Thoughts on TSLA: A road to 200b?

TSLA definitely raised a lot of question and debate in 2018, and it get extremely volatile both operationally and stock price. Per Musk it had only weeks away from bankruptcy back in 2Q 2018, and we had all those news of going back privacy. However, after the ‘production hell’, TSLA’s future actually got better and better, especially after the extraordinary Q3 reports.  More and more investors, though many still reluctant to admit, realized what TSLA accomplished is a marvel, and it has built much of the moat for competitors to catch up, and it can certainly earn a quite a lot of money in the future!

Today I am gonna talk about talk about how I think about the TSLA story, especially on its strategy, compare it with Apple, and also some of the financials. Let’s see will it be a 200b company in the future, and should we bet on it? Here are major points.

1，Tesla Resembles Apple in general

2，Will Model 3 be the inflection point as Iphone 4 moment? 

3，Direct sales

4，‘First origin’ belief and Manufacture vertical integration

5，Software driven (Smart car in the sense)

6，Maximize operating leverage

7，Ongoing dominance in smart car industry

8，Some thoughts on Innovator’s dilemma

9，The Tesla Flywheel

10，Some thoughts on car recycling period or even Mobility-as-a-Service (MAAS)

11，A few words on Musk

12，Drill some financials, and the roadmap to 200b?

13，Some thoughts on TSLA China – NIO? 

14，Conclusion

 1， Tesla Resembles Apple 

Though in different areas of phone and car, Apple and Tesla indeed have quite many in common as both are technology driven with brand new and disruptive business model!

Most people still compare TSLA with traditional car makers, however these differences are astonishing big and deeply rooted from their values, believes and their business model.

From 2007 to 2018, Apple’s revenue and market capitalization grew roughly tenfold—making it the most celebrated technology growth story of the 21st century. Apple’s growth was fueled by the most productive period in the company’s history with the release of the iPhone, iPad, Apple Watch, and App Store—each generating sales on par with a Fortune 500 company. Despite selling what is widely regarded as a commodity—computers—Apple’s unique strategy of vertical integration and consumer focus allowed it to build superior products, charge higher prices, and command fanatical customer loyalty. As I look at Tesla in 2018, I see the outlines of another Apple in the making. Tesla resembles Apple in three key areas: a strategy of vertical integration, an imminent product inflection, and a business model transitioning from hardware to services.

Tesla Resembles Apple: Vertical Integration

At the core of Apple’s success is its strategy of vertically integrating hardware, software, services, and retail, as shown below, in contrast to its competitors which specialize only in one layer of the stack. Vertical integration allowed Apple to achieve a number of first launches in the industry: the first multi-touch smartphone, the first 64-bit mobile processor and OS, and the first watch with EKG functionality(electrocardiogram, a medical test used to detect heart disease).

2， Will Model 3 be the inflection point as Iphone 4 moment? 

What 2018 Q3 prove is that: TSLA definitely can be quite profitable even with Model3 not fully ramp up and not has the greatest operating leverage.

More important is that it proves that TSLA can generate quite a lot cash flow to make it self-sufficient and no need to worry about it go bankruptcy.

Will Model 3 be the iphone4 moment for TSLA?

Not surprisingly, Tesla has yet to break into the mainstream—like the Mac line from the early 90s, its cars are simply too expensive. Just as central processing units (CPUs) and memory prices were too high for the mainstream in the 90s, battery costs today are too high relative to the mature internal combustion engine. According to the research, however, the cost of lithium ion batteries will fall below $100/kWh, achieving cost parity with gasoline cars by 2022, as shown below. Interesting to note, Elon Musk stated that by the end of 2018, Tesla likely will be at $100/kWh, placing it roughly three years ahead of competition.

Projected inflection point in 2019-2020:

Tesla has spent more than a decade preparing for this moment and, in my view, has the most compelling EV pipeline of any company. The Tesla Model 3 and Model Y (a crossover SUV) have the potential to catapult EVs into the mainstream, much like the one-two punch from the iPhone and iPad in mobile computing. In the U.S. the Model 3 competes in a price category that has three times the addressable market of the Model S, and the price category where the Model Y is likely to compete has an addressable market eight times larger than the Model X. Follow-on products, such as the pickup, the semi-truck, and the Roadster, will pave the way for at least a decade of rapid growth.

3， Direct sales 

Instead of using traditional distribution centers as 4S stores, TSLA choose to build up its own direct customer sales stores just like Apple did. The majority profits of traditional 4S stores is from the maintenance fees, which EV cars has little. And also, TSLA choose to face to its customers directly, and that means sale & service all by itself. 

To achieve that it also needs the car can be super easy to be configurated, upgraded, and serviced.

4， ‘First Origin’ belief and Manufacture vertical integration

Like Apple (even though build by Foxconn, but Apple innovates and redesigns most of its structure, and many of the components, and owns most of the patents) the Tesla is highly vertical integrated. And the notion and belief of ‘the first origin theory’ helped Tesla and Musk to make some real innovations. The high integration built up competitive advantage, made up true difference from others and more importantly it helps TSLA to gain all the know-how of smart car manufacturing, and easier for further updates and innovations. 

The idea of cooperating with Panasonic and homemade Gigafactory is crucial, and builds its competitive advantage over other third-party sourced OEMs

Tesla actually has the lowest cost battery cell compared with others by large extent according to UBS’s research

5， Software driven (Smart car in the sense)

Truly technology company

Tesla is more of a smart car instead of electronic car, that’s a crucial difference between the traditional car makers as GM, F, and also a huge difference between some EV car makers as BYD. In the end of day, TSLA is a software based, technology driven company. That’s what truly makes a difference and build up some true competitive advantage. TSLA is the major car maker which has born and inherited the spirit of Silicon Valley.

Continuously updating product

One thing different from traditional combustion vehicles is that the electrified cars are much easier to be software based, and that’s changed totally how things worked. In the old way, everything is fixed when a car goes out of the factory, just like the old feature phone. The customers have to wait for a proximately 7 years for the next generation for the upgrades. Right now, a car is more and more like smart phone, and the car you buy become an on-going upgrade product. Having a product that can continuously upgrade is an amazing experience, and totally better than the old one-time deal.

The relationship of OEMs and customers is becoming more and more close, and you don’t need the 4S stores to get in between.

Funny thing is that, seems that no-body even noticed that Model S is 7 years old! In the old world, a 7 years old model means nobody would like to buy, the wonder is simply because TSLA keeps its hardware structure extremely simple (no need large platform change) and keeps software updates.

The newest software version is 9.0

Old new of 2016 and I believe nowadays TSLA has much more data to feed its autopilot AI algos

With an installed base of cars and control of the customer relationship, Tesla will enjoy different opportunities which could prove more lucrative. In the near term, we believe the most valuable asset that Tesla’s installed base generates is data. The automotive industry is in a race to create an artificial intelligence (AI) ecosystem capable of autonomous driving. As with any AI problem, the primarydeterminant of success will be gathering large quantities of high-quality data. On this metric, Tesla has no peer, thanks to its advanced sensor suite installed across roughly 400 thousand vehicles gathering roughly 4.5 billion miles of data per year. In contrast, Waymo’s data collection currently annualizes at roughly 12 million miles per year. Other auto manufacturers such as GM, Ford, and VW have no such installed base to draw upon, relying instead on a small fleet of test vehicles for data gathering.Tesla’s customers are providing Tesla’s AI department with its competitive advantage at no additional cost.  I believe the scale of its fleet and data gathering gives Tesla a serious shot at becoming the first company to deploy fully autonomous driving at scale.

And also, the enhanced autopilot function itself charges 5K dollars, which is like near 100% gross margin, and largely improve TSLA’s earning ability. Just consider, if in the future we can achieve full autonomy, TSLA still has plenty of opportunities to earn more money. Let’s not dive in too deeply into this, but easy imagination includes Uber like business, On car entertainments, etc.

6， Maximize operating leverage

Like Apple, TSLA also choose to build much fewer models to maximize operating leverage.

You might also remember that in the feature phone ear, there are so many brands and models, the market is extremely fragmented especially from model’s perspective. And everybody can only earn a small fraction of sales (somewhere around 5-10%, similar like today’s auto industry) from its hardware even for the at that time, and no one could even possibly imagine iphone could sell more than 200m from only few models and earns a margin of 20s.

Even in its best years, NOK’s earning ability is not comparable to Apple today.

Right now, the same thing might also happen in auto industry? Every car companies run so many brands, models which sometimes compete with each other, lack of synergy, and lack of leverage.

7， Ongoing dominance in smart car industry

Without doubt, TSLA is dominating smart car industry, and I believe it will continue to hold that position in the future, even though people cry about ‘tesla killer is coming!’ every year. 

First bear in mind, TSLA is selling a price much higher than its competitors right now, yet it still continues to sky rocket.

Some specs for reference:

TSLA is absolutely dominating today’s smart car industry:

Even though with much lower selling price, Bolt fells a short from Tesla Model 3 by a large distance

Tesla tops the 3 out of 4 in US market

Tesla has a market share more than other car makers combined

Tesla has a market share of 13% worldwide, even though Model 3 only sells in US.

Model 3 ranks the top 5 best-selling passenger cars in US volume wise, and tops 1 revenue wise, considering its ASP is almost 2 times of other models.

Tesla beat Mercedes-Benz, BMW, Lexus, Audi not only in EV world but in luxury cars in general.

The presence of Model3 largely drag down other competitor’s selling, both in EV world and in luxury world in general.

The love of Tesla is similar to Apple, even more fevered.

8， Some thoughts on Innovator’s dilemma

For traditional automobile makers because they still rely heavily on combustion cars, they inevitably also face the Innovator’s dilemma that Nokia faced back in early 2000 when smart phone first emerged. Clayton M. Christense wrote a series book on this topic, the best one ‘The Innovator’s Dilemma：When New Technologies Cause Great Firm to Fail’ really explained a lot on this topic.

And we might experience this again. Even though the giants from the old world seemingly untouchable, however since their most profits still from the combustion cars, they still need to invest heavily in old models, at best invest in somewhere in between AKA (as known as) bi-platform, which cannot fully maximize its potential as pure electronic platform. Even though TSLA is still much smaller than those giants, it has a much larger smart car market share and will enjoy a better operating leverage in this area. 

9， The Tesla Flywheel

Like Apple, TSLA is also trying to enlarge its competitive advantage by building its ecosystem.

No one is trying to build up a charger network except Tesla

Tesla largely enhanced the charging efficiency by its Supercharger Technology

Tesla also dive deep into the energy cycling business

Leveraging its advantage in battery, Tesla now offers energy storage business.

Energy Storage and SolarCity branch of Tesla both have quite potential

SolarCity has been pivoting from leasing to sales model and it had a few quarters bad time, and now gradually coming back.

Might not be a high margin business, however it can well leverage its battery advantage and improving its ecosystem (for example: charging, storing, re-use batteries). 

Energy-as-service business model

10，Some thoughts on car recycling period or even Mobility-as-a-Service (MAAS)

The repurchase period in feature phone time is around 3-5 years, and even longer, however that period come down to 2-3 years in smart phone time. Will this also happen in the future of smart car time?

As the battery technology advances, it can be more and more used to store energy, and Tesla would be more than happy to buy back its cars and get its customers to re-purchase new cars more frequently than they normally do, or even sell as Mobility-as-a-Service (MAAS) model as right now Apple is trying to achieve. In a MAAS model, it can generate a cash flow much more stable, consistent and sticky than the old one-time sales model.

Tesla has a much higher residual value than all the other models not only EVs and in general sense.

11，A few words on Musk

Musk is certainly most respected entrepreneur in the world among with Jack Ma, Jobs, Jeff Bezos, Bill Gates, Page and Brin, Zuckerberg, etc, and great investors: Warren Buffet, Stan Druckenmiller, Jim Chanos, etc.

Though he may raise many criticisms and quite controversial, but I believe there is no one better than him in this job. 

1， His is definitely a man with vision that can conquer all the difficulties

2，In order to innovate, you have to contempt authority and willing to challenge 

3，First origin theory is the most brilliant idea in innovation

4，He is such a talent who can understand software, physics, engineering, and know how to integrate, and he is a man pursuing perfection. 

Without one TSLA is impossible to go this far.

Some questions might be around executive departures:

The backbone of this firm actually with it for quite long time as: Elon Musk 15years, JB Straubel, CTO, 14 years, Deepark Ahuja, CFO, 10 years, Franz von Holzhausen, Head designer, 8 years, etc. And Musk is definitely very tough and hard to work with (The most innovated company all have a tough leader, cause you need to challenge and innovate), the fact also true on Jobs, Bezos, etc.

12，Drill some financials, and how can TSLA get to 200b?

I heard many questions like: GM is only 50b, thus TSLA is highly overvalued as it sells much less cars than GM.

We need to get down to the essence, and do not get clouded by the old models. The new business model might have much higher valuation in the future (because of many merits). Take the feature phone vs smart phone again: the price performance of the king of feature phone Nokia. Exclude the abnormal valuation at 2000, the maximum valuation of NOK has never passed 150billions, yet the new business model of Apple has reached 1 trillion this year, though down a little bit recently but still above 780billions.

The old model of car OEMs is more of a bank like business, whereas TSLA is more of a tech company and has much higher competitive advantage which would help it achieve higher ROIC in the long run.

Car OEMs are bank like business, rely heavily on debts, and earnings is more like a spread in between. They may seem to be cheap but can get extremely hampered when the demand slows down, or rates hike. On paper, from PE perspective GM is quite cheap as less than 10 multiples, however GM has more than 100b debt on balance sheet, while it only generates less than 10b FCF even in a good year of 2016 and no cash return, and it can get strewed in a bad year.

Ford has also more than 100b debt, a better FCF, however still extremely sensitive to the macro environment.

Compared with brand driven, healthier balance sheet, higher barrier model of RACE, it trades at a valuation of much higher 40+PE, 6.4 PS, 80 EV/FCF!!

The roadmap to 200b?

In a 5 years scenario analysis, I’m more than comfortable with that TSLA’s annual delivery will grow from a 250k auto company to 2 million, considering it still has many models awaiting for deliver and many places awaiting to enter: Model 3 only offered to US market, and Tesla Y, semi, pickup are already on the way to deliver.

Here is my guess it might achieve in 5 years. 

In that case, TSLA may achieve a more than 100b topline, and 10b bottom line, given 10% net margin. With much less debt on balance sheet, and healthy cash flow, and still much growing potential to grow (2m only stands for 2% of total auto sales), it might be able to support a multiple of 20s, and 200b in equity value. Of course, one thing is more important to notice than multiples is whether TSLA can hold up its competitive advantage at that time. If it can hold strong in high premier electronic car market, as Apple in premier smart phone market, everything is justifiable.

13，Some thoughts on TSLA China – NIO?

Will NIO be the TSLA China? Still hard to say. True, NIO has some features alike and may also on the right track of becoming a smart car company, but the difference is also large. The founder of NIO Li bin is more of an internet, media guy than an engineering guy as Musk, and that makes some culture difference between two companies. In my view, NIO maybe better at marketing, building up club-like environment, using social media, etc. It is still a very young company (the first-year volume production); it has a great future, but still need to build up some true competitive advantage especially from the product itself. The ES8, ES6 are great products and their fans are really like them (though some critics on internet, but some has been too picky actually). I believe this team led by Li bin will be very hard working, willing to innovate, and don’t have all the burdens as traditional OEMs. 

Among all the ‘new-force car makers’, NIO by far is most competitive one. I think it is not easy to become TSLA China, but it has a great chance to become Xiaomi in smart car industry in the future, which is also extraordinary! Wish them luck!

ES6 price is really get down to a very low and competitive level. NIO is certainly expecting ES6 will be their Model 3 moment.

14，Conclusion

Tesla and Apple share a remarkably similar narrative. Both companies sell hardware differentiated by a unique user experience made possible by deep vertical integration. Both companies thrived under the leadership of an uncompromising and often unpredictable CEO. Both have been ridiculed for being different, have been put on “death watch”, and have attracted the scrutiny of the SEC. Yet both companies have delivered when it matters most—making products that competitors can’t match and that customers camp out overnight to buy.

The narrative certainly attractive, however only the time will find out to what extent TSLA can achieve. As the time passes, it seems that more and more odds are weighing on the side of Musk and TSLA. And for us as TSLA investors, a road to 200b is becoming more and more clear ahead.