Dear Elon: How about a capital raise to pay down the DOE loan?

[Causalien]

1 Billion needed for gen3. How long will it take for TSLA to generate that?
I am thinking, maybe they really should get a button out for Gen 3.Riding on the current publicity and reception by younger people. They can use those money for the capital investment needed for Gen 3. Or am I mistaken on this? I know it is put on the balance sheet as liabilities, so not sure if they can spend it freely. People like me who can't justify owning a big car like Model S and lives in a cramped city will really welcome a smaller ev like gen 3.

One way I was thinking about financing this, is that on top of pre order, add an option to prepaying with a monthly payment so the financial hit is spread out. It could work as tsla is not seen as on the verge of failure now. Any huge problems with this model and TSLA's online sale only restriction?

 

[Norse]

1 Billion needed for gen3. How long will it take for TSLA to generate that?
I am thinking, maybe they really should get a button out for Gen 3.Riding on the current publicity and reception by younger people. They can use those money for the capital investment needed for Gen 3. Or am I mistaken on this? I know it is put on the balance sheet as liabilities, so not sure if they can spend it freely. People like me who can't justify owning a big car like Model S and lives in a cramped city will really welcome a smaller ev like gen 3.

One way I was thinking about financing this, is that on top of pre order, add an option to prepaying with a monthly payment so the financial hit is spread out. It could work as tsla is not seen as on the verge of failure now. Any huge problems with this model and TSLA's online sale only restriction?

Yeah, the fans would love it. Probably 20k in waiting list first week! I need to get a Gen3, or buy a used Model S. Selling my shares is not an option.

 

[DonPedro]

Maybe the answer is a simple one of political expediency. I have never spent much time thinking about politics in my investments, but of course it is a friction we live with every day. Perhaps the negative sentiment aroused by politicians looking to score points at Tesla's expense really is that expensive in terms of forgone demand or roadblocks to strategic progress. Or perhaps there is more to the decision than that. This forum has some serious brainpower; it might help all to lend some cycles to this question?

You have to think big about this. Remember: "Tesla’s goal is to accelerate the world’s transition to electric mobility with a full range of increasingly affordable electric cars.". As long as the perception lingers that EV manufacturers are living off government dole-outs, there will be no real momentum behind this vision in public discourse and policy-making. Everyone will view the EV transition as something the gov't is try to stimulate in the future, rather than something that is happening NOW.

There are of course many additional factors on a more day-to-day level:
* Avoid being bashed in media
* Attract customers that are ideologically opposed to gov't supporting companies
* Avoid strings/covenants attached to DOE loan
* Get rid of 3M warrants (strikes $7.5-9) in DOE loan
* The value of the PR related to the re-payment of the loan
* Brownie points with a lot of politicians

In terms of financial strategy, the key thing to realize is that optimizing the cost of capital should be relatively low on the CFOs list. A percentage point or two of WACC is not what will make or break Tesla - it is public adoption, product development and production excellence. The primary goal of the financial strategy should therefore be to see how it can in any way serve these three objectives. (Not saying that the interest rate is irrelevant, just saying it plays second fiddle).

 

[DonPedro]

I did a quick-and-dirty transcript of EM's answer in the Bloomberg interview regarding the capital raise. It sheds some light into his thinking and actions:

Q: 6 months ago, did you think it would be conceivable for you to retire this loan so early?


A: No, I thought it'd be quite difficult to raise the capital for Tesla. As you know we were one of the most short-sold stocks in the market, and that was depressing our stock price quite heavily. In fact, I think there were times we were THE most short sold stock in the market [wry snicker]. So that depressed the stock price and made it quite difficult for us to raise funding.

The challenge of course we have is that we have to balance the interests of investors and tax payers, and ... With the announcement of profitability that resulted in a fairly meaningful increase in the stock price and the availability of the convertible debt market was also helpful. So we're looking at a situation where, after earnings... And we had done literally no work on this... until[?] the day after our earnings call... We new it would be well received, but we had already told people that we would be profitable, so we thought the stock would drop after we announced the actual numbers, because that often happens. But actually, the stock went on quite a positive trajectory. So [unintelligable] we'd done no work on the financial thing. [snip]...but since the stock went up and gave us quite a good stock price, we said OK, we really should take the opportunity to raise funding. Because there are times when the market is pessimistic and times when the market is optimistic, and obviously it makes sense to raise money when it's optimistic. But even then, we weren't sure what the appetite would be for Tesla equity or convertible notes.


So, we worked through the weekend and worked with the bankers and put together a financing round. And we were quite pleasantly surprised by the level of demand. In fact, both the equity and convertible note were way oversubscribed. But we started out looking at raising maybe 700 million, and we ended up increasing that to just over a billion because there were so much demand. And we improved the terms in favor of Tesla, and we got quite competitive terms especially on the convertible notes.

- - - Updated - - -

Elon Musk also said that the DOE loan limited them in some areas, notably raising financing for inventory etc. He said that with 2/3 of sales expected to be abroad, there would be quite a few cars in transit that have to be financed and that will be easier now.

He also mentioned the criticisms regarding the DOE loan, and that some people would not buy the car because of that.

Finally, he said that the bottom line was just that it FELT RIGHT. "I feel so much better having done it". I got the feeling that he has really taken the DOE loan criticism personally, and that he is glad to have fixed that. Clearly an emotional/intuitive component to this decision.

 

[MuskForPresident]

Elon also said between the capital raise and cash flow from operations they have enough to fund both MODEL X and GEN III (about $1B) without an additional raise. Yay.

 

[Causalien]

Elon also said between the capital raise and cash flow from operations they have enough to fund both MODEL X and GEN III (about $1B) without an additional raise. Yay.

That needs a bit of correction. There's about ~450 million left after the DOE loan payoff I think. Elon said this is more than enough to fund Model X, however not enough to fund Gen III as that requires approximately $1 billion of capital investment.

 

[DonPedro]

That needs a bit of correction. There's about ~450 million left after the DOE loan payoff I think. Elon said this is more than enough to fund Model X, however not enough to fund Gen III as that requires approximately $1 billion of capital investment.

Having just heard the thing, I think MFP is right - that Tesla expects to fund Model X and Gen III with a combination of the current cash and cash generated from operations.

 

[toastypasta]

Having just heard the thing, I think MFP is right - that Tesla expects to fund Model X and Gen III with a combination of the current cash and cash generated from operations.

Musk clearly states that they have enough CASH IN HAND to fund the Model X.
He then clearly states that they need $1b to fund the GenIII though they believe they will not need to raise funds as that will come from GENERAL CASH FLOW. Meaning sales of Model S and Model X.

 

[kenliles]

Musk clearly states that they have enough CASH IN HAND to fund the Model X.
He then clearly states that they need $1b to fund the GenIII though they believe they will not need to raise funds as that will come from GENERAL CASH FLOW. Meaning sales of Model S and Model X.

That's a very positive position and good news. I interpret that as a hope, but there might need to be a small one depending on sales between now and then. Either way, though its a very positive statement

 

[vgrinshpun]

Musk clearly states that they have enough CASH IN HAND to fund the Model X.
He then clearly states that they need $1b to fund the GenIII though they believe they will not need to raise funds as that will come from GENERAL CASH FLOW. Meaning sales of Model S and Model X.

My back of the envelope calculation on what this might mean in terms of market cap and production:

http://www.teslamotorsclub.com/show...-Motors/page12?p=345824&viewfull=1#post345824

 

[gregincal]

Of course, that interest expense will be waved away as "partially non-cash" amortization of bond discount by those inclined to do so, it's a "fake" expense that gives you a tax benefit.

Yep, I would definitely argue that what Tesla needs is cash to invest in Model X and Gen 3, not accounting profits. The actual interest they are going to be paying out is about the same or less than the DOE interest, and they get to pay even less taxes by deducting the accounted interest that they don't actually pay to anybody. They have now said they plan to fund Gen 3 entirely from Model S and Model X revenues, so anybody expecting much in the way of quarterly profits for the next few years is dreaming anyway. It's all about cash flow, as far as I'm concerned.

 

[TD1]

The repay announcement on Elons Twitter account got 1969 retweets, usually Elons tweets get about 100-400 retweets.
Im really surprised what a big deal the DOE loan is for the public.

 

[Causalien]

The repay announcement on Elons Twitter account got 1969 retweets, usually Elons tweets get about 100-400 retweets.
Im really surprised what a big deal the DOE loan is for the public.

Just look at the big banks. Even after paying back their bailout fund, they still get slapped around by politicians as they please. Want to be promoted? Attack the big banks and gain political points from your voters. I am just glad they didn't replace "big banks" with TSLA.

 

[DonPedro]

Just look at the big banks. Even after paying back their bailout fund, they still get slapped around by politicians as they please. Want to be promoted? Attack the big banks and gain political points from your voters. I am just glad they didn't replace "big banks" with TSLA.

Oh, don't get me started on this. The banks are not being slapped around at all, they are doing all the slapping that matters. Sure, some lefty-commie-takes-no-money-from-finance braveheart launches a broadside at them from time to time, but they have called the shots on every important piece of regulation. The US financial regulations are a disgrace, thanks to campaign finance, revolving door between got'v and Wall Street, and because of the race to the bottom between the various regulatory bodies. It is now a pretty common insight that Too Big Too Fail is what caused the 2008 crisis, yet nothing that works has been put in place to counter it. I wouldn't care so much if the US economy wasn't so big and globalized that you will pull us all down with you the next time again (whether it be in 2 or 20 years).

If there is something the US needs, it is more slapping around of the banks by politicians. In fact, they should not just be slapped around - a large number of bankers belong in jail for fraud, and the rest should be put on a tight leash. After all, Wall Street should be there for America, not the other way around.

But I don't think this thread was meant for this...

 

[luvb2b]

Just to close the loop on this, today's 8-K notes the hedge transaction ended up costing 161 million (!) which means the embedded option on the convert was 26.83% of the principal, and the effective interest rate convert buyers are getting for taking on the senior unsecured credit risk is 8.26% for 5 years - this was actually very expensive debt given where Treasuries are!

One might conclude the massive expense of the hedge transaction was a result of the huge volatility embedded in options pricing on Tesla as of last week... and so for the same reason the warrant that tesla sold as the third leg of the debt financing deal also had a ton of volatility and a high price attached - Tesla received $109.4 million selling the warrants with a $184.48 strike price (the converts have a $124.52 conversion price) which goes a long way to offsetting the huge cost of the convert hedge.

My takeaway - that DOE loan payoff better have some really valuable karma or non-capital cost strategy associated with it, because the debt swap was a ridiculously expensive move versus just sticking with the DOE loan for the remaining term.

once again, you are 100% correct from a textbook standpoint.

however in practice there's going to be a huge spread between where one sells a giant block of long-dated out of the money options and where one could purchase that same block. although Tesla had to pay goldman $161 million to buy that call option, it's likely that the price at which buyers would pay tesla to buy the call option from tesla would be a bit lower. so that would offset some of the cost of the debt, perhaps by 10-20%.

i read the link you posted to encore's debt issue presentation. great information on the accounting treatment of the debt. my thought is that while the accounting treatment is correct, i'm sure elon was thinking of it from a shareholder's point of view. from the shareholder's point of view, there's only a cash payout of 1.5% on the debt, and there is no real dilution until the stock reaches $185/share. in order for that to happen, the fully diluted market cap of tesla would be $25 billion. most likely they couldn't achieve that market cap without at least $5-8 billion in sales. that's not likely to be an issue for at least another 2-3 years. i think the key to remember is that elon has excellent insight into the future roadmap of the company, much more so than us. relative to an options valuation that is done by black-scholes or similar formulaic approach, elon can probably value the option much better especially in terms of understanding the likelihood of that option being in the money. i'm guessing that elon thinks that the $185 warrant is either not likely to be in the money, or that he will have time to address it over the next few years via either debt repurchase or share buyback.

finally regarding the doe loan payback, i think you are right that there is substantially valuable karma about being out of the government's shadow. i think the course of events will prove the debt swap was cheaper than hanging on to the government loan, and better for shareholders. imo the guys who get screwed the worst are bondholders who are loaning money at 1.5% for many years to a company with one quarter of profit history. really makes me wonder how far the bond market (overall, not tesla bonds) can fall once it starts going down.

 

[ModelS8794]

once again, you are 100% correct from a textbook standpoint...
...imo the guys who get screwed the worst are bondholders who are loaning money at 1.5% for many years to a company with one quarter of profit history. really makes me wonder how far the bond market (overall, not tesla bonds) can fall once it starts going down.

You keep suggesting that this isn't actually happening ('textbook'?) which confuses me I will admit. If you can't see the plain fact that bond buyers are receiving >8% YTM (or >7% YTM even including your suggested spread for the embedded option) by purchasing the bond and selling the embedded option back to Goldman (who facilitates the transaction and keeps its own book flat via the convert hedge) then I don't know what else to say. It's plain as day to me, and Tesla spells it out very clearly in multiple places.

In connection with establishing their initial hedge of the convertible note hedge and warrant transactions, the hedge counterparties or their affiliates expect to enter into various derivative transactions with respect to our common stock concurrently with or shortly after the pricing of the notes, including with certain investors in the notes.

From Tesla's perspective, whether the bond buyer or Goldman takes the profit matters not - Tesla is receiving $600 for the convert and paying $161 for the hedge that backs out the embedded option. That leaves them receiving $439 million cash for the straight sr unsecured debt, in exchange for a promise to pay $9 million annually and $600 million at maturity - that's an 8.27% YTM and it's not in a textbook but is actually happening (for realz!) on Tesla's balance sheet.

It's the equity and derivative buyers who are facilitating this transaction (which is why I feel the Reflexivity display was so awesome and so critical to make this work.) If not for the excellent terms Tesla received on the stock, the embedded option, and the warrants pieces of the total deal, this would have made no sense whatsoever (from a strictly financial standpoint of course - there were clearly other reasons to rid themselves of the DoE loan besides financial ones). The features that make this deal look great from a shareholders point of view (1.5% coupon on the convert, $185 strike net of all the derivative transactions) would not exist but for the excellent terms of the derivatives and the fact that the stock was in the midst of a multi-month reflexive ride up.

Last on this from me; it's done now, the facts are what they are regardless of your or my interpretation. And anyway as I read more and hear more from all parties about just what a millstone that DoE loan was (low-cost aside), I agree with the larger (and more important) points about the value of paying it off, even if it results in writing some bigger checks along the way. The restrictive covenant forbidding working capital line of credit alone seems worth the expense of getting rid of the DoE loan, never mind the added boost of goodwill from a swath of potential customers and Musk's personal satisfaction from 'doing the right thing'.

 

[gregincal]

From Tesla's perspective the warrant transaction is as real as the hedge transaction. You can't count one as being part of the deal and discount the other one. It didn't leave them receiving $439 million cash, it left them receiving $548 million cash. That's real money in the bank they can spend, the rest is accounting. There's plenty of companies that show a profit on their books while heading to bankruptcy, having the cash is what Tesla needs.

- - - Updated - - -

If you can't see the plain fact that bond buyers are receiving >8% YTM (or >7% YTM even including your suggested spread for the embedded option) by purchasing the bond and selling the embedded option back to Goldman (who facilitates the transaction and keeps its own book flat via the convert hedge) then I don't know what else to say. It's plain as day to me, and Tesla spells it out very clearly in multiple places.

I don't believe the bond buyers have sold the embedded option back to Goldman, that would make no sense. Goldman has kept their books flat buy selling the hedge and buying warrants.

 

[ModelS8794]

From Tesla's perspective the warrant transaction is as real as the hedge transaction. You can't count one as being part of the deal and discount the other one. It didn't leave them receiving $439 million cash, it left them receiving $548 million cash. That's real money in the bank they can spend, the rest is accounting. There's plenty of companies that show a profit on their books while heading to bankruptcy, having the cash is what Tesla needs.

<Sigh> And if they sold 5x the warrants, would that have made the convertible debt better than free? Or would that just be further demonstration of the fact that it's the derivative buyers who are facilitating the transaction, not the bond buyers?

If "having the cash" is the only thing that matters, Tesla would not have agreed to a convert hedge and warrant transaction that resulted in a net ~$60 million cash outflow. Even if you and others discount the very real costs of debt and equity financing, I can assure you Tesla does not.

I don't believe the bond buyers have sold the embedded option back to Goldman, that would make no sense. Goldman has kept their books flat buy selling the hedge and buying warrants.

Goldman is flat if they are long an option with a 180 strike, and short an option with a $124 strike?

OK, I can see we're not going to reach a consensus here. I guess we'll just agree to disagree.

 

[jeff_adams]

From Tesla's perspective the warrant transaction is as real as the hedge transaction. You can't count one as being part of the deal and discount the other one. It didn't leave them receiving $439 million cash, it left them receiving $548 million cash. That's real money in the bank they can spend, the rest is accounting.

It will be interesting to see how Tesla operates going forward. I always felt like they were struggling to meet projected time lines because they were watching the budget. Now with a little cushion, it wouldn't surprise me if they are able to speed things up quite a bit. They use to over promise and under deliver. Seems they learned the lesson to under promise and over deliver (they sure did that on Q1 report)

 

[luvb2b]

You keep suggesting that this isn't actually happening ('textbook'?) which confuses me I will admit. If you can't see the plain fact that bond buyers are receiving >8% YTM (or >7% YTM even including your suggested spread for the embedded option) by purchasing the bond and selling the embedded option back to Goldman (who facilitates the transaction and keeps its own book flat via the convert hedge) then I don't know what else to say. It's plain as day to me, and Tesla spells it out very clearly in multiple places.

the bond buyers are selling the embedded call option back to goldman? i don't think so. it's a convertible bond, the option stays embedded inside the bond. goldman writes a separate option which is then bought by tesla, and tesla issues warrants that are bought by goldman. i guess if you got that part right, that the embedded call is sold back to goldman, then you're 100% correct. i don't believe that's the case, i believe goldman delta hedges their short call and long warrant position exactly as if they are short a call spread.

From Tesla's perspective, whether the bond buyer or Goldman takes the profit matters not - Tesla is receiving $600 for the convert and paying $161 for the hedge that backs out the embedded option. That leaves them receiving $439 million cash for the straight sr unsecured debt, in exchange for a promise to pay $9 million annually and $600 million at maturity - that's an 8.27% YTM and it's not in a textbook but is actually happening (for realz!) on Tesla's balance sheet.

but it's not actually that right? they're only paying a net of around $60 million since their hedge is just a call spread. so effectively they're getting something like $540 million, paying $9 million annually and then $600 million at maturity. the irr on that is roughly 3.7% annually, not too far above the doe loans.

and this is what i mean by you are right from a "textbook" standpoint. if you use all the formulas and everything else to evaluate it today, everything you say is true. but i think what the reality well end up being as time goes by will be something very different. i'm pretty sure that either (a) the dilution at the $185 strike won't come into play, or (b) tesla will find a way to deal with the convertible or dilution during the years in between.

the point i'm making here is that elon is basically an informed seller of the convertible and warrant. he has much better information than the bond & warrant buyers, and i'm pretty sure he thinks that the $185 level when dilution would come into play won't matter.

and that's why i say the bond buyers here are morons. they are getting options which i feel are likely going to be either worthless or worth a lot less than they are being valued today. the implicit price for those $125 calls embedded in the convertible is something near $40/share. what the bond buyers are going to be left with, in my opinion, is a piece of paper that's paying 1.5% backed by the paying ability of a company with one quarter of posted profits. and that's a lousy trade for them.

i think for the most part we agree on most things here.