The Emperor’s New Clothes

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We live in an age where everything seems to be open to “self-identification”: Men can identify as women, women can identify as men, and car companies can identify as tech companies.  It is the latter that I would like to discuss today.

Tech or Transport?

Tesla Inc. (NASDAQ:TSLA) with a market cap of around $56B, and privately held Uber, with a valuation of around $61B both claim to be tech companies, whereas Uber is an actual app that connects drivers with people in need for transport, Tesla is in fact a car manufacturer.Arguments can be made for and against; however, towards the end of last year, the European Court of Justice ruled that Uber was indeed a transport company.  Now, don’t get me started on the ECJ, partially because it would take me totally off-piste. Let’s just say the ECJ’s meddling in other people’s business is one of the main reasons for Brexit happening (the other was migration).

Anyway, out of both companies, Uber is more likely to be regarded as a tech company, while Tesla should be regarded as a car manufacturer – albeit one that can’t actually manufacture cars.  OK, that was a low blow.  Let me rephrase: one that can’t manufacture more than 5,000 units of a car intended for the mass market… Better?

The ECJ decided that Uber is a transportation company, yet it doesn’t own a single vehicle.  This decision will draw more scrutiny towards it, and will mean Uber will have to face tougher regulations in the EU.

Tesla on the other hand keeps telling the story of it being a tech company, and the markets are buying it – both the story and the stock.

Why does this bother me? Well, are you familiar with the story “The Emperor’s New Clothes”?  It tells the story about how some con artists, posing as weavers, came up with an invisible cloth that only smart people could see.  They sold it to the Emperor, and although everybody in the town noticed the Emperor was walking around naked, nobody dared pointing it out, at the risk of being singled out as stupid.  Today’s Emperor is not only naked, he’s streaking through the quad and into the gymnasium, yet nobody dares to point it out. The worst part is they are putting their money where their mouth is, and that could spell doom to many investors in the coming years.

The parallels with Hans Christian Andersen’s fairy tale are astounding. Tesla has come short of expectations quarter after quarter. The stock of any normal company with normal shareholders would get hammered, yet Tesla’s shareholders seem impervious to the fact that they are investing in a business and that the business is not working. Tales of efficiency, environmental friendliness, and world changing technologies have Tesla’s shareholders spellbound into seeing The Emperor’s New Clothes, or they are just scared to be singled out, and shamed as the one who doesn’t believe in the future, in global warming, doesn’t care about the environment, or simply doesn’t believe in Elon Musk. Either way, the future looks bleak, for if history has taught us one thing, is that there is always one kid in the crowd that yells: “…but the Emperor is wearing nothing at all!”, and then everybody acknowledges what they always knew.

“If it looks like a duck, swims like a duck, and quacks, then it probably is a duck.”

How About the Duck Test?

If it looks like a duck, swims like a duck, and quacks, then it probably is a duck.  Tesla looks like a car company, manufactures cars like a car company, and sells cars like a car company, then it probably is a car company.  Having said that, the market is valuing the company at astronomical multiples, when it should be doing that in accordance to the industry.

Peer Comparison

Let’s take Ford Motor Company (NYSE:F) and General Motors Company (NYSE:GM) as examples.  I picked these two in particular because of their somewhat comparable market caps with that of Tesla.  The table below shows Ford, GM, and Tesla’s main indicators, as well as their market valuation measures.

Stock Price as of $44.19 $13.1 $340
Market Capitalization $63B $52B $57B
Cars Sold in 2017 6,200K 6,600K 70K
Revenue as of Q3/17 TTM $166B $154B $11B
Net Income as of Q3/17 TTM $9.57B $4.41B $-1.4B
Earnings Per Share 2.5 1.1 -8.66
Price to Earnings Ratio 21.57 11.91 N/A
Price to Sales Ratio 0.38 0.34 5.31
Return On Equity 16.11% 13.65% -38.14%

For starters, the market cap of all 3 is around the $50-60 billion mark, yet Ford and GM sell around 6 million cars a year, while Tesla sells about 70 thousand.  Both Ford and GM generate profits, with a return on equity in the healthy teens; Tesla’s: negative.  Unfortunately, the widely accepted P/E ratio as a valuation measure is not applicable for comparison because Tesla has no earnings.  Yes, your read correctly: they lose money every quarter, yet people keep throwing money at them.  An alternative market valuation method is the Price to Sales ratio.  GM’s is 0.38, Ford’s is 0.34… Tesla’s is a whopping 5.31.  If we were to value Tesla using the Price to Sales ratio as benchmark, and we averaged out both GM and Ford at let’s say 0.36, Tesla’s stock should be priced at around $23.  Now that is a price I’d happily pay for a share of Tesla stock.


People are paying $340 for a stock that isn’t worth the paper it’s printed on.  The stock is losing $8.4 dollars a share and has failed to meet every production target set out by management.  No wonder it was, at one point, the most shorted stock of 2017.  But the stock price seems to defy not only the laws of gravity, but those of business, of finance, and of common sense.

I wonder how much longer will people fail to acknowledge that the Emperor has no clothes and that Tesla, far from being a tech company, is in fact a car manufacturer, and needs to be valued with the same bar as its peers.

The bull market run has been exceptional, and while prices have gone up across the board,  there are plenty of companies with healthy balance sheets offering growing earnings, consistent returns, and solid free cash flows, that are still being traded at decent multiples.  Why not invest in one of those?

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2 Responses to The Emperor’s New Clothes

  1. Jason says:

    Calling something doomed is a tricky business. You can be perfectly right and still have invisible forces hold up the realisation of your prediction for many years.

    In 1969 you could have predicted communism was doomed and have had to wait 20 years to be proven right. (In North Korea, you’d still be wrong.)

    Tesla will come down but in the meantime shorting it is a mug’s game. What might force the realisation is not even something Tesla specific but a broader retreat in the markets.

  2. KY says:

    Everyone wants to buy the “dream”

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