The shares of Tesla, Inc. have been one of the great beneficiaries of the market rally since the March 2020 low. Government fiscal stimulus and Fed monetary expansion, along with a new generation of retail investors using commission-free trading platforms, has created a very sharp rise in the stock (see chart below). Is Tesla stock sustainable at current levels longer-term?
I am an automobile enthusiast and have no objection to owning an electric vehicle. Electric cars have a long history, going back to the early years of the last century. I am also an investor, who has had a long career as a money manager and have learned to look at potential investments with a pragmatic eye. What I see in the valuation of Tesla shares is concerning.
Firstly, the market capitalization of Tesla is greater than the top 9 automakers combined! One inference that could be drawn is that investors expect Tesla to eventually put all the other manufacturers out of business and be the monopoly producer of automobiles. That is very unlikely.
Tesla’s enormous market cap suggests that it will retain its current large share in the sale of electric vehicles. This presumes that the major manufacturers will not be introducing competitive electric vehicles. Most, if not all, of the major auto companies, will be introducing all-electric models in the next 2–3 years. Tesla will be hard-pressed to retain its market share in the coming environment.
As well, investors are likely overestimating the pace of sales of electric cars. Regardless of price or the competitive environment, the pace of adoption will be constrained by the supply of electricity. I have spoken with the presidents of a cross-section of electric utilities, all of whom expressed the view that no major Western country has the excess capacity to accommodate more than 10% of cars being electric without massive infrastructure expansion. Thus, a best-case scenario is a 10%market share for all-electric vehicles. Yet, Tesla is accorded a business value more than the rest of the industry.
Profitability remains an issue for Tesla. The chart below contrasts the operating profit of the company with and without the benefit of government credits.
Tesla, and the whole electric vehicle industry, remains heavily dependent on government subsidies, which are used to encourage sales by partially offsetting the higher cost of electric vehicles, such heavily subsidized results should not be accorded the astronomical valuation that they currently enjoy. A viable industry should not have to depend on such subsidies.
Along with the cost of the cars themselves, the future price of oil will play a large role in consumers’ calculation of the cost/benefit of buying an electric vehicle. I believe the price of oil will struggle to exceed a price of $50 per barrel for the foreseeable future based on estimates of soft demand and ample supply. A price considerably higher than $50 per barrel is required to make the switch from internal combustion to electric attractive on a cost basis.
Technological developments, such as the development of improved internal combustion engines and hydrogen fuel cells, also pose a potential threat to the potential market share of electric vehicles.
Tesla makes attractive vehicles. But in my opinion, the Company’s shares are very expensive and do not represent an attractive risk/reward proposition at current levels.