Today the shorts have lost a friend named GS - 3/18/14
Today Goldman Sachs (Patrick Archambault auto analyst) released an updated TSLA research report (47 pages with 4 pages of disclosures).
Summary: Goldman Sachs starts to turn somewhat bullish on TSLA by providing a very strong bull case for Tesla selling 1.8m-3.3m cars in 2025. However, they temper the excitement by giving this bull scenario a 25% weighted possibility (vs 50% for a base case and 25% for a downside case). Overall though this report marks a significant departure from previous GS estimates that were much more bearish and only looked forward a few years (ie., 2018 estimates). By looking forward to 2025 and including the possible dramatic rise of EVs with Tesla as the EV market leaders, GS clearly articulates a strong bull case for Tesla. In summary, the shorts have lost a key ally in GS/Archambault. I wouldn’t call GS a TSLA bull yet but they’re definitely not bearish anymore. I would call them conservatively optimistic. Their new model (ie., looking out to 2025) provides a lot of flexibility for them to up their price target in the future if/when Model S/X sales grow or GenIII demand picks up.
Key Points:
1. New model looks out to 2025 vs 2018 for the old model.
“Each of our five scenarios follows its own path out to 2025. We use this date because we need to look out more than 10 years to be able to credibly overlay the growth lessons from disruptive products like the Model-T and the iPhone, especially given that Tesla’s high-volume Gen III is not being launched until late 2016. We note all of our forecasts are the same until 2017 when volumes of the Gen III pickup in earnest.”
This is in stark contrast to their previous research notes where they looked out only to 2018 to base their estimates off of. For example, from their 2/27/14 TSLA research note:
“We value Tesla … by taking the average of three scenarios, with our base case tied to our 2018 estimates.”
In the 2/27/14 report, they estimated roughly 170-200k Model S/X and 90-106k GenIV cars in 2018. They averaged three scenarios within those ranges, took the average and then discounted it to come up with their present value share price. However, by looking out only to 2018, they missed the whole point of the TSLA growth story which is the GenIII (and GenIV) expansion. Their new research note corrects this and by focusing on 2025 estimates they are able to factor in GenIII and GenIV expansion.
2. Introducing GenIV possibilities to their model.
“The simplest of the five are our base case and downside case, where Tesla’s product portfolio remains luxury focused with only the Model S, Model X, and Gen III through 2025, which limits the addressable market and hence the potential value of Tesla shares. However, within our three higher-growth scenarios, we introduce a Gen IV vehicle – lower priced EV that falls outside of the luxury market – and dramatically expands the scope of impact for Tesla within the auto industry.”
By focusing on 2025 estimates, GS is able to include GenIV possibilities to some of their models. In my opinion, it’s imperative to include GenIV in future models since GenIII will be directed at the entry luxury sports sedan class (ie., BMW 3 series) which is still a relatively small segment of the overall auto market. GenIV will target the Corolla/Camry sedan market and will be much larger than the GenIII TAM (total addressable market).
3. Understanding GS three scenarios
Previously (until 2/27/14) Goldman Sachs didn’t look beyond 2018 and their estimates were fairly conservative. In this new model they present three cases and weight them the following: upside case (25%), base case (50%), downside case (25%). Most of their report is focused on the upside case (25% weighted) and explaining how within the upside case there are three separate scenarios that they’ve averaged in to arrive at a upside case.
4. The upside case (25% weighted)
“As we show below, the Tesla volume projections implied by the iPhone (Elon as Steve Jobs) and consumer durables (Elon as the Maytag Repairman) have a similar pattern of getting off to a faster growth pace and slowing about five years into the adoption curve as stiffer competition arises. These scenarios imply a global EV market of 4.7mn and 3.3mn, respectively, with Tesla at 3.1mn and 1.8mn units and implied stock values of $442 and $329 per share. On the other hand the Model-T (Elon as Henry Ford) implies a fairly unwavering growth pattern over this period to a staggering 6mn units for the EV market with Tesla representing 3.3mn units which would imply the highest net present stock value of $478 per share.”
The three scenarios within GS’s upside case are similar yet different in that they vary on growth rate of the EV industry and also on future Tesla’s market share. The most bullish scenario of the upside case is the Model T scenario which project Tesla selling 3.3m cars in 2025. This is inline with my personal estimates of Tesla selling 4-5m cars in 2028.
Here’s a summary of the upside case for 2025 (of all upside three scenarios):
Model S/X - 395k-629k units
GenIII - 514k-778k units
GenIV - 928k-1.9m units
1.8m-3.3m total units
So far, this is actually the most bullish numbers I’ve seen from a major investment bank analyst. By contrast, Feb 25th’s Morgan Stanley report projected Tesla selling 800k cars in 2025.
The conclusion of this “upside case” is a present value of $329-$478 per share. Note they are applying the following discount rate: “we are discounting the implied equity prices of these scenarios to the present at a 20% cost of equity for periods where revenue/EPS growth is above 20% and by 15% for periods where it is below.”
5. The Base Case (50% weighted)
“Our base case follows the growth cadence of our recently updated model, in which our volume forecast remained unchanged. While we ultimately expect Tesla to get to its 400k-500k volume target, we have it occurring about two years later in the 2022 timeframe. Part of this is to capture the unforeseen delays that are likely to happen in launching such a large capital project (“unknown unknowns” as former defense secretary Rumsfeld once quipped, like delays in capacity instillation, supplier qualifications, and raw material procurement); the other is that we assume a price of $50k for the Gen III, which is higher than Tesla’s stated target of high $30k/low $40k and suggests demand could take longer to build.”
The base case projects the following for 2025:
234k Model S/X
528k GenIII
763k total
The base case conclusion is the present value of TSLA to be $119/share.
6. The Downside Case (25% weighted)
“Our downside case also follows the growth cadence of our model but takes a slower growth path from 2019E to 2025E than our base case. However, we still grow units delivered to a level just shy of 500,000 by 2025E”
The downside case projects the following for 2025:
161k Model S/X
335k GenIII
496k total
The downside case conclusion is the present value of TSLA is $66/share.
7. Stationary Storage
“In terms of what this option value is worth to Tesla, we key off the 15 GWh pack capacity that will be dedicated to stationary storage using a cost of $125/KWh at 15% margins—slightly higher than corporate once fully ramped. On our estimates this would yield $2.2bn in revenue by 2020E and $330mn in EBIT; factoring in $30mn in capital cost on $600mn of investment (30% of the $2bn Tesla plans to spend for its part in the whole factory) we get to $1.33 in EPS accretion. Again, given the substantial growth opportunity that lies ahead, we would be comfortable using a 1.0-1.5x PEG ratio similar to the auto business implying a 40x P/E in 2020E. The net of this would be $53 of value in 2020, discounted at an appropriately high 20% cost of equity would yield $20 of option value today”
In other words, they think stationary storage will yield $2.2b in revenue and $330m EBIT (earnings before income tax). Apply 20% discount rate from $53 value in 2020 to get $20 share value today.
Conclusion
1. Overall what’s surprising is not that Goldman Sachs raised their price target to $200, but rather that they shared the possibility of a bull case in their research note. Previously their research notes seemed to leave out the bull case and they didn’t even recognize the massive disruptive potential of Tesla. However, this research notes corrects their past error. Too bad it’s coming $200 too late for their clients.
2. Previously Archambault and his team from Goldman Sachs had preached caution regarding TSLA and had largely ignored the massive EV revolution. While they still seem to discount the inevitability of the transport industry going electric, at least now they’re including the possibility that the EV industry could take off and sell millions of cars in the next decade. However, even their most optimistic scenario falls short of what will likely happen with EV adoption and growth.
3. The shorts have lost a champion of their cause. It seems like Archambault is slowly defecting from the bear camp and possibly starting to migrate to the bull camp. His migration is not complete. And I have my doubts if it’s sincere or not. I’m tempted to think that he’s received pressure from GS management to more fully research and include the bull TSLA case in his analysis and that this is what prompted this oddly-timed research note. Regardless, today the shorts have lost one of their dear friends and it’s likely to be painful for them.
4. I can’t help but think that Morgan Stanley’s recent Feb 25th TSLA research note put to shame Goldman Sachs. After Q4 2013 earnings, Goldman Sachs released a puny, effortless research note (just a few pages) while other firms like Morgan Stanley released well-researched, in-depth research notes (ie., over 50 pages). On top of that, GS has been relatively bearish on TSLA previously giving much lower price targets than the current stock price. I can’t help but wonder how many GS clients were strongly advised to trim their TSLA holdings since the official GS research notes were continuously bearish on price. If I was a GS client and I had TSLA shares that were trimmed or even completely liquidated because of GS’s lame TSLA research notes of the past, I would be infurious. Perhaps GS management finally got wind of this and put pressure on Archambault (their lead auto industry analyst) and his team to take a deeper look at the bull case and to include it in a research note. While this is speculation, it does make sense to me. It also gives some time for any GS clients who were short TSLA because of their past research notes to cover their positions. Overall though, I think Archambault made an epic mistake in his past evaluation of TSLA and many GS clients suffered greatly. TSLA is one of the rare high-growth consumer stocks where a retail investor can own the product, invest a large amount, and keep updated on the company with minimal effort. It’s too bad that being a GS client during the past year put you in a disadvantage in regards to owning one of the great consumer stocks (rivaling AAPL’s epic rise of the 2000s). Anyway, it’s a lesson to everyone here: sometimes analysts don’t get it and miss the big ones.
Some Final Thoughts on Price Action
1. Today TSLA closed at $240.04 (up $6.06 for the day). TSLA has been testing the 230 level the past week. It’s unclear to me where TSLA is headed in coming weeks due to macro concerns and even things like Ukraine/Crimea. However, if the overall market holds up then I think TSLA will do very well in the coming months. I think that this GS report from today sucks some life out of the shorts and that some smart shorts will cover.
2. On a longer-term view, the GS report also marks a possible turning point for short interest. IMO Tesla’s high short interest is largely due to the large diversion of beliefs surrounding the company (ie., some people thinking it’ll take over the auto industry while others thinking it’ll be an epic failure). However, as the diversion of beliefs narrow, then short interest should come down over time. One of the precursors for the divergence of interest narrowing is when analysts start to agree with each other and there’s somewhat of a consensus around TSLA. I think this is starting to happen as investment banks like Deutsche Bank, Morgan Stanley, and even now Goldman Sachs start to see the disruptive potential of EVs in the auto industry and Tesla’s key role. Regarding when short interest will come down, I don’t have specifics but I think a healthy short interest for TSLA is under 10m shares (currently it’s over 30m shares short). I think the first move needs to be short interest heading under 20m and we might see this happen over the next 3-6 months (just pure speculation).
My personal price target* for TSLA is 300-350 by the end of the year (but I wouldn’t rule out 350-400 if things line up well. Nor would I rule out 250 or lower at the end of the year if there are some serious challenges).
*Note: my personal price target for TSLA can/will change according to how Tesla's progress toward its goals, market conditions, and other factors.