In this article, I’ll talk about Tesla stock’s underperformance in the short term, its growth prospects over the next five years or so, and how much it’s worth.
In the last month or so, Tesla (NASDAQ:TSLA) hasn’t done as well as it could have. Taking a longer view, the CAGRs for Tesla’s most important financial metrics show that the company will continue to grow quickly over the next five years. With a forward P/E multiple of 33.8, Tesla’s valuation has also come back to a more attractive level. After thinking about how Tesla will do in the next five years and how much it’s worth now, I’ve decided to change my investment rating from “Hold” to “Buy.”
Tesla’s Critical Metrics
In absolute and relative terms, the performance of Tesla’s share price over the past few months has been bad. Since Tesla announced its financial results for Q3 2022 after trading hours on October 19, 2022, the stock price has dropped by 17.7%. During the same time period, the S&P 500, which is a broad measure of the stock market, went up by 9.0%.
The key headline number for Tesla, EPS of $1.05 in Q3 2022, was 5% higher than the consensus estimate of $1.00 from sell-side analysts. But as shown by what happened to Tesla’s stock price after it announced its results, the company’s bottom line for the third quarter was better than expected, but that wasn’t what investors cared most about.
Instead, investors were most interested in Tesla’s gross profit margin for cars.
After accounting for Zero Emission Vehicle (ZEV) credits, Tesla’s non-GAAP adjusted automotive gross profit margin fell by 200 basis points, from 28.8% in Q3 2021 to 26.2% in Q3 2022. S&P Capital IQ data shows that Tesla’s non-GAAP adjusted gross margin for the third quarter was 0.6 percentage points lower than the 27.4% gross margin that analysts thought it would be.
Taking a look at how Tesla’s stock (NASDAQ:TSLA) has done since the earnings report, it is clear that the company’s third-quarter automotive gross margin was a big disappointment for investors.
What Catalysts Should You Watch For?
Investors will look for two things to get them excited in the near future: higher-than-expected vehicle deliveries and higher-than-expected gross margin profits.
Tesla hasn’t done well in the past few months. One important factor is that Tesla’s automotive gross margin is lower than expected, which I already mentioned. Concerns in the market about the Company’s ability to keep selling cars at a healthy rate in a tough economy are also very important. In its most recent earnings report for Q3 2022, the Company said that the economies of both China and Europe are in trouble.
In the next section, I look into whether or not Tesla is likely to meet both of the above catalysts in the near future.
How Do Things Look in the Short Term?
In the short term, I think Tesla will have mixed results since the company’s automotive gross margin recovery will be offset by fewer vehicles being delivered than expected.
On the other hand, Tesla (NASDAQ:TSLA) may not be able to deliver as many cars as expected in the next few quarters.
During its most recent quarterly investor call, Tesla said that deliveries of cars in 2022 will be “just under 50% higher due to an increase in cars in transit.” This is because “limits on outbound logistics capacity that we did not expect” will mean that more cars will be in transit at the same time.
Other things, like weak consumer demand because of slow economic growth and people putting off new purchases because they might get tax credits in 2023, are likely to cause Q4 2022 Tesla deliveries to be lower than expected.
On the bright side, I think Tesla’s automotive gross margin will go up in the fourth quarter of 2022 and beyond.
At the third-quarter results briefing, management said that “Austin and Berlin ramp costs” hurt Tesla’s Q3 2022 automotive gross margin. Tesla has said that the “impact” of “Austin and Berlin ramp costs” in the future will be “less than what we saw in Q3.” Also, the worst of the cost pressures that cause inflation should be over, and the prices of raw materials should go down in the future.
Still, people who want to invest in Tesla need to think about the long term. In the next section, I talk about Tesla’s outlook for the next five years.
In 5 Years, Where Will Tesla Stock Be?
Over the next five years, all of Tesla’s key financial metrics are expected to show strong growth.
S&P Capital IQ consensus data shows that analysts expect Tesla’s revenue to grow by 30% CAGR from $53.8 billion in fiscal 2021 to $201.7 billion in fiscal 2026. Sell-side analysts predict that Tesla’s normalized net income and free cash flow will grow at CAGRs of 29% and 45%, respectively, to $26.8 billion and $32.5 billion over the same time period. During its recent Q3 2022 earnings call, Tesla said that it will “grow our vehicle production, sales, and deliveries by” a CAGR of 50% or more in the long run.
Tesla’s financial outlook for the next five years and the next few years is good for a number of reasons.
First of all, the market thinks that the number of electric vehicles will grow faster than it does now.
“Demand for EVs Outpacing Supply,” a research report by Needham & Company that came out on September 14, 2022, said that “the majority of automakers” are “targeting 100% of sales weighted to EVs by 2030 or 2035,” even though “industry forecasts indicate that the US EV penetration rate will only reach the mid-40s to mid-50s percentage range by 2030.”
In other words, analysts may be too pessimistic about how quickly EVs will take over the market, and Tesla, the market leader, may be in for a pleasant surprise.
Second, there are more ways for Tesla to make more money in the future than just selling more one-off cars. The revenue from Tesla’s Services and Other segment grew by 84.0% from the third quarter of 2021 to the third quarter of 2022, from $894 million to $1,645 million.
Supercharging sales, which are a big part of the Services and other segments, have a lot of room to grow in the future. Goldman Sachs (GS) released a report on June 29, 2022, called “Opening The Supercharger Network.” Analysts from GS say that if Tesla “opens up the (Supercharger) network to all EV drivers,” “the incremental (supercharging) revenue opportunity could be $1–3 billion in a few years.”
Third, when the benefits of operating leverage and possible capital return to shareholders are taken into account, Tesla’s future earnings per share or bottom line can grow at least as fast as its revenue, if not faster.
Even though Tesla’s revenue went up by 55.9% in the third quarter of 2022, its operating costs only went up by 2.3%. This is a great example of how Tesla can benefit from positive operating leverage.
Share repurchases can also help Tesla’s earnings per share growth in the future. During its third-quarter earnings call in 2022, Tesla said that even in the worst-case scenario, it could “do a buyback on the order of $5 billion to $10 billion next year.”
Should You Buy Tesla, Sell it, or Keep it?
Buy is now the rating for Tesla stock (NASDAQ:TSLA). According to data from S&P Capital IQ, Tesla’s consensus forward next twelve months’ normalized P/E multiple has dropped to 33.8 times, which is only 9% higher than the company’s three-year trough P/E ratio of 31.0 times. Comparing Tesla’s current P/E ratio to the company’s financial outlook for the next five years, we can say that Tesla is a Buy.
Featured Image: Unsplash @ Milan Csizmadia