for traditional car makers vs. less than 20% for Tesla, according to Elon Musk).
Lastly, electric cars need much less maintenance, which will put major pressure on the old guys, who rely on this source of revenue.
4. Software and in-app purchases
Tesla is not just a manufacturer. It’s also a software company. This is where the future superior margins will come from:
- Full self driving is a $7000 add-on.
- In-app purchases offer simple upgrades like the $2000 acceleration boost, which is delivered over the air.
- Premium connectivity for $9.99/mo to enjoy video & music streaming.
It’s pretty clear to me that software will become a major part of Tesla’s business, and that the list above is just the beginning. Also, as those products become better, the adoption rate of new, as well as existing customers, will increase.
5. Investing as fast as possible
Tesla is not cash-constrained. On the contrary, they invest as fast as they possibly can. Elon Musk:
“Well, we’re actually spending money as quickly as we can spend it sensibly. So if there’s any sensible way to spend money, we’re spending it. There is no artificial hold back on expenditures. Anything that I see that is what looks like it’s got good value for money, the answer is yes immediately.”
Tesla Q4 2019 Earnings Call
Tesla generated $1.1 billion in free cash flow in 2019, so they have turned from a cash-burning to a cash-generating business.
The main constraint is not money, but engineering talent. Even though SpaceX and Tesla are #1 and #2 for engineering students, you just cannot scale an R&D operation as easily. You not only have to find the talent, but also integrate it into the organization in an effective way. (Source)
Back in 2010, when Tesla has just delivered a total of 1400 cars (!), they bought the former GM-Toyota NUMMI factory. How crazy was that at the time. Fast forward to today. In 2019, this factory delivered 367,500 vehicles.
6. Exceptional customer satisfaction
Most people who have an opinion on Tesla have never owned or rented one. This is a mistake. I highly suggest renting one for a weekend, and see for yourself.
Unlike Theranos, where the product was a mirage, Tesla’s products are very real. Customers love them: Nearly 99% of Model 3 Owners Recommend Tesla to New Customers, says Bloomberg Study.
You just feel that Tesla has put its heart and soul into the product. It’s not an ordinary product. It’s a product of love. By people who care.
Even Germans are jumping ship. I know multiple Germans that have become raving Model 3 fans. Completely forgetting their BWMs and Audis. Out of sight, out of mind.
Each Tesla customer is an ambassador. Gladly offering test drives. I’ve both driven a Model S and Model 3 from friends. They love to spread the experience.
The Tesla fleet is growing exponentially, and so are its ambassadors.
7. Direct to consumer
A Tesla can be ordered in less than 2 minutes from a phone. Try to do that at any other major car company. I tried, and the user experience is so much worse.
More importantly, Tesla has no dealership structure, removing a middleman and major source of complexity. The Innovator’s Dilemma with it’s inherent path-dependency is making it all but impossible for the others to go direct to consumer as well.
The dealership structure will be a major burden for big auto, especially in an electrified, low-maintenance world.
8. Startup DNA
Tesla fundamentally has startup and Silicon Valley DNA. They move fast. They iterate fast. They have tight feedback loops.
This is not just theory. Here are the results:
- Gigafactory Shanghai went from ground-breaking to start of production in 10 months (and to first deliveries just 2 months later)
- Model Y went from prototype-unveiling to start of production in 10 months (first deliveries are expected in March 2020)
- Countless over-the-air updates, many based on customer feedback: for example Dog Mode and Joe Mode
Compare that to mature and bureaucratic companies, with mercenary managers. Who will innovate faster? Who will get things done quicker?
9. High degree of vertical integration
In the early years, Tesla had trouble to convince established auto suppliers to work with them. Who would work with a startup with bad survival odds, when you can work with established companies?
Out of necessity, they had to “vertically integrate, or die”. (Source)
They survived this difficult challenge, and now reap the rewards: much less complexity, much tighter feedback loops, more innovation.
10. Ride sharing
I could have put this under “software”, but this could be such an important business line, that it deserves its own section.
Tesla will add ride sharing capabilities, which will enable it to earn a cut (usually 20-30%) from rides on their network.
The end game is to offer fully autonomous robotaxis, but they will start with regular ride sharing before that. Elon Musk:
“it probably will make sense to enable car sharing in advance of the robotaxi fleet because the car sharing can be done before Full Self-Driving is approved by regulators.”
Tesla Q4 2019 Earnings Call
That means that Tesla will not just make money from cars and software, but also make money from each mile that is driven on its ride sharing network.
The only question is, how big will this get? If they don’t solve full self driving, then this will just be another version of Uber/Lyft or Zipcar or Turo. It can be substantial, but probably not huge.
But if, and this is still a big if, they solve full self driving and can offer fully autonomous robotaxis, this can become gigantic, especially if they are the first ones. This is not unlikely, because they have the largest fleet and by far the most data to train their neural nets.
11. Solar and energy business
Tesla is not only a car, software and tech company. They also have a major solar and energy business.
Tesla Solarglass Roof V3 is just starting to hit the market, and is ramping up fast.
They have simplified their solar panel offering and are beginning to scale this as well.
Add to that Powerwalls, Powerpacks and Megapacks (Tesla Energy).
I fully believe that the energy business can become as large as the car business, with likely much lower margins, until they achieve a huge scale.
The synergies are obvious. People love Tesla’s mission, so adding solar and Powerwalls will be a no-brainer for many customers. And of course, Tesla’s superior battery technology will power cars as well as their storage solutions.
Utility-scale Powerpacks and Megapacks are quite successful so far as well: Tesla’s massive Powerpack battery in Australia cost $66 million and already made up to ~$17 million.
As with cars, this business segment requires massive battery production capacity. Until this capacity is built, Tesla Energy will continue to be battery constrained. I’m sure they could sell much more storage if they had the batteries for it.
12. Level 5 leadership
After Elon Musk dies – which is hopefully many decades away – he will be remembered in a similar way as Rockefeller, Edison or Steve Jobs.
Yes, he is quirky and eccentric. But more importantly, he is a Level 5 leader:
Level 5 leadership is a concept developed in the book Good to Great. Level 5 leaders display a powerful mixture of personal humility and indomitable will. They’re incredibly ambitious, but their ambition is first and foremost for the cause, for the organization and its purpose, not themselves.
https://www.jimcollins.com/concepts/level-five-leadership.html
Apple nailed it in their “Think Different” campaign, describing those kinds of visionaries:
Here’s to the crazy ones, the misfits, the rebels, the troublemakers, the round pegs in the square holes… the ones who see things differently — they’re not fond of rules… You can quote them, disagree with them, glorify or vilify them, but the only thing you can’t do is ignore them because they change things… they push the human race forward, and while some may see them as the crazy ones, we see genius, because the ones who are crazy enough to think that they can change the world, are the ones who do.
— Steve Jobs, 1997
Conclusion
I intended for this to be a “quick blog post”. I ended up spending much more time than anticipated. However, this analysis is by no means complete, and by no means bulletproof. It just is my summary of the things I believe are most misunderstood, from almost 3 years of following the company.
What about valuation? I think that ARK Invest has done an excellent job of building an open source valuation model. Based on their model, and my own intuition, I don’t see a reason why Tesla shouldn’t have a chance of becoming a $1 trillion market cap company, possibly multi-trillion, within the next 10 to 15 years (here’s the latest update of ARK’s research) . Or of course, in true venture-style, they could still go bust (as nearly happened in 2018), because they will keep taking risks and betting the company.
The timing of publishing this is not optimal, as Tesla’s stock is currently experiencing a strong rally. I am the first to agree that the current run-up and enthusiasm is exaggerated. However, just 8 months ago, it was quite the opposite. Would I buy shares today? Probably not, even though a 10+ year bet might still work out. But again, this is not investment advice, so do your own research.
Tesla remains the most shorted US stock. While I never short stocks (nor buy on margin), I get why some investors do it. Most new car companies fail. So on average, short sellers probably make money. But it‘s wrong here. Morally wrong. Founders like Elon Musk are super rare. Instead of wanting them to fail, we should cheer them on, and wanting them to succeed. I do. With all my heart and soul.
Additional Resources
The Tesla community is amazing. Here are further resources that I can highly recommend:
- ARK Invest: Valuation Model & Potential Trajectory
- HyperChange
- Andy Slye
- Steven Mark Ryan
- Tesmanian Blog
- Third Row Tesla
- and the whole Tesla Twitter and YouTube community (so many amazing people)
If you have comments or feedback, let me know on Twitter.
