Tesla: Goldman's Valuation of a Super Ball Stock

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Shares of Tesla Motors (NASDAQ: TSLA) fell about 14% last Tuesday, July 16, after a Goldman Sach's analyst released a memo outlining a price target of $84, considerably less than the $126 at which the stock opened the day. 

It didn't surprise me that Tesla's share price largely bounced back the next day (and it continues to recover), for two reasons:

The market often over-reacts

Tesla's stock price drop on what was actually an upping of Goldman's target price, even if it was (and is) lower than the current price, seems further evidence that many react to headlines without digging deeper.

Part of the reason the stock bounced back the next day was likely because some dug further.  

Tesla is a Super Ball stock 

Tesla's stock has behaved like Wham-O's iconic Super Ball, quickly springing back after each drop. And while short-covering has surely been a reason for part of Tesla's out-sized upward moves after positive news has been announced, attributing this bounce-back to short-covering would be a Slinky-like stretch. 

Tesla, unlike many extremely highly-valued (call it "over-valued," if you wish) stocks, has a low beta -- 0.54, per Yahoo! Finance. That means its volatility, in terms of stock price fluctuation, is only about half that of the overall market.   

Why so low a beta? There's little doubt the high insider-ownership is a major factor. Additionally, it's likely there's a core of shareholders with strong convictions.  

Just because the stock's been akin to a Super Ball doesn't mean it will keep its bounce. It could morph into Wham-O's Hackey-Sack at any time. However, it seems a positive sign.  

The Godman -- umm, Goldman -- Valuation 

Goldman's business acumen shouldn't be underestimated. However, as my kidding title suggests -- just because one analyst at Goldman (or anywhere) says something is so doesn't mean it's so.

Further, it's not enough to know Goldman's price valuation is $84 per share. It's important to understand how that number was derived.

Goldman arrived at the $84 by averaging valuations representing three scenarios: optimistic, pessimistic, and one in between. So, if one of the poles (optimistic or pessimistic) turns out to be close to what happens, that means the current valuation is considerably off.

The numbers:

<table> <tbody> <tr> <td> <p><strong>Scenario    </strong></p> </td> <td> <p><strong>Total Vehicle Sales (Model S/Next Gen)                       </strong></p> </td> <td> <p><strong></strong><strong>Operating Margin </strong>            </p> </td> <td> <p><strong> PE                     </strong></p> </td> <td> <p><strong>Current Valuation              </strong></p> </td> </tr> <tr> <td> <p>Pessimistic </p> </td> <td> <p>105,000 (50K/55K)</p> </td> <td> <p>14.6%</p> </td> <td> <p>20</p> </td> <td> <p>$58</p> </td> </tr> <tr> <td> <p>Mid-Case  </p> </td> <td> <p>150,000</p> </td> <td> <p>14.8%</p> </td> <td> <p>20</p> </td> <td> <p>$83</p> </td> </tr> <tr> <td> <p>Optimistic</p> </td> <td> <p>200,000</p> </td> <td> <p>15.2%</p> </td> <td> <p>20</p> </td> <td> <p>$113</p> </td> </tr> <tr> <td> <p>AVG</p> </td> <td> <p> --</p> </td> <td> <p>--</p> </td> <td> <p>--</p> </td> <td> <p>$84</p> </td> </tr> </tbody> </table>

Source: Numbers from Goldman memo 

Goldman's previous price target was in the $60s, so it was actually raised. Goldman kept its stance on the stock -- neutral. So, we have a neutral stance with a difference of nearly 100% between the optimistic and pessimistic sales projections. In other words, Goldman doesn't have much of feel for what will happen in three years! This is understandable, given the lack of historical sales data. 

Here's how Goldman arrived at the optimistic sales figure of 200,000:

We then look at a bull case where we assume that TSLA will be able to get approximately 3.5% global market share in the entry lux and mid-lux category suggesting total volumes of 200K units. The 3.5% market share assumption is consistent with the typical 3-5 year share gains seen by the most successful industry players across multiple luxury sub-segments over the past decade.

A few comments:

  • The projection goes three years out (that wasn't stated, but easy to figure out). 

  • "Next Gen" apparently refers to the Model X, a cross-over vehicle, slated to launch about late 2014. 

  • I'd assume the nearly 50-50% mix between Model S and Model X sales in the pessimistic scenario holds true for the two other scenarios, too. 

  • The operating margins were derived using Tesla's guidance (15%). For context: Volkswagen's Audi unit and BMW had margins of 11.0% and 10.8%, respectively, in 2012. Remember, Tesla has a direct sales model, so there's no dealer cut. 

The optimistic scenario could prove understated because it doesn't include revenue for anything other than producing vehicles. A few what-ifs:

  • What if Tesla's work supplying SolarCity (NASDAQ: SCTY) with batteries for solar energy storage proves successful, and results in more solar revenue in the future? 

    (In June, SolarCity announced it would begin testing Tesla-supplied 8-kilowatt lithium-ion battery packs at 100 sites, with a goal of rolling out battery-storage solutions for its solar-power generating rooftop systems in 2015. The power generated by solar panels during daylight would be stored in the battery packs at night, eliminating dependence on utilities' net metering programs. CEO Lyndon Rive -- Tesla CEO Elon Musk's cousin -- said declining battery prices will mean his systems can include storage and still beat utility rates for consumers in California and Hawaii, according to an LA Times article. If this proves so, it should be a big boon to SolarCity.) 

    (SolarCity, in turn, has been providing solar-powered canopies for Tesla's Supercharger stations. Musk is hoping to increasingly leverage the synergy between the two businesses.) 

  • What if Tesla permits other automakers' EVs to use its Supercharger network (for an upfront fee)?

  • What if Tesla expands its production of electric drive train components for other automakers? (It recently wrapped up supplying components for Toyota's RAV4 EV and is now working on a powertrain for Daimler's Mercedes-Benz B-Class Electric Drive.)

Takeaway

Investors and potential investors in any stock should keep in mind the market tends to over-react to both good and bad news. Additionally, it often reacts to "non-news" -- that which is not relevant to a company's business performance, as was the case here.

Goldman's three-scenario picture can be a handy tool for gauging valuation. Bulls and bears alike might want to use it as they take in Tesla's quarterly earnings going forward. (Tesla's second quarter earnings are scheduled to be released on August 7.)  


BA McKenna has no position in any stocks mentioned. The Motley Fool recommends Tesla Motors. The Motley Fool owns shares of Tesla Motors. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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