Beyond The Headlines
Tesla and the Dark Alleys of Investing
In investing, as well as in life, it pays to avoid dark alleys. Common sense and experience teach us what those dark alleys might be in life: dangerous places where trouble lurks and help might come too late. In investing, dark alleys are investments that can get us in serious trouble, and the worst of them can lose money for bears and bulls alike.
In my recent dinner conversation with friends the topic of Tesla came up. Yes, that celebrated electric car manufacturer led by billionaire Elon Musk. To disciplined value investors, Tesla has for years been the symbol of an overvalued, overhyped stock. The price has whipsawed dramatically a few times over the years, hurting both impatient bulls, and more recently, daring bears trying to short the stock and benefit from the price drop. We at Sicart have not taken either side of the trade, nor we have any intention to do so anytime soon. Buying a stock gives us an unlimited upside while selling a stock short would give us an unlimited downside, and you know how we feel about losing money!
To us, Tesla has been the investing version of a dark alley.
When I started out in this field, I thought that to be a successful investor you had to know it all, and have an opinion about everything. I would read all the news every day, go to every single conference I could find, take every meeting possible — for the sake of becoming well-informed. The time I spent that way jump-started my career, largely because it helped me define and shape what Warren Buffett calls “the circle of competence.” That is to say, what I really know well, and where I can have a true edge.
Fifteen years later, I have never stopped learning. Recently I’ve been spending evenings reading the most recent annual reports of companies that we respect and we would like to own. I’m much pickier than I used to be, though, about how I use my time. I also have a much stricter “no” filter. If a stock shows any of the red flags we watch out for, I dismiss it immediately. This practice has been a huge time saver, and, looking back, also a major money saver.
So, what are the red flags, in our opinion? First, too much debt. Second, questionable management. And third, an industry in a secular decline. Tesla grew its debt load from half a billion to over $11 billion in order to fund its losses over the last 7 years alone (Source: Company Filings). Almost all of its debt matures in the next 5 years. Elon Musk’s business practices might have rubbed too many investors the wrong way too. Finally, global car sales have been dropping, and 2019 brought a bigger annual sales drop than 2008, which was battered by the financial crisis. As a matter of fact, last year the annual global drop in car sales exceeded the number of all the electric vehicles sold around the world. (Some consider electric vehicles to be a separate market, but even so, that’s a dramatic plunge.) It does pay to remember that the car industry is cyclical, often tracking the general economy. Not surprisingly, at low points in the economy, debt-laden manufacturers often go bankrupt, wiping out their equity holders.
Now let’s go back to Tesla and those dark alleys. I have nothing against Tesla cars. I appreciate the idea of an environment-friendly means of transportation. However, as a student of history, I know that electric cars first hit the roads back in the 19th century. They were popular at first, and even held a vehicular land speed record for some time. But then roads improved in the early 20th century and range started to matter. At the same time, oil discoveries made gasoline more readily available. Soon, gas-powered cars dominated the market.
Fifty-some years later, electric cars still represent less than 2% of the global car market. And though Tesla as a company also sells batteries, solar panels, solar roof tiles and other products, cars represent 92% of its sales. Tesla and Elon Musk were able to create a renewed excitement and enthusiasm around electric cars. Tesla was meant to be expensive, high-end, luxurious. As a consumer, if I were in the market for a car, I might see Tesla as an intriguing alternative to traditional brands.
That alone wouldn’t make me want to own the shares of the company, though.
At least two of those red flags I mentioned are flying high for Tesla – high debt, and questionable management. With a $100 billion market capitalization, and $20 billion in sales, Tesla has never made money. In contrast one of its large, old, well-established competitors, which has worldwide sales 7 times higher than Tesla, is valued at 1/3 of Tesla, while earning $5B in profit and paying a 6% dividend. I’m not urging you to rush out and buy shares in any legacy car manufacturers, I am pointing out that with Tesla you are paying a lot for the growth, and an elusive promise of earnings one day. From the valuation perspective, Tesla is unquestionably expensive.
If you were to take the other side of the argument, and sell Tesla short, hoping to benefit from a price drop, you have to argue against boundless enthusiasm that isn’t entirely rational. The stock just recovered from a $170 low, and flew up to over $600, with some claiming it could reach $6,000.
As a disciplined investor, I see no reason to buy Tesla on the chance it goes that high. Nor do I see a reason to stand in the way of a moving train and take a bearish stand.
We know that there are thousands of stocks out there, and we believe that patience will bring hundreds of opportunities to buy them. We may like the car and enjoy Elon Musk’s showmanship, but you won’t see us buying Tesla shares anytime soon. Why? Because we like to stay out of dark alleys, in investing as in life.
The information provided in this article represents the opinions of Sicart Associates, LLC (“Sicart”) and is expressed as of the date hereof and is subject to change. Sicart assumes no obligation to update or otherwise revise our opinions or this article. The observations and views expressed herein may be changed by Sicart at any time without notice.
This article is not intended to be a client‐specific suitability analysis or recommendation, an offer to participate in any investment, or a recommendation to buy, hold or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including your existing portfolio, investment objectives, risk tolerance, liquidity needs and investment time horizon. This report is for general informational purposes only and is not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally.