Join us as we take a deep dive into the thriving market of Electric Vehicles (EVs) which has exhibited deviant advancement during the COVID-19 pandemic compared to other non-EV counterparts. When the need for travel plunged down the drain since lockdown restrictions were imposed, the overall market demand for standard motor vehicles has taken a detrimental blow. In light of this unprecedented and ongoing global recession, the adventitious development within the EV market for both full-battery and plug-in-hybrid models constitutes a robust force in signalling the emerging demand for EVs.
In particular, Tesla, a multinational industry leader, has reaped notable benefits due to the incessant growth in both its share price and business activities. With factory expansions in Germany as well as a recent completion of a plant in Shanghai, Tesla has secured a whopping figure of $464.3B in its market capitalisation by the end of August 2020. This figure has immensely overshadowed all of its current rivals such as Toyota which possesses a contrasting market capitalisation value of $216.0B. In essence, Tesla has been on an accelerated journey towards becoming the “world’s most valuable automaker”, whilst supporting its CEO Elon Musk in claiming his title as the World’s 5th Richest Man.
Nonetheless, it has not been a complete smooth sail for Tesla especially after taking into consideration the 34% plummet in its share price during the 2nd week of September. In spite of this controversial event, investors tend to remain optimistic as Tesla’s equity is revealed to be still 4 times more than its major competitors such as Ford. For this reason, we continue to conjecture the potentiality of Tesla and their latest product innovations such as the highly anticipated “Cybertruck” set to begin production in 2021. All in all, this insinuates a positive outlook on Tesla’s overall performance, and alludes to the future prospects of the entity yet to be revealed on “Battery Day” September 22nd.
Regarding the company’s valuation, Tesla has undeniably changed the auto industry in terms of pushing vehicles towards electrification, vehicle architecture/compute and the importance of software in vehicles. Seemingly insatiable investor demand for alternative/clean vehicles manifests in a very low cost of capital for Tesla which can help fund growth and allow for a higher multiple. That said, we struggle to explain the run-up to the stock split which theoretically does not change the value of Tesla equity but could help fuel retail investor interest. In fact, Tesla shares have rallied 81.3% since the company announced its 5-for-1 stock split on 11 Aug.
We are not dismissive of the clear advantages Tesla has including being ahead of the competition, inexpensive access to capital, ability to attract talent, and an incredible brand due to the “Elon Musk Effect”. But we still believe that ultimately a company’s value is related to the PV of future FCF. We still view Tesla as fundamentally overvalued and having to grow into its valuation. To justify the current levels, Tesla would need to grow FCF at a c.36% CAGR for 10 years with a 7% discount rate. Although there are company that started with $1bn in FCF and were able to grow FCF at a >30% 10-yr CAGR such as AAPL, AMZN and GOOG, we believe it will be harder for TSLA to achieve this given they are a manufacturer that operates in a more cyclical industry.
Amid Tesla’s incredible rise that has seen shares soar to new highs, Tesla announced that it will sell up to $5 billion in new stock with the use of further strengthening their balance sheet as well as for general corporate purposes. After the automaker said it would raise up to $5 billion in a new share offering, Tesla shares slid c.30% from its record high of close to $500 on 31 Aug. That said, the recent weakness does little to dent Tesla’s more than 400% surge this year, but it does suggest that some of the momentum behind the stock’s record run may be slowing.
Now let us take a closer look at the key drivers for the Automotive business, which comprised of the average selling price, Tesla Luxury Vehicle Deliveries, Tesla Mass Market Vehicle Deliveries and Gross Profit Margin. Average Selling Price has declined from $94.8k in 2015 to $56.6k in 2019, owing to an increasing mix of lower-priced Model 3 vehicles. Model 3 starts at a price of around $40k, as of late 2019, while the Model S and X start at over $70k. We expected ASPs to decline further and stabilize at a price of around $50k as Model 3 and the upcoming Model Y account for a larger mix of sales. Tesla Luxury Vehicle Deliveries increased from about 51k units in 2015 to close to 99k units in 2018 but declined to around 68k units in 2019, on account of the reduction of the Federal tax credit for Tesla cars, significant price changes, and the aging design of the Model S. We expect the number to fall further over 2020, as the economy is likely to be sluggish in the near term on account of the Covid-19 pandemic. That said, we expect the number to rebound in 2021 and rise to around 85k by 2027. Over the past three years, Tesla Mass Market Vehicle Deliveries has increased from 1.8k units in 2017 to 301k units in 2019 at a 2-yr CAGR of 1,193.1%. Although Tesla has commenced production at its Chinese factory and has started selling the Model Y compact SUV in the U.S., we anticipate the growth rate to slow to about 370k vehicles in 2020, due to the Covid-19 pandemic, which is likely to hurt demand as well as Tesla’s overall production capacity. That said, we expect Tesla Mass Market Vehicle Deliveries to grow over 1.2 million vehicles by 2027, thanks to the scaling up deliveries in markets such as Europe and China as well as the scaled up production capacity of Gigafactory 3 in China with an initial production rate of c. 250k vehicles. Automotive Gross Profit Margin declined from 35.2% in 2016 to 28.9% in 2019 but we expect the adjusted margins to rise over 32% by 2027, driven by the economies of scale, higher margins from high-end variants of the model 3, and declining battery costs. We believe that the market has been willing to show more patience and look further out for alternative/clean powertrain companies such as Tesla. As such, we too look out to multiples on 2027 estimates. Our base case assumes that in 2027, Tesla can generate ~$66.0bn in sales, driven by ~2mm deliveries, with ~11.8% operating margins. We assign a 3-yr average of 4.0 EV/S multiple and 20.0x EV/EBITDA multiple to this scenario yielding $283.11, representing a 48.2% downside from the current share price.
After Tesla’s effective stock split, more leaks allude to a prosperous future for Tesla to position itself as a leading vehicle company run on sustainable energy.
Elon Musk notes that “The real limitation on Tesla’s growth is cell production at an affordable price.” The upcoming event “Battery Day” is said to launch a new battery cell from Tesla’s “Roadrunner”. As specific details on the battery has yet to be released it cannot be determined if these are the “batteries with 50% more energy density.” Fundamentally, as batteries are very costly components of a vehicle, an improved battery produced at lower costs will allow the price of electronic vehicles to be reduced. Hence, leveraging Tesla in terms of product pricing and higher battery performance when in juxtaposition with Porsche Taycan and Lucid motors.
Tesla’s models currently partner with Panasonic as their supply for battery cells, and recently has reached a new three-year deal for battery supply from Gigafactory. In extension, Panasonic not long after the deal invested $100 million in the electric vehicle battery plant in United States for Tesla. It is a compelling investment, as it will be interesting to see how Tesla intends to yield the two battery cells.
Not only is Tesla expanding in the form of manufacturing its own in-house battery cell, plans of a new Gigafactory in Texas has been revealed. Adding to the current three Gigafactories, Giga Texas has started construction across a 2000-acre piece of land and looks for production to begin in May 2021. Revealed plans for production at this new site is the new model Cybertruck alongside production in Model Y and Model 3 to meet demands for the East Coast in America. The increase in production will without a doubt increase Tesla’s production numbers from the 367,500 delivered in 2019. In short, Tesla’s plans to manufacture its own battery cell line and increase production will accelerate the transition into sustainable energy.
After visiting a large factory in Berlin, Tesla CEO Elon Musk expressed his interest in Tesla’s technological upgrade that would “change the rules of the game”. Highlighting Tesla’s transition to an “energy company”, he also pointed out explicitly that “The three elements needed for a sustainable energy future are sustainable energy generation, energy storage, and sustainable transport, electric cars.”
Musk’s concern is that under the tightened environmental laws and regulations, mass production, as well as cost-effective sustainable energy solutions are becoming increasingly important. From his perspective, this area of focus would potentially form a differentiating factor between Tesla and its following competitors.
The internalization of Tesla battery technology has also been brought to the table. It is found that Tesla’s Shanghai-based gigajoule factory is forecasted to improve capacity of EVs 570% over the next decade to 248 gigawatt hours (reported by Benchmark Mineral Intelligence). Note that a kilowatt-hour battery capacity is enough for an average of 18,000 vehicles.
The key technologies to be displayed on Tesla Battery Day this year are nanowires and dry electrodes. The latter would allow cost reduction and performance improvement at the same time. Industry observers assert that if Tesla establishes a leading position in these two areas, it will show its first-mover advantage for the time being. Tesla’s acquisition of the company Maxwell, which produces super capacitors – devices that improve energy storage capacity, offers all the necessities of both batteries and accumulators.
Nanowire technology, which Tesla recently featured as a background image for its Battery Day website, is capable of storing lithium ions at a rate over 10 times higher than graphite, but has rarely been used due to its expansion plan. This technology is commonly regarded as a diffuser of silicon expansion and until now, has yet to be applied into practice by any battery company.
Another focus of attention is developments of lithium iron phosphate battery (LFP) currently provided by the Chinese company CATL to Tesla. LFP batteries, though have low energy density, also offers significant upsides of cost efficiency and durability. According to industry analysts, while they could be more suitable for the entry-level automobile market, Tesla has gone far beyond this standard.
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How does hydrogen technology power electric vehicles, and will it take off? – Miningmx. (2020). Retrieved 19 September 2020, from https://www.miningmx.com/top-story/43650-how-does-hydrogen-technology-power-electric-vehicles-and-will-it-take-off/
Stevens, P. (2020). Tesla drops again, bringing three-day loss to more than 18%. Retrieved from https://www.cnbc.com/2020/09/03/tesla-is-dropping-again-bringing-three-day-loss-to-percent.html
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Andrew is a final year Actuarial Science & Finance undergraduate at the University of Melbourne. Andrew has extensive financial sector experience, predominantly in corporate finance and fund management in Malaysia and Singapore. He has previously completed internships in Khazanah Nasional Berhad, PwC Singapore and Maybank Kim Eng Investment Bank. His responsibilities ranging from creating deal marketing materials, potential investors screening to Investor Memorandum, financial models and valuation.