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Model 3 Mayhem, China Prospects: Analysts Reflect On Tesla's Mixed Q4 Earnings

TSLA | January 31, 2019

Tesla Inc (NASDAQ: TSLA)’s story was little changed by mixed fourth-quarter earnings.

“We believe 4Q results and the 2019 outlook give something for bulls and bears to exercise their imaginations,” Morgan Stanley analysts Adam Jonas and Armintas Sinkevicius wrote in a note. “We don’t expect consensus expectations to change significantly and don’t see how the core narratives around either the bull case or bear case are significantly altered.”

Tesla traded around $309.16 per share at time of publication.

Model 3 Mayhem

Tesla bulls, in particular, were unfazed by high expenses and a bottom-line miss.

“The headline numbers ultimately take a back seat to Model 3 underlying demand which looked strong in the quarter as an EV tax credit reduction pulled forward demand in North America, a dynamic that will result in pockets of softness in the March quarter,” Wedbush analysts Daniel Ives and Strecker Backe wrote.

But UBS remains cautious about Model 3 demand targets given weakness in January and February. Additionally, analyst Colin Langan suspects Tesla will struggle to achieve 25-percent gross margin targets, which would yield gross profit of about $11,300 per vehicle. That achievement would require $11,900 per-unit cost reductions once the $35,000 base version rolls out.

Bank of America Merrill Lynch anticipates similar challenges.

“Ultimately, TSLA is caught between a rock and a hard place, in which further unit growth at higher-ASP/margin is likely limited, while expansion of volumes into lower-ASP/margin will likely be materially dilutive to margins,” analyst John Murphy wrote. “If TSLA is successful in pushing volume, it would likely evolve into none other than a lower-margin automaker.”

Management guided for 360,000 to 400,000 Model 3 deliveries in 2019. That’s far short of Morgan Stanley’s 412,000 estimate.

“This largely answers the question as to how much demand was pulled forward into 2018 and how limited China will contribute ahead of the Shanghai factory coming on stream,” Morgan Stanley wrote. “It’s a bigger gap than expected and the guide largely de-risks volume expectations for the year.”

Financial Fitness

Baird expects operating-expense leverage to be a key growth driver in 2019.

Between that, lower-than-expected capex and $400 million in restructuring-related run rate savings, Tesla could achieve positive free cash flow through 2019, according to Morgan Stanley.

Despite a fourth-quarter cash increase with positive free cash flow, UBS anticipates a $1 billion capital raise in 2019.

“We also are uncertain future FCF will be sufficient to support growth plans for products (Model Y, semi, pickup, etc.), the China plant, and expansion of service and charging stations,” Langan wrote.

Bank of America agreed.

“TSLA expects to fund capex of Gigafactory Shanghai with low-cost local Chinese bank debt, suggesting that a more traditional capital raise in the US market may be farther off than we originally anticipated,” Murphy wrote. “However, we would emphasize that, adjusting for transitory/temporary factors like price/mix and working capital, TSLA still appears no more self-funding now than before, and further expansion of the product lineup, geographic footprint (Europe, etc.), and other business ventures are likely to necessitate future capital raises.”

Funding concerns aside, analysts were generally heartened by Tesla’s financial profile.

“Overall, the profitability picture for Tesla looks encouraging based on its current trajectory with Musk & Co. giving some good granularity around projections for 2019 on the demand and production fronts, with ample cash to pay its upcoming debt payment which is around the corner,” Wedbush wrote.

China Prospects

While Tesla continued to tout China as critical to its long-term strategy, Morgan Stanley disagreed.

“Tesla serves the purpose of a ‘stalking horse’ to the fast growing domestic Chinese EV industry, but we believe it has limited to zero terminal value in a region where a number of domestic champions should emerge,” Jonas and Sinkevicius wrote.

Before discerning its position on the matter, UBS awaits clarity on Tesla’s China Gigafactory, particularly pertaining to Tesla’s battery cell supplier.

Analyst Forecasts

At the end of the day, Tesla’s bulls remained bulls and its bears remained bears.

Baird maintained an Outperform rating with a $465 price target;
Bank of America Merrill Lynch maintained an Underperform rating with a $225 target;
Morgan Stanley maintained an Equal-Weight rating with a $291 target;
UBS maintained a Sell rating with a $220 target; and
Wedbush maintained an Outperform rating and cut its target from $440 to $390.

“Bottom line: the company’s fundamentals are trending in the right direction, and the list of systemic risks continues to be pared down,” Loup Ventures' Gene Munster said.