A brief history of Tesla starts in 2003, when Martin Eberhard and Marc Tarpenning launched the electric vehicle (EV) manufacturer. A year later, Elon Musk invested $6.5 million in the business to become the largest shareholder. Today the company makes four EV models, making up 80% of its sales. Tesla produced 1.8 million vehicles in 2022, but it aims for much loftier numbers in future, forecasting 20 million cars by 2030, an eleven-fold increase from 2022.

Tesla is known as the maker of some of the best-looking electric vehicles in production today. It was seen by the market as a “losses today, profits tomorrow” type of company for a very long time. After a particularly tough 2022, the stock is up over 100% for the year so far in 2023. But over the last five years the stock value has increased by 1,200% to reach a market cap of $800 billion. Musk has created significant shareholder value over time and at the same time he is one of the most influential CEO’s and currently the world’s wealthiest individual.

While these are impressive numbers, it has, in fact, not been a smooth ride for the company. There have been multiple times in the past where the stock was down by over 50%. It has also faced bankruptcy multiple times. Once in 2008, where the company needed to secure a $40 million loan to avoid going under and then again, between 2017 to 2019, during the model 3 ramp up. The stock also burned both buyers and short sellers a few times in the past, as well as burning significant amounts of cash as it ramped up production before sales orders were even received.

In addition to cars, Tesla’s other products include auto credits, auto leasing services, and energy generation and storage. It is in the final category that Musk also has a particular interest, and he has been working on accelerating the transition to sustainable energy, selling solar panels and battery systems for businesses and residential homes. Oftentimes, however, he makes very bold and audacious predictions, as he sets extreme targets through his various “Master Plans”, which are released from time to time, sending jitters through the markets.

The business’s management team, Musk in particular – as its largest shareholder with 14% of the company’s stock – are also not without controversy and a single comment from Musk can move the stock radically on any given day, impacting any security shareholders may believe they have in the owning the stock.

TESLA BY THE NUMBERS

Tesla generated around $80 billion in sales during 2022, up from $53 billion in 2021 and growing at a compound rate of 47% over the last five years. However, in our view, the company will be unable to sustain this rate of growth going forward.

When we break down the numbers, we see 83% of the company’s sales were from cars in 2022, the company’s other offerings pale into insignificance with no meaningful contribution to the company’s bottom line.

The majority of the vehicle sales stem from the company’s two most popular models, The Model 3 and Model Y which, together, makes up around 95% of all units sold by Tesla. When we look at the company’s sales figures, we see that although sales have jumped from just under half a million in 2020 to just over 1.3 million in 2022, the numbers are small when compared to global automotive giant, Toyota, which sold around 10 million vehicles, of which 2.27 million were EV in 2022.

While China is the world’s largest EV market, the bulk of 2022 Tesla revenues were in the US, making up 50% of the company’s business. China came in second with just over half the sales (compared to the US) making up 28%, as can be seen in the table below.

Tesla has ambitious plans for the future. It’s current installed production capacity and it’s future plans are shown below. According to our estimates, Tesla will need at least five additional plants at full ramp-up stage to reach its long-term targets.

ELECTRIC VEHICLE INDUSTRY OUTLOOK

There is industry consensus that the future of mobility will likely be electric. According to the International Energy Agency (IEA), there were over 10 million electric vehicles sold globally in 2022, that is around 8% penetration of total global vehicle sales and represented an increase of 55% year-on-year. This compared to light duty internal combustion engine (ICE) vehicle units, which saw a decline in sales of 7% in 2022. A large part of the EV growth was driven by motor car sales in China, which in turn was driven by government subsidies. Around half of all EV’s sold in 2022 were in China and it is expected that within the next three to five years an average of 10 million EVs will be sold in China annually.

The longer-term outlook for EV growth looks even rosier, with expectations of global sales reaching almost 40 million units in 2030 according to industry experts. While Tesla had around a 12% market share in China at the end of 2022, we anticipate that this will be its most important market for future growth. The graph below shows the growth in the global EV market from 2010 to 2023.

Note: 2023 sales (“2023E”) are estimated based on market trends through the first quarter of 2023. Source: IEA analysis based on EV volumes.

The penetration rates vary per region/country, with China leading the trend, there is still strong potential upside to sales globally. Adoption rates are increasing all the time, but it will take a while for meaningful global penetration. The graphic below indicates the uptake of EV, as a share of new cars, in the various global markets.

TESLA INVESTMENT CASE

The Tesla investment case is a complex but interesting one. The dream of a global fleet of electric vehicles, autonomous driving, and energy storage solutions create potential for enormous growth. The ultimate “story stock” that is Tesla, has been promising this for a very long time. As such, valuing a business like Tesla is an entertaining experience. On the one hand, there is the difficulty of figuring out how this business would look in 10 to 15 years, and on the other hand you must contend with the power of a visionary, innovative and sometimes controversial CEO and his influence on the value of the business.

Currently Tesla’s main source of profits comes from the four EV models of its fleet. We expect this to change as the company launches more models to expand into its addressable markets. This includes, but is not limited to, a sub $30,000 sedan, a sub $35,000 SUV and a pick-up truck of around $20,000 to $40,000. Based on our calculations, the addition of these models would help expand Tesla’s addressable market to around 50 million vehicles globally. This does not mean it would sell that many vehicles but rather would be able to penetrate a larger market relative to the one it has today. A larger market implies a larger potential profit pool. Based on our calculations the company is currently addressing a market of around 20 million cars.

Tesla has a few long shot ideas. If they work out, it will add significant value to the business. These ideas include “robotaxis”, which are Tesla’s vision of autonomous taxi’s, energy storage solutions, including batteries and solar, selling its technology to third parties and offering various value-added services to drivers. This is not an exhaustive list but provides an idea of what the company is working on. It is difficult to put a number to these ideas because any number would be a big assumption based on ideas that are still in their nascent stage of development and have much less revenue potential than the automotive business. But they do offer huge potential if they are successful.

Traditionally, the automotive sector has not known excessive profitability, and automakers typically enjoy single digit operating margins on average. Tesla, on the other hand, has generated operating margins of 17% in 2022 as its scale finally started to bear fruit. Is this due to something specific to Tesla or have they stumbled on the holy grail of car manufacturing nirvana? One of the key inputs to the valuation of Tesla is the margin assumption, which is currently impacted by two large components: production cost and battery cost. Battery cost continues to fall while production cost should benefit with scale and efficiency gains. Where this eventually settles and what an appropriate margin for Tesla looks like when it reaches cruising speed as a business is key to what the business is worth.

In our view Tesla has a relatively weak competitive advantage and its barriers to entry include Full Self Driving (FSD) and vehicle software. However, these barriers could be overcome by enterprising competitors. Scale and efficiency are the areas where Tesla is trying to build out an advantage as this will help strengthen the sustainability of the business. Tesla has invested around $30 billion capital into the business to date, and expects that a total investment of $150 billion to $175 billion is needed to expand vehicle production, cell production, services and charging. This compares to the roughly $300 billion a business such as VW has spent over the last 30 years to get to the current point in its production.

ROADBLOCKS FACING THE EV INDUSTRY

The three main issues facing the EV industry currently are battery cost, charging infrastructure and regulatory support. We will dig into each below.

The largest cost currently for an electric vehicle is its battery. Prices have come down significantly over the last decade, but are still not on par with an equivalent ICE vehicle. The price of batteries used in EVs dropped over 80% since 2010, from around $1,150/kWh to just $150/kWh. This trend is expected to continue to reach an anticipated $60/kWh by 2030 as production increases. Various experts predict that once the battery cost falls below the $100/kWh threshold, the cost to build an EV and ICE vehicle will be similar.

The materials needed to manufacture batteries are also going to become scarcer as demand increases. Some of the main metals needed include lithium, cobalt, and nickel. A typical EV will require around 200kg of these types of metals to make a battery versus 30kg copper and manganese for ICE vehicles. However, the limited supply of these metals may not meet the expected demand for EV’s in five to 10 years. A larger portion of EVs sold are also SUVs or other large cars. In the case of SUVs, the batteries are two to three times larger than small EVs – making the demand for critical minerals even higher.

Another concern is the geographical concentration of where the batteries are manufactured and mined. Over 70% of lithium battery cells are made in China, thus posing a supply chain risk. On the mining side, around 70% of the cobalt supply comes from the Democratic Republic of Congo (DRC). Among the major challenges facing the DRC includes rampant child labour.

Research into new battery chemicals and alternatives is ongoing and new technology might create a future paradigm shift so advanced EVs compete on price with their less advanced petrol-powered counterparts. When batteries become more efficient, charge faster, are a lot cheaper to buy and maintain, we will see an increased penetration of EVs.

Note: EV = electric vehicle. The metals category includes alloying applications. Supply refers to refinery output and not mining output. Source: IEA analysis based on Mineral Commodity Summary 2022 by USGS, lithium and cobalt supply-demand balance (January 2023) and nickel global supply-demand balance (January 2023) from S&P Global and World Metal Statistics Yearbook by the World Bureau of Metal Statistics.

The charging infrastructure needed to electrify the world’s vehicle fleet will require significant investment over the next decade. Limited charging infrastructure is a global concern and while proliferation of global charging may reduce range anxiety, increases in charging speeds become essential. However, the required technology is still in its infancy and the cost to grow the global network is significant. As more charging infrastructure rolls out, a large buildout of the electricity grid and alternative energy resource become critical. An owner of a new Tesla Model 3 that drives the US average annual mileage of 22,000km, would use about 3,600kWh electricity charging the vehicle at home – this is similar to electricity used by a typical 200L geyser in a family home or around 10 times the amount needed for a refrigerator.

Accessibility to public and home charging points (at the same convenience level as refueling ICE vehicles) will need to be in place to enable EV adoption on a mass scale. As a result, denser populated urban areas will require significant investment in public charging points. In 2022, there were about 2.7 million charging stations globally, a 55% increase when compared to 2021. China led the move with 1 million slow chargers installed at the end of 2022. Tesla has been in the pole position when it comes to charging infrastructure as the first mover in the industry. It has super chargers able to power its vehicles to a 300km range within 15 minutes. Globally, Tesla has over 50,000 of these super chargers, making it the largest fast charging network in the world. The company will also start sharing its network with other vehicle manufactures, creating another revenue source for Tesla. Based on our calculations, this revenue stream can be $10 billion to $15 billion per year.

Regulations are still evolving, but a concerted global governmental effort would speed up adoption of EVs. Certain countries, including China, Norway, Sweden, are promoting increased EV ownership, while the likes of USA are still lagging. Regulatory support in the form of subsidies cannot last forever, but it is a good start for those countries able to afford this. Various countries have indicated the potential ban on sales of petrol/diesel powered cars in the next 10 years. This will boost the demand for EVs, and Tesla should benefit from this trend. Recently, however, the UK pushed their ban on petrol and diesel cars back by five years to 2035. Certain industry players may view this as undermining their EV investment plans and might put drivers off from switching to EVs. This will be an interesting space to watch over the next decade.

CONCLUSION AND VALUATION

We expect Tesla to be one of the leaders in the global EV race. However, competition is building at a rapid pace, particularly from China. The playing field with a number of potential cheaper alternatives is going to be packed within the next five to 10 years. For example, in 2022 there were 500 different EV models globally, double the amount in 2018. It still significantly lags ICE vehicles which had around 1,300 models available in 2022. So as competition grows and the shift towards EVs  accelerates, the addressable market for EVs also grows. This will ultimately mean Tesla needs to court more of this market than it is currently doing.

We also do not think there is only one valuation for a business such as Tesla as there are multiple scenarios its business model may adopt. We do think however, that how it executes its various strategies will determine its success. Thus, we value Tesla using various methods to cover all bases. Simplistically the value will be driven by the cash flows the business can generate in future, which in turn is dependent on the amount of vehicles sold, the price of those vehicles, vehicle margins, and how successful the company will be with its non-auto business. We made various assumptions based on our research to get a clearer picture of where the fundamentals of Tesla could end up in future.

In our most bullish scenario for Tesla, we think it can generate sales of $600 billion by 2032 with a 10-year compounded annual growth rate (CAGR) in excess of 20%. To do this, it will have to have a large global market share in EVs and that all its non-auto businesses are extremely successful. In this case we expect Tesla to generate industry leading operating margins of 20% to 25% as its scale-benefits continue to grow as self-driving software becomes a larger portion of profits. The probability of this bullish scenario is very low, but we value Tesla at $305 per share, which translates into a value of roughly $1 trillion for the business, implying an upside valuation of around 20%. One could argue that these numbers are very optimistic and will be very hard for Tesla to actually live up to. However, it does give an idea of what needs to happen to see some upside.

If we use a more conservative valuation case for Tesla, we expect the company to generate sales of $320 billion by 2032, growing at 15% per year over the next 10 years. This implies that as more competition enters the market, customers could be offered more choices. Tesla will likely have to continue cutting prices in certain regions, like Asia, to increase its market share. Our growth assumption is a rapid growth rate for a conservative case, but we feel confident it can be done. Our revenue forecast for this scenario is shown in the table below.

Based on our work done, we see a path to around five million units sold annually in the medium to long term for Tesla. This would mean its production numbers need to more than double from current levels. We expect margins to be lower than Tesla’s previous peak level as the market will likely be more mass-market models while scale benefits and selling prices level off. But even with this scenario, we are assuming margins for Tesla to be higher than most traditional automakers. So, this leaves our conservative valuation for Tesla at a share price of $135 per share, or a value of $470 billion for the business – implying downside of 50%.

Overall, we think the current share price of Tesla more than accurately reflects the potential growth scenarios, and thus does not currently offer any meaningful upside. There are multiple potential outcomes for this business and Tesla has to execute its strategy flawlessly to live up to the numbers the market is expecting. Valuing a business is part mathematics and part art, and in Tesla’s case, the maths just doesn’t make sense, yet.

Sources: Tesla Company Reports, International Energy Agency (IEA) Reports, Bloomberg