TSLA - Tesla: Elon Musk Is Running Out Of Aces

2023-04-22 08:00:00 ET

Summary

• Elon Musk fanned the full self-driving hype again, as he highlighted that Tesla, Inc. would achieve full autonomy this year.
• Tesla is running out of aces to spur buying sentiment as management maintained its 1.8M deliveries guidance, despite its ongoing price cuts.
• Tesla's automotive gross margin fell markedly from FQ4, suggesting that things could have been worse if Tesla hadn't cut prices.
• With Tesla stock now priced at a steep premium of nearly 43x NTM earnings, investors must be highly cautious about buying that premium now.

Tesla, Inc. (TSLA) delivered its FQ1'23 earnings release on April 19, as CEO Elon Musk stoked the hype train again. Musk went on the offensive in Tesla's earnings call as he claimed that Tesla " will achieve full autonomy this year."

He emphasized that the trend is "very clearly towards full self-driving," in direct contrast to China's EV leader BYD Company Limited (BYDDF). Accordingly, BYD highlighted recently that full autonomy is " basically impossible " beyond industrial applications.

BYD believes full self-driving or FSD is " far away and a false proposition." Notably, BYD Chairman Wang Chuanfu articulated that FSD "sounds ideal but is not practical." As such, we should only see development peaking at a "high-level assisted driving."

But wait, why are we back to the FSD discussion, and why is Musk harping on FSD again? We think it's pretty straightforward. Tesla's deliveries growth has slowed (which we already cautioned in August 2022 ) as it posted deliveries growth of about 37% in FQ1.

Moreover, Tesla's ongoing price cuts have not resulted in a much improved FY23 deliveries slate, as management kept its 1.8M full-year estimate (with a potential upside of up to 2M). With that in mind, investors must wonder whether Tesla's automotive gross margin, which fell to 21.1% in FQ1 (down from FQ4's 25.9%), could mark the floor? Or could it get worse?

Analysts on the call tried hard to understand more about Tesla's pricing strategy, which Musk reminded investors is highly dynamic. Accordingly, management gets "daily real-time updates" of the company's orders and production.

Musk emphasized that he isn't sure whether "there's any company on earth that has better real-time data than Tesla, except maybe SpaceX Starlink." As such, we believe he wants investors to know that Tesla has a firm grasp over its pricing strategies, even though the company declined to provide even a range of gross margin estimates for FQ2.

But why should investors deal with this level of uncertainty? Furthermore, Musk upped the ante as he threw out the possibility of Tesla potentially subscribing to the " razor and blades model. "

Musk emphasized that Tesla is in a "uniquely strong strategic position." By that, he meant that Tesla could leverage its hardware and software ecosystem and adapt its pricing strategies for maximum benefit. In addition, he accentuated that Tesla "could sell for 0 profit for now and then yield actually tremendous economics in the future through autonomy."

That is markedly different from Tesla's current model, as it makes most of its revenue and profit from selling hardware. Morningstar estimates that Tesla's future robotaxi optionality accounts for about 7% of its valuation . Trefis' sum-of-the-parts, or SOTP, estimates suggest that selling cars account for 80% of its SOTP model.

Even Tesla bull Deepwater Asset Management's (formerly Loup Ventures) Gene Munster cautioned that Tesla's "razor and blades model" is improbable. It would also have required investors to "reassess their understanding of Tesla's business model and investment potential." And he also reminded investors that Tesla's FSD "promise" is far from certain. At the earliest, we should be looking at a timeframe of "three to five years' time."

Musk likely knows that he needs the FSD hype to drive TSLA's valuation once more after it recovered remarkably from its early January lows. Moreover, by failing to announce a more significant deliveries target increase, Tesla could be seen sacrificing profitability to maintain market share (not increase).

The saving grace? Lithium prices collapsed in 2023, with spot battery-grade lithium prices below RMB 180K per MT. However, in early March, spot prices still printed over 300K.

Management highlighted its confidence that Tesla could continue to take advantage of the opportunities in its contracts, given its scale. As such, Tesla is less impacted by spot pricing volatility and could use lower pricing to negotiate better terms for upcoming agreements.

But, we believe that unless Tesla could demonstrate its ability to lift its margins markedly (which is uncertain for now, as Musk didn't commit), Wall Street analysts are likely to downgrade estimates from FQ2.

With TSLA priced at a steep premium of nearly 43x NTM earnings, much is at stake to ensure it can either grow faster or improve its margins more quickly.

But, Tesla's Q1 earnings card showed that Musk has little control over macroeconomic factors that have hampered the company's growth. Moreover, the competitive landscape has also intensified, with BYD well-primed to compete with Tesla for market leadership.

BYD's NTM earnings multiple of 26x is nearly 40% below Tesla, Inc.'s valuation multiple. Coupled with the FSD hype cycle fanned by Musk once more, we believe Tesla, Inc. is likely running out of Aces to spur near-term buying sentiments.

For now, investors should remain patient and avoid rushing into Tesla, Inc. stock.

Rating: Hold (Reiterated).

Important note: Investors are reminded to do their own due diligence and not rely on the information provided as financial advice. The rating is also not intended to time a specific entry/exit at the point of writing unless otherwise specified.

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