This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.

Tesla makes this banker spin donuts
Defying a diving Dow, shares of electric-car maker Tesla Motors (Nasdaq: TSLA  ) kicked on the afterburners Monday, and raced ahead for a 7% gain. For this, you can thank the friendly analysts at Morgan Stanley... who became a whole lot friendlier to Tesla yesterday. Formerly bearish on the company, with an "underweight" rating on its stock, Morgan now says Tesla's a winner, and reversed itself to give Tesla an "overweight" rating yesterday.

Arguing that Tesla bears, who've criticized the company's slow rate of Model S production, are just a bunch of worrywarts (I'm paraphrasing), Morgan Stanley reminded investors that since founder Elon Musk is basically betting the future of his company on the new Model S sedan, then "a new Model S has to be perfect right out of the box." Accordingly, the company has to take the time to make sure each new electric car it makes is picture perfect from the get-go. And if that means Tesla only builds 10 cars a week (as it was doing last quarter), then so be it.

Faster, farther, more, more, more!
Of course, already Tesla has left that 10-cars-per-week pace in the dust. Indeed, over the weekend, Mr. Musk tweeted his followers that Tesla had just broken the 100-car-per-week barrier for the first time ever -- a tenfold increase in the production rate, accomplished in just a few weeks' time.

So... wonderful news, right? Far from building cars too slowly, Tesla is racing ahead just as fast as can be. In a report that came out on the heels of Musk's tweet, the chief energy strategist for research shop Blue Phoenix reminded investors that Tesla has promised to hit a production rate of "at least 20,000 units" by next year -- which works out to roughly 400 cars a week.

Wait. Hold up a sec...
And yet, when viewed side by side, these two statements don't jibe. On the one hand, Morgan Stanley says Tesla must take its time building the Model S, and that 10 cars per week, or certainly 100, is just fine. On the other hand, Blue Phoenix says Tesla's soon going to be building cars at 40 times the lower rate. Indeed, that Tesla must build cars at this breakneck pace if it's to fulfill its promise of "at least 20,000 units."

But doesn't this contradict Morgan Stanley's praise of the "go slow" strategy? It almost seems to be a "heads-Tesla-loses, tails-it-can't-win" argument. Tesla can either fulfill its promise, sacrificing quality along the way, or else it can go slow, and miss its 20,000-car target by a mile.

Keep your eye on the ball
Who's right in this debate? Investors who bid up the shares by 7% yesterday appear to be betting on the best of both worlds -- that Tesla will build 20,000 cars a year, and build them all flawlessly. This, however, sounds unrealistic. After all, Tesla has already shown itself vulnerable to quality control issues -- and at a much smaller production volume -- when a faulty cable connection necessitated the recall of 36% of its Roadster fleet back in 2010. Chances are good that as Tesla builds more cars, and faster than it's ever built them before, similar quality control issues will eventually crop up again.

What's really key, though, isn't how many cars Tesla builds, but how profitably it builds them. So far, the company has booked more than 12,000 preorders for the Model S. That puts it neck-and-neck with General Motors (NYSE: GM  ) in the "electric car" race, and far ahead of Nissan. Ford's (NYSE: F  ) electric Focus, meanwhile, is so far back in the pack that it doesn't even show up in Tesla's rearview mirror. But at least these firms are earning a profit on their (mostly gas-powered) cars, averaging operating profit margins of anywhere from 4.5% to 5.5%.

Honda (NYSE: HMC  ) , a second-tier hybrid car builder, likewise gets 4.5% operating profit margins on its products, while even Toyota (NYSE: TM  ) , no longer king of the hill profits-wise, gets a respectable 3.8% margin. Investors in Tesla, in contrast, have spent the last couple years trying to justify their company's stock price based on "price-to-sales" ratios. That's no easy task, since the firm's 22 P/S ratio is 73 times as big as what Ford shares command, and 88 times the P/S ratio at GM. But, until Tesla generates some profits from its Model S sales, it's all Tesla investors have to work with.

Foolish takeaway
Can Tesla justify Morgan Stanley's optimism, and break into the big leagues of car manufacturing? Can it manufacture 20,000 cars a year, avoiding manufacturing missteps along the way? I'm rooting for it, certainly, but I honestly don't know. What I do know is that it's not how much Tesla sells that should matter to investors, but how much profit it makes per car that we should focus on.

What does it take to make a profitable, large-scale car company work? Find out in our new premium research report on Ford.

Fool contributor Rich Smith has no position, long or short, in any company named above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 301 out of more than 180,000 members. The Motley Fool has a disclosure policy.

The Motley Fool owns shares of Tesla Motors and Ford Motor. Motley Fool newsletter services have recommended buying shares of Tesla Motors, Ford Motor, and General Motors. Motley Fool newsletter services have recommended creating a synthetic long position in Ford Motor.

We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.


Read/Post Comments (4) | Recommend This Article (2)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 18, 2012, at 4:40 PM, spawn44 wrote:

    If Ford is so far behind Tesla in electric car production there not even in Tesla's rear view mirror its because they don't WANT TO BE THERE

  • Report this Comment On September 18, 2012, at 4:43 PM, spawn44 wrote:

    or they are FAR IN FRONT OF TESLA who is looking in the rear view mirror. Either case doesn't bode well for Tesla.

  • Report this Comment On September 19, 2012, at 8:20 AM, fahaer wrote:

    As you stated Telsa is already at the 100 car/week rate (at least for bodies) so its only needs a further 4 times improvement to reach 400/week not 40 times.

    If Tesla doesn't reach 400/week rate in the next couple of weeks they probably won't meet the 5000 cars in 2012 goal. However they can go as long as the end of the year to reach the 400/week rate and still make their 20,000 in 2013 goal...

  • Report this Comment On September 19, 2012, at 2:32 PM, F2JP wrote:

    Tesla did not build the Roadster, Lotus did.

    Comparing Roadster QA issues with the Model S is pointless.

    Wouldn't it stand to reason that past issues with the Roadster are why Tesla is so committed to getting each vehicle as close to perfection as possible????

    Wouldn't it make sense that Tesla set's itself apart from the Big 3 by being able to learn from past issues and by being adamant to make sure they are not repeated?

    To me this all points to the high probability for success.

    Why does Tesla outperform the big 3 in the market?

    Because they outperform the Big 3 in their approach to doing business, and at building cutting edge vehicles!

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