If you haven't read Fortune magazine's latest explainer on why Tesla is still a bubble waiting to pop then you might want to check it out before it's too late. They do a good job at taking a rational look at a very irrational valuation.
The Trillion Dollar Tesla Gamble
The Trillion Dollar Tesla Gamble
One caveat about that link though. It's only available to Apple News subscribers. If you don't have Apple News here it is below:
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Six weeks this autumn showed just how crazily detached Tesla the stock has become from Tesla the company.
During a stretch of 19 trading days from Oct. 8 to Nov. 4, Tesla shares soared 57%, to a peak of $1,230. The catalysts: a healthy, profitable third-quarter earnings report, followed by a Hertz news release unveiling its plans to buy 100,000 Teslas for its rental fleet. These were meaningful business milestones—signs that Tesla’s once-radical electric vehicles were moving deeper into the commercial mainstream.
But investors’ reaction was bonkers. A 57% increase in less than a month is a home run for any stock. But over the stretch in question, eager buyers swelled Tesla’s market capitalization—the value of all its shares outstanding—by $448 billion. That rampage marked the biggest short-term surge in a single company’s value across the history of equity exchanges. Just how big was it? During that moonshot, the amount of dollars investors added to Tesla’s valuation was greater than the total value of all but nine of the stocks in the S&P 500, including giants whose revenue dwarfs Tesla’s, like Johnson & Johnson and Bank of America. And for the first time, investors made Tesla a $1 trillion company, propelling the automaker into the exclusive U.S. club occupied by Microsoft, Apple, Amazon, and Alphabet.
As happens so often with Tesla, that summit was followed by a tumble, thanks to unsettling news from the corner office. First, CEO Elon Musk cast doubt on the Hertz deal, firing back in a tweet that he hadn’t even signed a contract with the rent-a-car giant. Second, Musk held a quirky poll asking his Twitter followers whether he should unload 10% of his shares. Fifty-eight percent voted “yes,” and subsequent SEC filings revealed that Musk had begun selling shares worth billions. All told, as of the close Nov. 22, Tesla’s market cap had retreated 6% from its summit. But in investors’ eyes, the company is still worth $1.16 trillion—almost $375 billion more than when the liftoff began—and it still sits comfortably in the 12-zeros club alongside companies with many times more revenue than Tesla commands.
The recent surge has astounded Tesla skeptics, who marvel that a company whose stock they already rated outrageously expensive could, in a flash, get half-again more wildly overpriced. The average stock in the S&P 500 trades at 24 times trailing earnings; Tesla now trades at around 365. “It’s the ultimate manifestation of FOMO,” says Bennett Stewart, a consultant who specializes in analytics that measure a company’s return on capital. “It’s all about momentum, glamour, the most loyal of loyal fan bases.” The recent surge, Stewart says, “made a great company’s stock that was already unhinged from fundamentals a lot more unhinged.”
Tesla’s leap into the valuation stratosphere raises the quintessential question of our meme-stock, everything-goes-up era: What does it really mean to be worth $1 trillion? Yes, it’s in part a sign of popularity, of retail investors’ passion and faith. And Musk’s company is far and away today’s leader in electric vehicles. But can it conceivably generate the margins, sales, and market share to justify its rank as America’s fifth-most-valuable enterprise?
We’ve all heard its fans’ bluebird view. Tesla will totally dominate the green-car market, the bulls avow, at a historic moment when that category is poised to revolutionize global auto manufacturing. They also believe that it’s far more than a metal-bending carmaker: Tesla enjoys a huge head start courtesy of its super-advanced software and battery technology, and it’ll be a future titan in energy storage and self-driving, selling its products and licensing its IT to rivals at fat margins. “Electric vehicles are taking massive share from traditional gas-powered vehicles,” ARK Invest CEO Cathie Wood said recently at the Milken Institute Global Conference. “The stock is finally responding to that reality. Tesla will be nearly quadrupling [to $3,000 a share] over five years.”
How Tesla will execute on its ambitions and navigate the future is unknowable, of course. But there are straightforward ways to calculate what it must do to continue to reward shareholders via superior returns, or simply track the overall market. And running those numbers leads to a sobering conclusion: Justifying Tesla’s current share price will require absolutely epic, seemingly unachievable results.
Indeed, to buy Tesla’s shares today is to make the ultimate long-shot bet. Investors are wagering that Tesla will mine incredible profits in electric cars while its competitors—in essence, every other automaker in the world—flop in pursuit of the prize. Put simply, investors are saying that Tesla will sweep the field and leave others to fight over the scraps.
To assess what Tesla must do to justify the bull run in belief, Fortune relied on two precise, battle-tested tools. Those measures are “expectations investing,” analytics developed by David Trainer, founder and CEO of research firm New Constructs; and economic value added, or EVA, deployed by Institutional Shareholder Services (ISS), the proxy advisory firm, to evaluate executive pay packages and other elements of corporate performance.
Both favor a basic measure of profit called “NOPAT,” or net operating profit after tax. The current market cap sets the guideposts: Their analysis measures how fast a company must grow NOPAT to satisfy the risks of buying the stock at its current price. If you’re going to pay 365 times trailing earnings for Tesla, you’re assuming it’s going to keep expanding fast enough that the value of its shares grows accordingly. NOPAT helps analysts generate specific targets for that growth. “It’s only worth owning Tesla if it’s going to outperform,” says Trainer, “and that requires future NOPAT that’s materially higher than the huge numbers already implied by the stock price.”
We’ll start with Trainer’s model. In a recent report, Trainer notes that Tesla’s market cap now exceeds the total for the world’s 10 largest automakers by revenue, a group that includes Toyota, General Motors, Ford, and Daimler, home of Mercedes. Those top 10 sold 45 million cars in their past four quarters—more than 50 times as many as Tesla sold.
Trainer calculates Tesla’s current NOPAT at $3.6 billion. From there, his number crunching reveals an assumption that’s super-optimistic: He finds that the market expects Tesla to generate a NOPAT margin of 17.2% by the year 2030. That’s double the current margin he calculates for Toyota, and 10 percentage points better than Tesla’s current cushion.
Trainer plugs in those and other benchmarks, and reverse engineers the numbers that discount back to Tesla’s current $1.1 trillion–plus valuation today. His conclusion: To justify its current market cap, Tesla’s revenues would need to mushroom from $47 billion over the past four quarters, to $783 billion in 2030. That’s more than the combined current sales of Toyota, GM, Ford, Honda, and Stellantis (parent of Chrysler, Dodge, and Fiat). More to the point: That’s more revenue than any company on earth currently generates.
Getting there would require Tesla to achieve a yearly growth rate of 38%—startup-like growth almost never seen among bigger companies. NOPAT would need to follow a similar trajectory, reaching $135 billion annually in nine years. That’s far more profits than Apple, America’s most profitable company, gushes today.
*********************
Six weeks this autumn showed just how crazily detached Tesla the stock has become from Tesla the company.
During a stretch of 19 trading days from Oct. 8 to Nov. 4, Tesla shares soared 57%, to a peak of $1,230. The catalysts: a healthy, profitable third-quarter earnings report, followed by a Hertz news release unveiling its plans to buy 100,000 Teslas for its rental fleet. These were meaningful business milestones—signs that Tesla’s once-radical electric vehicles were moving deeper into the commercial mainstream.
But investors’ reaction was bonkers. A 57% increase in less than a month is a home run for any stock. But over the stretch in question, eager buyers swelled Tesla’s market capitalization—the value of all its shares outstanding—by $448 billion. That rampage marked the biggest short-term surge in a single company’s value across the history of equity exchanges. Just how big was it? During that moonshot, the amount of dollars investors added to Tesla’s valuation was greater than the total value of all but nine of the stocks in the S&P 500, including giants whose revenue dwarfs Tesla’s, like Johnson & Johnson and Bank of America. And for the first time, investors made Tesla a $1 trillion company, propelling the automaker into the exclusive U.S. club occupied by Microsoft, Apple, Amazon, and Alphabet.
As happens so often with Tesla, that summit was followed by a tumble, thanks to unsettling news from the corner office. First, CEO Elon Musk cast doubt on the Hertz deal, firing back in a tweet that he hadn’t even signed a contract with the rent-a-car giant. Second, Musk held a quirky poll asking his Twitter followers whether he should unload 10% of his shares. Fifty-eight percent voted “yes,” and subsequent SEC filings revealed that Musk had begun selling shares worth billions. All told, as of the close Nov. 22, Tesla’s market cap had retreated 6% from its summit. But in investors’ eyes, the company is still worth $1.16 trillion—almost $375 billion more than when the liftoff began—and it still sits comfortably in the 12-zeros club alongside companies with many times more revenue than Tesla commands.
The recent surge has astounded Tesla skeptics, who marvel that a company whose stock they already rated outrageously expensive could, in a flash, get half-again more wildly overpriced. The average stock in the S&P 500 trades at 24 times trailing earnings; Tesla now trades at around 365. “It’s the ultimate manifestation of FOMO,” says Bennett Stewart, a consultant who specializes in analytics that measure a company’s return on capital. “It’s all about momentum, glamour, the most loyal of loyal fan bases.” The recent surge, Stewart says, “made a great company’s stock that was already unhinged from fundamentals a lot more unhinged.”
Tesla’s leap into the valuation stratosphere raises the quintessential question of our meme-stock, everything-goes-up era: What does it really mean to be worth $1 trillion? Yes, it’s in part a sign of popularity, of retail investors’ passion and faith. And Musk’s company is far and away today’s leader in electric vehicles. But can it conceivably generate the margins, sales, and market share to justify its rank as America’s fifth-most-valuable enterprise?
We’ve all heard its fans’ bluebird view. Tesla will totally dominate the green-car market, the bulls avow, at a historic moment when that category is poised to revolutionize global auto manufacturing. They also believe that it’s far more than a metal-bending carmaker: Tesla enjoys a huge head start courtesy of its super-advanced software and battery technology, and it’ll be a future titan in energy storage and self-driving, selling its products and licensing its IT to rivals at fat margins. “Electric vehicles are taking massive share from traditional gas-powered vehicles,” ARK Invest CEO Cathie Wood said recently at the Milken Institute Global Conference. “The stock is finally responding to that reality. Tesla will be nearly quadrupling [to $3,000 a share] over five years.”
How Tesla will execute on its ambitions and navigate the future is unknowable, of course. But there are straightforward ways to calculate what it must do to continue to reward shareholders via superior returns, or simply track the overall market. And running those numbers leads to a sobering conclusion: Justifying Tesla’s current share price will require absolutely epic, seemingly unachievable results.
Indeed, to buy Tesla’s shares today is to make the ultimate long-shot bet. Investors are wagering that Tesla will mine incredible profits in electric cars while its competitors—in essence, every other automaker in the world—flop in pursuit of the prize. Put simply, investors are saying that Tesla will sweep the field and leave others to fight over the scraps.
To assess what Tesla must do to justify the bull run in belief, Fortune relied on two precise, battle-tested tools. Those measures are “expectations investing,” analytics developed by David Trainer, founder and CEO of research firm New Constructs; and economic value added, or EVA, deployed by Institutional Shareholder Services (ISS), the proxy advisory firm, to evaluate executive pay packages and other elements of corporate performance.
Both favor a basic measure of profit called “NOPAT,” or net operating profit after tax. The current market cap sets the guideposts: Their analysis measures how fast a company must grow NOPAT to satisfy the risks of buying the stock at its current price. If you’re going to pay 365 times trailing earnings for Tesla, you’re assuming it’s going to keep expanding fast enough that the value of its shares grows accordingly. NOPAT helps analysts generate specific targets for that growth. “It’s only worth owning Tesla if it’s going to outperform,” says Trainer, “and that requires future NOPAT that’s materially higher than the huge numbers already implied by the stock price.”
We’ll start with Trainer’s model. In a recent report, Trainer notes that Tesla’s market cap now exceeds the total for the world’s 10 largest automakers by revenue, a group that includes Toyota, General Motors, Ford, and Daimler, home of Mercedes. Those top 10 sold 45 million cars in their past four quarters—more than 50 times as many as Tesla sold.
Trainer calculates Tesla’s current NOPAT at $3.6 billion. From there, his number crunching reveals an assumption that’s super-optimistic: He finds that the market expects Tesla to generate a NOPAT margin of 17.2% by the year 2030. That’s double the current margin he calculates for Toyota, and 10 percentage points better than Tesla’s current cushion.
Trainer plugs in those and other benchmarks, and reverse engineers the numbers that discount back to Tesla’s current $1.1 trillion–plus valuation today. His conclusion: To justify its current market cap, Tesla’s revenues would need to mushroom from $47 billion over the past four quarters, to $783 billion in 2030. That’s more than the combined current sales of Toyota, GM, Ford, Honda, and Stellantis (parent of Chrysler, Dodge, and Fiat). More to the point: That’s more revenue than any company on earth currently generates.
Getting there would require Tesla to achieve a yearly growth rate of 38%—startup-like growth almost never seen among bigger companies. NOPAT would need to follow a similar trajectory, reaching $135 billion annually in nine years. That’s far more profits than Apple, America’s most profitable company, gushes today.
Those profit figures look intimidating, but Tesla would face an even bigger challenge: The EV industry most likely won’t be big enough for Tesla to hit them. Trainer cites the International Energy Agency (IEA) “base case” forecast, which predicts 25.8 million in EV unit sales in the year 2030. If Tesla’s vehicles keep fetching their current average of $51,000, it would have to sell 16 million vehicles a year to reap $783 billion in revenue at the decade’s close. In other words, “Tesla would need 60% of the entire EV market,” says Trainer.
Trainer also cautions that if we assume a more realistic NOPAT margin—comparable, for example, to GM’s current 8.5%—Tesla would need to sell 31 million electric vehicles in 2030 to hit its benchmark. That would be 118% of the estimated industry total, meaning Tesla would have to sell every EV in the world, and then some. “The expectations for revenues and profits are absurd,” Trainer concludes. “It won’t happen.”
At ISS, managing director Anthony Campagna makes different assumptions but reaches similar conclusions. He calculates Tesla’s current NOPAT at $3.4 billion and assumes a target NOPAT margin of 8%. In his EVA analysis, sales would have to advance to roughly $1.2 trillion by 2030 to justify Tesla’s current stock price, while NOPAT would ring the bell at $93 billion. Tesla would have to grow NOPAT by 19% annually for the next decade. By comparison, the EVA formula posits that investors are baking in annual gains of 8% for Microsoft and 9% for Amazon, steep numbers in their own right. “Tesla’s valuation is predicting incredibly, massively fast growth,” says Campagna.
Campagna also cautions that the EVA calculus assumes that Tesla will finance all of the gigantic building of new plants from its cash flows, and that it won’t raise more capital by borrowing money or issuing equity. But as Trainer points out, it’s likely to need lots of fresh financing. To justify its current stock price, Tesla is going to need to manufacture 15 or 20 times as many cars in 2030 as it currently sells, and building the capacity to do it will presumably eat into profits and share price alike.
The fantasy of total Tesla dominance isn’t reflected only in Tesla’s stock price: It shows up in the way investors are valuing its competitors. Fortune calculated the overall price/earnings ratio of the 15 largest U.S., European, Japanese, and Korean legacy automakers: It’s a puny 7.4, based on trailing four quarters of GAAP earnings. That’s a tiny fraction of Tesla’s P/E calculated on trailing earnings.
In essence, the market is saying that Tesla’s competitors won’t be able to make EVs profitable, even as they pour billions of dollars into the electric transition. “The market’s become highly segmented in the eyes of investors,” says Stewart. “They think it will be winner-take-all for Tesla, and the other companies will be me-toos and hangers-on. They’ll be battling over the commodity end of the market, while Tesla cleans up as the top brand and technology leader.”
The bottom line: Tesla’s trillion-plus valuation amounts to an augury by investors that EVs will turn out to be a bonanza for Tesla and Tesla alone. But how likely is that? All of Tesla’s big competitors harbor major ambitions in green autos. In his recent paper, Trainer notes that Volkswagen, Daimler, and Stellantis all pledge that 50% of their cars will be EVs by 2030, and Ford promises 40%. All told, Trainer estimates that 10 of Tesla’s competitors aim to produce 19 million EVs a year combined by 2030. Keep in mind that the IEA’s prediction of the entire market for that year is just under 26 million EVs. Every EV sold by the legacy auto giants makes it less likely that Tesla can sell enough cars to justify today’s Brobdingnagian valuation.
The most likely outcome is that as the other automakers get past the training wheels stage in EVs, Tesla’s stock price will level off or descend to earth—a comedown for investors, and one that’s highly possible even if the company keeps growing and innovating. Eventually, the force of basic math will crush the sandcastle built on faith, belief, and the charisma of American industry’s leading visionary. The numbers don’t add up. The irresistible force is an EV industry that’s poised to see ever-growing competition. The easily movable object is Tesla’s stock price. Something’s gotta give.
A version of this article appears in the December 2021/January 2022 issue of Fortune with the headline, “The trillion-dollar Tesla gamble.”
Trainer also cautions that if we assume a more realistic NOPAT margin—comparable, for example, to GM’s current 8.5%—Tesla would need to sell 31 million electric vehicles in 2030 to hit its benchmark. That would be 118% of the estimated industry total, meaning Tesla would have to sell every EV in the world, and then some. “The expectations for revenues and profits are absurd,” Trainer concludes. “It won’t happen.”
At ISS, managing director Anthony Campagna makes different assumptions but reaches similar conclusions. He calculates Tesla’s current NOPAT at $3.4 billion and assumes a target NOPAT margin of 8%. In his EVA analysis, sales would have to advance to roughly $1.2 trillion by 2030 to justify Tesla’s current stock price, while NOPAT would ring the bell at $93 billion. Tesla would have to grow NOPAT by 19% annually for the next decade. By comparison, the EVA formula posits that investors are baking in annual gains of 8% for Microsoft and 9% for Amazon, steep numbers in their own right. “Tesla’s valuation is predicting incredibly, massively fast growth,” says Campagna.
Campagna also cautions that the EVA calculus assumes that Tesla will finance all of the gigantic building of new plants from its cash flows, and that it won’t raise more capital by borrowing money or issuing equity. But as Trainer points out, it’s likely to need lots of fresh financing. To justify its current stock price, Tesla is going to need to manufacture 15 or 20 times as many cars in 2030 as it currently sells, and building the capacity to do it will presumably eat into profits and share price alike.
The fantasy of total Tesla dominance isn’t reflected only in Tesla’s stock price: It shows up in the way investors are valuing its competitors. Fortune calculated the overall price/earnings ratio of the 15 largest U.S., European, Japanese, and Korean legacy automakers: It’s a puny 7.4, based on trailing four quarters of GAAP earnings. That’s a tiny fraction of Tesla’s P/E calculated on trailing earnings.
In essence, the market is saying that Tesla’s competitors won’t be able to make EVs profitable, even as they pour billions of dollars into the electric transition. “The market’s become highly segmented in the eyes of investors,” says Stewart. “They think it will be winner-take-all for Tesla, and the other companies will be me-toos and hangers-on. They’ll be battling over the commodity end of the market, while Tesla cleans up as the top brand and technology leader.”
The bottom line: Tesla’s trillion-plus valuation amounts to an augury by investors that EVs will turn out to be a bonanza for Tesla and Tesla alone. But how likely is that? All of Tesla’s big competitors harbor major ambitions in green autos. In his recent paper, Trainer notes that Volkswagen, Daimler, and Stellantis all pledge that 50% of their cars will be EVs by 2030, and Ford promises 40%. All told, Trainer estimates that 10 of Tesla’s competitors aim to produce 19 million EVs a year combined by 2030. Keep in mind that the IEA’s prediction of the entire market for that year is just under 26 million EVs. Every EV sold by the legacy auto giants makes it less likely that Tesla can sell enough cars to justify today’s Brobdingnagian valuation.
The most likely outcome is that as the other automakers get past the training wheels stage in EVs, Tesla’s stock price will level off or descend to earth—a comedown for investors, and one that’s highly possible even if the company keeps growing and innovating. Eventually, the force of basic math will crush the sandcastle built on faith, belief, and the charisma of American industry’s leading visionary. The numbers don’t add up. The irresistible force is an EV industry that’s poised to see ever-growing competition. The easily movable object is Tesla’s stock price. Something’s gotta give.
A version of this article appears in the December 2021/January 2022 issue of Fortune with the headline, “The trillion-dollar Tesla gamble.”
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