The cult of Tesla

August 20, 2016 01:00 PM
In 2016, few companies have generated more headlines than Tesla Motors (TSLA). And few stocks have moved on headlines more than Elon Musk’s.

In 2016, few companies have generated more headlines than Tesla Motors (TSLA). And few stocks have moved on headlines more than Elon Musk’s. In early July, Tesla released details of a tragic accident that cost one life due to failure of the autopilot feature on its Model S. While the accident happened in May, regulators were investigating if Tesla had broken the law by failing to inform customers of the accident. 

Then, on July 11, reports indicated that a crash in Montana occurred due to the failure of the autopilot feature. 

The stock slipped after each announcement, but the downturns weren’t significant.

Meanwhile, the stock rallied back from $189 just after the Brexit rattled global sentiment. Shares would top $224 after CEO Musk tweeted on the weekend of July 10 that he was working on the company’s second master plan. 

And then there’s the questionable proposed merger between Tesla and SolarCity. 

Musk owns the most stock in both organizations. While the merger could generate a $100 million or more reduction in costs, the deal has potential conflicts of interest. 

On Tesla, investors are as divided on the outlook of the company as Americans seem to be these days on politics.

Some analysts, like Trip Chowdhry of Global Equities Research, argue that the stock is poised to take off. Citing the company’s groundbreaking innovations, he has set the bullish price target of $380. That’s a 71% premium from the July 11 close, and would push the company’s valuation higher than entrenched automotive giants General Motors (GM) and Ford (F). 

To others, Tesla is a cult stock; a company that continues to experience a massive valuation despite unreasonable expectations and a lack of profitability. Critics argue that investors should sell the stock and reallocate the capital to other potential opportunities. 

Even in the face of the company’s recent quarterly delivery miss, the stock remained largely resilient. That prompted Barclays’ analyst Brian Johnson to raise red flags – as he argued the stock’s performance was largely based on a “cult psychology” rather than traditional fundamental analysis. On the decline in Model S sales, Johnson wrote that the company was – in the view of Barclays – experiencing lagging demand for an aging vehicle. 

Even on news of the autopilot fatality and the SolarCity merger, the cult psychology made investors shrug and keep praising Musk and the company’s future. 

With Tesla stock in focus, Modern Trader dives deeper into the Tesla recommendations and discovers the futility of market attempts to predict the future of this cult favorite

Tesla’s Downside

Musk has been granted a large pass by Wall Street after two straight quarters of delivery misses. While it’s not unprecedented that a technology CEO is given time to get the organization in line, the fact that Tesla stock isn’t trading on fundamentals has to rattle and frustrate short sellers. 

“The challenge in shorting any stock fueled by cult psychology is trying to discern when that faith by the investor base will be shaken,” writes Eric Jackson of The Street. “Elon Musk inspires this belief. If Tesla is a cult, he most certainly is the leader.”

Jackson also notes that the CEO who draws the most comparisons for his vision to Musk is Apple founder Steve Jobs. But at no point did Jobs receive a pass from Wall Street based on price-to-earnings ratios, loss tolerance, and expectations. 

Jackson writes that even at its most manic times, during the Dot Com era, Apple stock traded at a price-to-earnings ratio of 25X. Meanwhile, Tesla is trading with a forward P/E ratio north of 65. 

It was that valuation that soured Standpoint Research founder Ronnie Moas, who issued a sell rating shortly after digging into the numbers in early April.

“Tesla caught my attention in the beginning of April when it was trading above $250. I put the recommendation on Tesla out when it hit $261 on April 7. I was crunching numbers, and I just couldn’t get my arms around the fact that this company, which was not even turning a profit, had a market capitalization that was greater then Mazda, Fiat, Porsche and Ferrari combined.”

At the time, Moas was trying to understand how the market was valuing Tesla, with $10 billion in revenue and no profit, as if it was equal to GM, a company with $150 billion in revenue. “It almost got to the point where Tesla’s market cap was equal to General Motors; there was no way to justify that.”

Moas appeared on CNBC on two occasions to discuss his sell rating of the electric vehicle company. His Tesla calls have been spot on, justifying his lofty rating on market analyst accountability platform TipRanks. 

Moas doesn’t necessarily think that Tesla is a bad company. 

“I’m not saying that Tesla can’t go to $400 in the next 10 years,” he says. “When I put that sell recommendation out, I felt that it would hit $180 before it hit $400.”
While Moas’ recommendation is tied to results from his proprietary 155-variable computer model with subjective and fundamental overlays [See Moas sidebar], another outspoken critic has generated a number of sound bites with his view on Tesla’s business model. 

Bob Lutz is the former chief executive at General Motors and now heads VLF Automotive. Lutz who says he still grits his teeth from his days battling with Wall Street analysts, is stunned by Wall Street’s attitude toward Musk.

“Let me first say that I like and admire aspects of Elon Musk. He’s a brilliant guy, a savvy entrepreneur,” says Lutz. “Above all, he is a genius promoter able to make people believe things that no rational human being would otherwise believe.”

Lutz argues that in perilous times, it is natural for individuals to put validation in individuals with lofty business and personal goals, comparing the phenomenon to Donald Trump’s rise. 
“People are just seeking somebody who has a solution,” Lutz says. “Americans are worried about the future. America loves the underdog who triumphs against the big guys. People want to believe. They want to be led. They want Elon Musk to be real. They want him to succeed. They even want to see him explore Mars.”

Lutz is a storied car executive, who got his start at GM in 1963. Having been a product czar of GM, Lutz came out of retirement in 2001 and reinstated a company emphasis on creativity, design, and customer satisfaction. Following its emergence from bankruptcy, the company evolved with a number of new vehicles that includes Chevrolet Volt, Cadillac CTS, Chevrolet Equinox, and Buick LaCrosse. He has since moved on to form VLF Automotive, which designs the most expensive American vehicle on the market today. 

With an eye for luxury, Lutz praises Tesla’s design. 

“His car is well styled, it’s beautiful. The performance is startling as you always get with electric vehicles where you have maximum torque at a very low rpm. So they feel great to drive, no question,” he says. 

And while there is little argument to Musk’s visionary appeal, the economics remain the biggest challenge for Lutz.“With all electric vehicles, range is an issue. But then there’s the question of price. So while the Tesla Model S is a terrific car, how many can you sell at $120,000? What’s even worse is when your car costs $140,000 to build, and you’re selling them for $120,000. That’s the part that just doesn’t work. It is the old story of ‘we lose a little money on every car we make, but we make it up in volume.’”

Lutz faced remarkable pressure from analysts, some of whom seem willing to suspend disbelief about the financial realities surrounding Tesla due to the cult-like status of Musk. 

“Look at Model S sales. What I can’t believe is that the normally critical analysts — guys who used to just beat me up at GM —, at Morgan Stanley and Goldman Sachs swallow everything. [About Musk] they just come back and say, ‘What a genius!’ He’s accelerating the move to 500,000 units. Even business school professors who normally would look somewhat analytically call him a visionary. They say, ‘He’s going for the long term. He’s keeping pedal to the metal, eschewing short-term profit and trying to save the planet, all at the same time.’ What a crock.”

Moas also raises concerns about the challenge that a company like Tesla faces in the public eye given the two deaths linked to its autopilot feature. Under ordinary circumstances, Tesla would likely be under even greater pressure from the public and shareholders.

“If you look at Volkswagen, the company got hit with a $15 billion charge on its emissions scandal. It just shows you how vulnerable a company like Tesla is when the market prices it in such a way that leaves [it] with no margin for error. Can you imagine what would have happened, if it was Tesla with a scandal like this?”

But Volkswagen reminds Moas of another critical challenge for Tesla: The German auto sector.

Moas predicts that German auto companies are going to catch up with Tesla.

“Tesla got a head start on the electric vehicles, and nobody took them seriously, including the Germans,” Moas says. “German auto manufacturers will admit they made a mistake. They let Tesla get a two- to three-year head start on them with electric vehicles. Now you have to understand that one out of every eight people in Germany is either directly or indirectly impacted by what happens in the auto industry. They will not roll over, play dead and watch Tesla eat their lunch from the sidelines.”

Moas describes competitors like Volkswagen as “hell bent” on preventing Musk from capturing market share over the long term. “Musk may have got a head start, but by 2020, 2021, he’s going to be in a dog fight with these companies.”

Moas warns that the the stock is priced for perfection, and markets haven’t factored other competitors into account.

Drinking the Tesla Kool-Aid

Morgan Stanley’s Adam Jonas has been one of the most bullish analysts for Tesla, having held a “Buy” rating on the stock from 2012 until just a few weeks ago. Many called him a cheerleader. 
But Jonas shifted his opinion in June after the company announced plans to purchase SolarCity.

While Jonas raised the “financial and capital markets risks” presented by the solar installation company, it isn’t necessarily hard to find others with strong outlooks for the company. 
That brings us to Chowdhry, who is no stranger to bold predictions. 

On March 20 2014, the Managing Director and Co-Founder of Global Equities Research predicted that unless Apple came up with its Apple Watch in less than 60 days that it would vanish as a relevant company. 

“They only have 60 days left to either come up with something or they will disappear,” Chowdhry told CNBC. “It will take years for Apple’s $130 billion in cash to vanish, but it will become an irrelevant company... it will become a zombie, if they don’t come up with an iWatch.”

The Motley Fool seemed overjoyed in wishing Chowdhry a happy one-year anniversary after the stock gained 68% in the 12 months following his prediction. 

But Chowdhry remains confident in his recommendations, and he’s especially bullish about the future of Tesla. First, he’s very impressed by Musk. 

Chowdhry argues there are only two CEOs who are creating radical innovations in the world today: Jeff Bezos of Amazon and Elon Musk.

Chowdhry has centered many of his calls in the past on what he perceives to be the make-or-break innovation of organizations. So, when he sets a buy rating on Tesla with a $385 price target prior to the recent sell-off that doesn’t have a clear timeline, he bases it on the long-term disruptions he foresees from this company and on companies like it. 

“First and foremost, it doesn’t matter whether [Tesla stock] goes to $385 or $1,000,” Chowdhry says. “That is moot. Let me walk through certain states of industries that we have seen in the past. And then I’ll tell you how stupid and wrong we all were.”

Chowdhry focuses on two companies that analysts largely misjudged: Apple (AAPL) and Amazon (AMZN). 

“Let’s go back to 2006. The kings of the hills in the mobile space were solid companies: Nokia and BlackBerry. What was the killer app in 2006? Downloading ringtones. Then Apple launched the iPhone. And what did the whole world say? They said ‘It’s a computer company. What do they know about mobile phones? Nokia and BlackBerry have been in the business for more than 15 years. They will set the tone of the industry.’” 

Chowdhry also cited Apple’s lack of relationships with carriers, while Nokia and Blackberry were firmly entrenched with industry leaders. 

“All these stupid analysts and investors said iPhone is dead on arrival. They said, there’s no way Nokia and BlackBerry will be displaced. Fast forward to 2016, where is Nokia and where is BlackBerry?”

Chowdhry shares displeasure with others who claim they predicted Apple’s future on point. “On television today you will see so many people saying like they predicted the iPhone’s [success]. Everybody today wants to take credit that they are the first ones to discover it [as a great investment]. My firm really was one of the first companies who said that we shouldn’t underestimate iPhones. The days of ringtone downloads are over.” 

Chowdhry’s second underestimated firm is Amazon.

“This is the super cloud computing platform, with the revenue run rate of $10 billion growing at more than 50% year over year. Unheard of in the industry.” 
He cites the consensus that believed that IBM, EMC, or Oracle would lead the cloud revolution and see a huge spike in its price. But he says  IBM is struggling, EMC is on life support, and Oracle is a non-event. What happened? “Incumbents don’t have innovation. They have no drive. They are stuck in the past.”

Chowdhry argues that Tesla – like Amazon and Apple – will succeed due to their challengers’ lack of innovation in the automotive, power, and other sectors in which Tesla is expanding. 
“Incumbents are lazy, incumbents are complicit. Why everybody is getting Tesla wrong is for the same reason they got iPhone wrong. For the same reason they got Android wrong, the same reason they got Amazon wrong. Because they’re looking at the future from their comfort zone. They are making the classic mistake that future is same as past.”

To Chowdhry, Tesla is not an automotive company. It is a technology firm.

“You must look at Tesla the way you look at Apple. The way you look at Amazon. They are companies built on creating ecosystems. Ecosystems of developers, developer ecosystems create apps. Apps’ developers create an ecosystem of partners.”

Chowdhry argues that Tesla also makes super chargers, which is similar to a gas station.

In addition, it is opening its new gigafactory, which can be equated to a refinery.

Chowdhry is quick to point out that no other car company makes an automobile, a gas station, and a refinery, all while having an app store and cloud-computing component. 
“They generate the power, they distribute the power and then they do surge pricing. There’s no other company like that.”

Chowdhry has generated headlines in recent months after valuating Tesla’s new gigafactory at $50 billion, far more than existing valuation of all of Tesla. Tack on the addition of SolarCity, and he foresees a powerhouse organization poised to alter the future of automotive, energy and more. 

“When you think about storage, you can think about power walls. And when you think about power generation and alternative energy, this is SolarCity, which [is the] way the world is going. Power distribution currently [has] many inefficiencies.”

Inefficiencies that Chowdhry says Tesla will capitalize on when no one else is innovating.

In fact, Chowdhry has one simple equation in which he based his June 21 Tesla recommendation in the wake of their planned SolarCity purchase:
TSLA + SCTY = Power Generation + Power Storage + Power Consumption = Your New Utility Provider. 

Chowdhry is also bullish about the $6 per car delivered cost, while the “average car company spends more than $1,000.” That $6 figure is especially jarring for competitors like Tata Motors, which tops all companies at $3,325 per every car sold. Meanwhile, Lincoln spends about $2,550 to advertise every car it sells.

But the major issue at hand today, of course, centers on the company’s recent public relations problem after the death of a passenger using the autopilot feature. 

Chowdhry had argued that it was “a non event,” a sentiment largely shared by Musk.

It’s tragic that someone has lost their life, but this company is learning. That’s what great companies do,” he adds. 

He cites the 2012 battery problems that Tesla faced as an example of this, and argues that no one seems to speak much about them anymore. “How long did it take the stock to recover after the battery incidents? If anything, these events made future vehicles safer. They figured out how to protect the batteries.”

Chowdhry also argues that to achieve greatness, there will be losses and tragedy along the way for society, citing the loss of life in early space expeditions and the challenges ahead for deep-space travel. 

“There will be casualties when we try to explore Mars.” 

The question is whether a wider audience will accept such arguments.

 Chowdhry has three predictions about Tesla’s future.

  • 500,000 Tesla Model 3 will hit the road every year starting 2018 – (the current electric grid does not have the capacity to cater to this enhanced load)
  • Starting 2018, almost every household will be TSLA customer, with either a TSLA Car, battery, Solar Generation or some combination of these, 
  • TSLA will do something in the grid as well

The average mean target from Yahoo Finance sets Tesla’s stock price at $244.67.

While Chowdhry may argue for the long-term, the timeline horizon for his view remains hazy. 

Moas argues that it comes down to one specific timeline. He remains unconvinced that the stock is going to double any time soon while many other investments exist that are more attractive on a risk/reward basis.

While the autopilot problems remain in focus, the key number centers on the firm’s profitability and its capacity to meet production targets. In the first two quarters, the firm delivered 21,190 units, although the company argued that a large number of units were in transit.

To meet its delivery target of 80,000 to 90,000 vehicles, the firm will to need to increase its vehicle production by more than 50,000 units. Tesla plans to build roughly 2,200 cars each week in the third quarter and 2,400 in the fourth quarter. That number is generating the debate on Tesla’s stock performance for the balance of the year. 

Brian Johnson of Barclays raised concerns when issuing the sell rating and price target of $165. 

“While in-transit vehicles played some role in the miss, we think lower-than-guided production also played a role, further reinforcing our skepticism around whether Tesla can meet its lofty volume targets for Model 3,” Johnson wrote. 

Meanwhile, the most recent “Buy” rating listed on TipRanks came from Ben Kallo at Robert Baird with a price target of $338. Kallo argued that the company’s production capacity was on target for the rest of the year. “We believe most production/supplier issues related to the Model X have been resolved, which should allow for a smoother production ramp in the second half,” Kallo wrote. 

Of course, at a share price of $338, it would set the company’s valuation at north of $50 billion. 

Given that Ford has a market cap of $49 billion, while GM sits at $42 billion, that figure doesn’t sit well with Lutz. 

“It’s totally nuts,” Lutz says about Kallo’s forecast. “Especially now with [the planned] purchase of SolarCity, which is another money losing scheme, partly owned by the Musk family. The cash drain on SolarCity is so horrendous that it’s going to suck Tesla down faster and there has been some sort of shareholder revolt over the deal. It’s going to show that people are no longer going to be drinking the Kool-Aid. I’m certainly not; a $50 billion valuation is totally crazy.” 

Lutz expects that economic reality will eventually catch up with the firm. “You can be in love with a stock. You can be in love with the entrepreneur. You can be fascinated by his business vision, his apparent sense of altruism and his bold moves, but at the end of the day the business has to make money.”

Given his bearish outlook, Lutz sets his fearless expectation of Tesla: $30. 

Tesla the Cult Stock

Following the hysteria of Tesla’s Model 3 launch, automotive columnist David Booth compared the company’s unveiling of an electric vehicle to a Creflo Dollar religious revival meeting.
“If anything is to be learned from the Model 3 hysteria,” Booth wrote, “it’s that Tesla is now a religion, and Elon Musk is its unquestioned messiah.”

Recently, Zacks Research offered a breakdown of how investors can determine whether they have invested in a cult stock. Like real cults, such companies engage in a handful of different tactics that fuel unreasonable expectations or irrational logic. First, there is the unshakable faith in the company’s vision, one explicitly highlighted by Starbucks’ ability to move on non-news like its expansion of free Wi-Fi or its free college tuition for employees. 

Second, Zacks writes that cults promise the possibility of the apocalypse. Recall, the authors say, that unless JPMorgan (with the help of the Fed) was able to bail out Bear Stearns, the U.S. economy would have sunk. Also, the company’s grassroots programs in the wake of the financial crisis are designed to argue that the company didn’t engage in the same levels of risk that its rivals had during the run up to the financial crisis. 

But the one thing that cults do better than anything is get members to drink the Kool Aid. Not only has this been done by hedge fund managers as they chased Bill Ackman into Valeant Pharmaceuticals, but it is almost the central feature of Tesla. 

When it comes to Tesla, the Kool-Aid is ready, fueling valuations that shock analysts who aren’t on the bandwagon. Then again, Apple and Amazon both had steady doses of Kool-Aid, and their investors today are smiling at their seven-year returns. But there are significant risks to cult stocks.

Moas still remains confused where targets of $350 to $400 are coming from and the expected time line. However, he argues that it’s a very difficult stock to gauge both on the long and short side. “Anyone that is long the stock is taking a lot of risk upon themselves,” he says. “But it’s also dangerous to be short. What you have right now is a fight between people who think the stock will double in the next 10 years from $200 to $400 versus people who think we’re going to see a $150 before then. And both sides may be right.” 

In the near term, Moas isn’t drinking. “Tesla may go to $400 in the future. But for it to be at these levels, it’s going to have to sell millions of vehicles; hold off competitors; and we will have to see widespread adoption of electric cars. Now, there are people who say, ‘I don’t care if it hits $150 and if there are bumps along the way. It’s going to $400 and I’m holding.’ That said, there are hundreds of names in the stock market that I’m convinced will jump 50%-75% in the next 3-5 years without the Tesla downside risk.”

That is the key takeaway. Capital is a scarce resource, and there may be a better ride to catch elsewhere. 

But Moas remains cognizant of individuals who want to be a part of the company’s bigger story over the long run. 

“This is similar to the way people held on to Amazon. There were some nasty corrections in Amazon stock,” Moas says. “It wasn’t a straight line from $70 to $700, there were 15% and 20% corrections along the way. But the people that bought and held that name ended up getting the last laugh.”

About the Author

Garrett Baldwin is the Managing Editor of the Alpha Pages and the Features Editor of Modern Trader. An author and Baltimore native, he earned a BS in journalism from the Medill School at Northwestern University, an MA in Economic Policy (Security Studies) from The Johns Hopkins University, an MS in Agricultural Economics from Purdue University.