Friday, September 27, 2013

More on Tesla

               Several weeks ago Professor Aswath Damodaran of NYU posted a detailed valuation of Tesla that I discussed with him and examined carefully.  In a previous post, I noted that Aswath made a host of highly optimistic assumptions regarding the future earnings performance of Tesla.  Despite the optimism, however, his value indicator fell short of $70 per share.  At the time, Tesla was trading at $160.  Friday it closed above $190.  This leads to a very interesting question – who was buying Tesla at $190?  There are two basic possibilities.

               One is that there are those who see an extraordinarily bright future for Tesla.  And I do mean extraordinarily.  To justify a price of $190, it is necessary to assume astronomical growth rates in revenues over the next 10 years at continued high margins – in the highly competitive automobile industry.  It is hard to believe there are enough such optimists out there to maintain a price of $190.

               The second possibility is that investors are willing buy the stock, even at prices that exceed what they see as fundamental value, because they believe that they will be able to sell it higher prices still in the relatively near future.  This is the basis for what is commonly called “momentum trading.”  Although such trading appears to exist, economists still do not understand what causes it to arise and then collapse.  Some models suggest that what happens is that when prices stall, momentum traders attempt to take their profits.  But in trying to take profits, momentum traders end up attempting to sell into a market where there are no buyers because fundamental traders have already concluded the stock is overpriced.  The only buyers were momentum traders and now the momentum traders are trying to sell.  The result is a dramatic drop in prices to a level at which fundamental traders are willing to start buying the stock.

               Of the two possibilities, the second seems to me to be a more accurate characterization of the trading in Tesla stock though there is no way to know for sure.  If my conclusion is correct, at some point there will be a sudden, and likely quite dramatic, drop in the stock price reminiscent of the collapse in the price of Apple.

Monday, September 9, 2013

What is Tesla worth?

           I know investors hate plowing through complex spreadsheets, but sometimes it is worth the money.  This is especially true with regard to Aswath Damodaran’s valuation of Tesla.  Aswath was a student of mine at UCLA and we have been colleagues for many years.  His work is always careful and insightful.  Perhaps even more importantly it is transparent.  When Aswath posted a $68 valuation of Tesla on his website last week, he also posted a detailed spreadsheet that showed all the calculations and assumptions.

            I spent part of this weekend going through Aswath’s spreadsheet.  What struck me is how bullish his assumptions were.  Had I not known the outcome, that he would conclude the stock was overvalued, I might have accused him of hyping the stock by making such optimistic assumptions – sustained rapid growth for 10 years in a highly competitive business while maintaining margins!  Not easy things to do.  Furthermore, despite the risks inherent in a Tesla investment he discounts future cash flows at less than 10%.  Again an assumption that greatly favors a high valuation.

            Despite these optimistic assumptions,  Aswath’s valuation still comes to about $68 compared to a market price of over $160.  I urge anyone thinking of trading Tesla stock to plunge into the details of Aswath’s work.  You will find, for example, that dilution associated with outstanding options plays an important role.  If that undertaking seems to daunting, it is probably not a good idea to be investing in Tesla’s stock.