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TESLA:ATALEOFDISRUPTION,WITHADEBTTWIST!
Interestpaymentswithhopeandpotential?
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TheStoryStock
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FromStorytoValue!
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FromHeighttoHeight:ThemarketlovesTesla
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Leapingovertheestablishment…
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Whiledeliveringgrowth(thoughnotprofits)
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AndChangingtheAutoBusiness
¨ TheEarlyResponse:Whileitwasdismissedbytheotherautomobilecompaniesasanewcomerthatwouldlearnthefactsoflifeinthesector,asitaged,thereversehasoccurred.
¨ TheStatusQuoshifts:Itistheconventionalautomobilecompaniesthatare,slowlybutsurely,comingtotherecognitionthatTeslahaschangedtheirlong-standingbusinesswithitsinnovations.Volvo,aSwedishautomakernotknownforitsflair, announcedrecentlythatallofitscarswouldbeeitherelectricorhybridby2019,and Ford'sCEOwasdisplacedfornotbeingmorefutureoriented.
¨ Inahide-boundsector:Alittlemorethanadecadeafteritburstontothescene,itisatestimonialtoElonMuskthathehasstartedthedisruptionofoneofthemosttradition-boundsectorsinbusiness.
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ValuationUpdate
¨ StoryUpdate: MystoryforTesla,fromJuly2016,ofacompanythatwillbeabletomeldthemarginsandreinvestmentneedsofatechcompanywiththerevenuesofanautomobilecompanyremainsintact.
¨ NumbersUpdate: Thereweretwotweakstothenumbers:¤ Higherend-yearrevenues:Therevenuesinyear10willbecloseto$93
billion,upfrom$82billioninmyJuly2016valuation.¤ Lowerreinvestment:Theimprovedoperatingmarginsreduce
reinvestmentneedstofundgrowth.Youstillhavesevenyearsofnegativefreecashflowstotaling$15.5billion,requiringcapitalinfusions.
¨ ValueUpdate: Updatedvaluepershareof$192.34,upfrom$151.85fromJuly2016.
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Tesla’sChallenges
¨ CanTeslasellmillionsofcars? TherevenuesthatIprojectin2010willrequireTeslatosellcloseto2millioncars,inthefaceofincreasedcompetition.
¨ Canitmakemillionsofcars? TherearetwoproductionteststhatTeslahastomeet. Thefirstistiming,sincethedeliverieshavebeenpromisedforthemiddleof2018andtheassemblylineshavetobehummingbythen.Thesecondiscost,sinceasubtextoftheTeslastory,reinforcedbyElonMusk,isthatthecompanyhasfoundnewandinnovativewaysofscalingupproductionatmuchlowercoststhanconventionalautomobilecompanies.
¨ Canitgeneratedoubledigitmargins? Inmyvaluation,Iassumeanoperatingmarginof12%forTesla, almostdoubletheaverageof6.33%forglobalautocompanies.
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Tesla’sOddFinancingChoices
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Withanewdebtissuecomingup..
¨ Thatdebtload,alreadyhigh,givenTesla’soperatingcashflowsislikelytogetevenbiggerifTeslasucceedsinits newestdebtissueof$1.5billion,whichitishopingtoplacewithaninterestrateof5.25%,tryingtowoobondbuyerswiththesamepitchofgrowthandhopethathasbeensoattractivetoequitymarkets.
¨ Thatsuggeststhatthosemakingthepitcheitherdonotunderstandhowbondswork(thatbondholdersdon'tgettosharemuchinupsidebutsharefullyinthedownside)orareconvincedthatthereareenoughnaivebondbuyersoutthere,whothinkthatinterestpaymentscanbemadewithpotentialandpromise.
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TheDebtEquityTradeoff
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AndwhydebtdoesnotmakesenseforTesla¨ Notaxbenefits:Itisacompanythatis notonlystilllosingmoneybuthas
carriedforwardlossesofcloseto$4.3billion,effectivelynullifyinganytaxbenefitsfromdebtforthenearfuture.
¨ Nodisciplinaryfunction:WithElonMusk,thelargeststockholderatthecompany,atthehelm,thereis nobasisfortheargumentthatdebtwillmakemanagersmoredisciplinedintheirinvestmentdecisions.
¨ Largebankruptcyrisk:Thecompanyisstillyoungandlosingmoney,and addingacontractualcommitmenttomakeinterestpaymentsontopofalloftheothercapitalneedsthatthecompanyhas,strikesmeasimprudent,withthepossibilitythatonebadyearcoulditspromiseatrisk.
¨ Agencyproblems:InacompanylikeTesla,makinglargeandriskybetsinnewbusinesses, thechasmbetweenlendersandequityinvestorsiswide,andlenderswilleitherimposerestrictionsonthecompanyorpriceintheirfears(ashigherinterestrates).
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SowhyisTeslaborrowing?
¨ TheDilutionBogeyman:Thefirstisthatthecompanyoritsinvestmentbankersaresoterrifiedofdilution,thatastockissueisnotevenonthetable.Oncethedilutionbogeymanentersthedecisionprocess,anyincreaseinsharecountforacompanyisviewedasbad,andyouwilldoeverythinginyourpowertopreventthatfromhappening,evenifitmeansdrivingthecompanyintobankruptcy.
¨ Inertia:AutocompanieshavegenerallyborrowedmoneytofundassemblyplantsandthebankersmaybereadingthecapitalraisingrecipefromthatsamecookbookforTesla.ThatisincongruentwithElonMusk’sownstoryofTeslaasacompanythatismoretechnologythanautomobileandonethatplanstochangethewaytheautobusinessisrun.
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WhatTeslashoulddo..
¨ IssuingsharestofundinvestmentneedswillincreasethesharecountatTeslabyabout3-4%(whichiswhatyouwouldexpecttoseewitha$1.5billionequityissue)butthatisafarbetterchoicethanborrowingthemoneyandbindingyourselftomakeinterestpayments.
¨ IfTeslaisdeadsetonnotraisingitssharecount,whynotissuelongterm,reallylowcouponconvertiblebonds, verysimilartothisonefrom2014,abondonlyinnamesincealmostallofitsvaluecamefromtheconversionoption(whichisequitywithdelayeddilution)?
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TheConclusion
¨ TheTeslastorycontinuestoevolve,andthereismuchinthestorythatIlike.Itischangingtheautomobilebusiness,afeatinitself,anditisstartingtodeliveronitsproductionpromises.
¨ Thenextyearmaybemanufacturinghell,butifthecompanycanmakeitsthroughthathellandfindwaystodeliverthetensofthousandsofTesla3sthatpeoplehaveputdowndepositsfor,itwillbewellonitsway.
¨ Istillfindthestocktobetoorichlypriced,evengivenitspromiseandpotential,formyliking,butthismuchIknow.Iwouldratherownequityinthiscompanythanthebondsthatitisplanningtoissue.