Thursday, 21 September 2017

Tesla vs. BMW – all you need is imagination

Equity investors seem to regard Tesla as the future leader of the global affordable luxury car segment. The company’s current market capitalisation already roughly matches that of BMW - nothing that a giant dose of imagination and creativity can’t possibly justify.


We are in September 2027. The electric car revolution made Tesla the world’s leading affordable luxury carmaker – the new BMW. Tesla’s 2027 car sales are expected to reach USD 120 billion (matching BMW Group’s sales in 2017).

Tesla has a similar net profit margin (7.4%) and is trading at a similar PE multiple (7.4x) as BMW was 10 years ago. Its market capitalisation just hit USD 68 billion. It was USD 61 billion in September 2017. As no dividends were paid out over the past 10 years, Tesla shareholders earned a 1.2% annualised return in 2017-2027. They are disappointed.

When buying Tesla shares in September 2017, they had a vision: Tesla would become the new BMW in 10 years time. Accordingly, they expected to make a 10% annualised return on their investment. They would have made it – if they had bought Tesla shares 56% below the then prevailing market price.

That’s not a very realistic vision of Tesla’s future, some enthusiastic Tesla investors may now argue. BMW’s current PE multiple is depressed. In 2027, a very successful Tesla will trade at higher multiples.

Ok. Let’s think about an alternative future. In September 2027 the new BMW – aka Tesla – will trade at 10x earnings 2028 (post dotcom bubble BMW only traded, on average, higher in phases of depressed earnings during recessions). This would translate into a 2017-2027 annualised return of 4.3% - assuming that no further equity or quasi-equity financing will be needed over the coming years. Factor in a 10% capital increase (i.e. USD 6bn - Tesla’s cash burn rate in 1H2017 was USD 2.4billion, USD 3 billion of cash is left on the balance sheet) and the resulting dilution would lead to an annualised return of 3.3%.

But, hold on, Tesla is not only cars! What about the energy generation and storage business? Sure - currently it accounts for 10% of Tesla’s sales. Therefore, even if it was able to mirror the growth and profitability of the car business in the Tesla-is-the-new-BMW scenario over the next 10 years, it would hardly move investors’ return-on-investment needle.

Imagination and optimism are good things. They cannot change the big picture: even if Tesla turns out to be the new BMW, with a successful energy and storage business attached, it is doomed to be a poor investment. 

It’s what usually happens when a stock is priced for perfection.

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