Tesla Inc. (TSLA, Financial) is navigating through uncharted territory. After macroeconomic headwinds took the sheen off the stock over the last six months, some analysts are calling it undervalued.
Simultaneously, supporters of Tesla were made aware of two favorable developments that indicate a promising future for the company: an upgraded credit rating and promising business growth in one of its key markets.
This addition will enhance Tesla's appeal, as the company already boasts cutting-edge technology in its battery systems, electric vehicles and solar panels, incorporating the latest advancements. This technological prowess has resonated with consumers, as evidenced by the company's remarkable increase in market share, resulting in it becoming the largest electric vehicle manufacturer in the world.
The valuation of the EV giant has long been a contentious issue, as it consistently commands a higher price than its peers. The current market volatility, inflationary pressures and potential recession could lead to further erosion in the price. Despite no change in this pattern, the stock has recently seen a slight decrease in its premium, attracting some attention.
The EV train could start slowing down
Tesla has enjoyed steady profit growth over the past several years, with an especially noteworthy spike from 2020 to 2021 and another great surge in 2022. This shows that its success is only continuing to progress.
Furthermore, after experiencing losses for several years, Tesla was profitable in 2020 and has maintained profitability in subsequent years, including an impressive net income of $12.6 billion in 2022, up from $5.5 billion in 2021.
Notably, the sales of electric vehicles, specifically the Model 3 and Model Y, along with energy storage products, have been the primary drivers of revenue growth.
While acknowledging Tesla's impressive growth, investors need to consider the unique macroeconomic conditions of the past two years. The Covid-19 pandemic and measures taken by governments and central banks to combat its economic impact affected Tesla's sales and financial performance.
One contributing factor to the company's pandemic-era sales was the increased demand for electric vehicles, as remote work and online services reduced the need for traditional gasoline-powered vehicles. This may have driven more consumers to consider the environmentally-friendly alternative.
Moreover, the pandemic led to a significant increase in the monetary supply in many countries, making it easier for some consumers to finance a Tesla purchase. However, demand for new vehicles or pricier models may slow in a high-interest rate environment.
Inviting international waters
According to EU data, Tesla had impressive growth in February, selling 19,249 vehicles, which reflects a 49.68% increase from February 2022 and is just shy of the company's 50% growth target. This growth helped to boost the company's overall market share to 2.4%, compared to 1.8% in 2022, with an EV market share of 20%. The automaker's sales growth aligns with the European vehicle market, which saw 12% growth in the same month. Additionally, Tesla's end-of-quarter push is evident in various parts of Europe, such as Portugal, where the automaker urged owners to pick up their vehicles promptly as they overwhelmed available parking spaces.
Tesla's aggressive price cuts have been a key factor in bringing in more customers than ever before. This price movement has been so profound that other brands have been forced to cut prices to stay competitive.
Similarly, Tesla sales in China have considerably increased, prompting a price war like in Europe.
According to registration data released by China Merchants Bank International, 106,915 new Tesla vehicles were registered in China from Jan. 1 to March 19. At an average of 1,371 units per day, this average daily rate exceeded that of the previous quarter, which was 1,327 units.
Vote of confidence
Tesla's recent price cuts have received praise from Morgan Stanley analyst Adam Jonas, who said the reductions are Tesla's "rational" business strategy. The company's leadership and economies of scale in the electric vehicle market give it a competitive edge in the auto market by allowing it to offer lower prices.
This contrasts with earlier this year when some analysts and the media interpreted price cuts as a negative factor, arguing they were a sign of weak demand.
Addressing this concern, Tesla CEO Elon Musk reassured investors during a call that demand for the company's vehicles is strong. He noted that orders in January were almost double the production rate, and the company received the highest orders year to date.
Jonas believes that Tesla's cost competitiveness will result in additional price reductions over time. He maintained his 12-month price target for the stock of $220.
In addition, top credit rating agency Moody's (MCO, Financial) recently upgraded Tesla's rating to Baa3 and provided a positive outlook, predicting the company will remain a leading manufacturer of battery electric vehicles with high profitability and expanding global presence.
This boost in credibility adds to Tesla's bull case and provides access to more favorable debt terms if needed.
Tesla's strong profitability is reflected in its net income. Management believes the company has enough liquidity to finance its long-term capacity expansion plans and other expenses without external funding.
With the ability to cut vehicle prices to drive demand and surging profitability, Tesla's shares have seen a sharp rise this year. This leads me to the question of valuation.
Still not cheap
While Tesla's recent growth and profitability have been impressive, its current price-earnings ratio of 53.67 still discounts its historical values. However, despite this discount, the company's current valuation remains grossly overvalued compared to the industry standard. Over the past 10 years, Tesla's price multiple ranged from a minimum of 31.21 to a maximum of 1396.86, with a median of 250.75.
Tesla's price-earnings ratio is ranked worse than 84.35% of 901 companies in the Vehicles & Parts industry, with an industry median of 15.96. While this may not come as a surprise given the company's reputation as an industry disruptor and innovator, it is worth noting the current valuation is still significantly higher than its peers in the industry.
Investors should remember that while Tesla's growth and potential for future success are impressive, its valuation remains high and may not be sustainable in the long term.
Takeaway
Several factors indicate a challenging path for Tesla, along with persistent inflation and macroeconomic headwinds, making the outlook even more uncertain. As such, a more cautious approach to valuing the company is recommended.
Conversely, the transition toward electric vehicles is projected to persist, and Tesla's commitment to sustainability and innovation could provide it with an edge in a market downturn. Furthermore, the company is anticipated to sustain growth in the upcoming years, bolstered by rising sales and profitability.
Tesla's strategy involves extending its product line by introducing new electric vehicles, which could serve as growth catalysts that partially justify the company's high stock price.
Overall, there are many advantages associated with investing in Tesla, making it highly sought after. However, the stock remains overvalued. With macroeconomic headwinds and a possible recession, Tesla shares have the potential to fall further.
