A Deep Dive Into Tesla Motors Inc: Part II -- Understanding Profits

In Part I of our Tesla Motors (NASDAQ: TSLA  ) deep dive, we took a look at what kind of cars Tesla makes, what the Supercharger network is, and the potential of the Gigafactory. To start from the beginning, head to Tesla Motors Deep Dive: Part I.

In this installment, I want to take a closer look at the automaker's Generally Accepted Accounting Principals, or GAAP, versus non-GAAP reporting, to see if there is important information that investors are overlooking. 

Taking a look at earnings per share
Earnings-per-share growth at Tesla looks great. On a non-GAAP basis, the company has posted five consecutive quarters of positive earnings per share, and has topped analysts' estimates in each of those quarters. 

Non-GAAP earnings per share is expected to remain strong, as are revenues. Below is a table of forward annual expectations: 

Year               Earnings Per Share Revenue
     
2013 $0.78 $2.5 billion                  
2014* $1.19 $3.7 billion
2015* $3.17 $5.4 billion
2016* $4.91 $7 billion
2017* $7.27 $9.3 billion

Source: Thompson Reuters/E*Trade (Asterisk indicates forward-looking estimates).

Although these growth numbers look fantastic, especially on the earnings-per-share side, with 78% average annual growth expected, they are not GAAP numbers. Below, I have a comparison of non-GAAP earnings and revenues versus GAAP earnings and revenues during the past four quarters, to show how different the two measures truly are:

Quarter GAAP EPS Non-GAAP EPS GAAP Revs Non-GAAP Revs
         
Q2 (2013)   ($0.26) $0.20 $405 million $552 million

Q3

($0.32) $0.12 $431 million $603 million
Q4 ($0.13) $0.33 $615 million $761 million
Q1 (2014) ($0.40) $0.12 $620 million $713 million

Source: Tesla 10-Q Filings for GAAP results; Thompson Reuters for non-GAAP results. 

As you can see, the difference between non-GAAP and GAAP results are quite noticeable, especially with the revenues. Additionally, in Tesla's latest 10-Q Filing, management stated on page 51:

We have had net losses on a GAAP basis in each quarter since our inception, except for the first quarter of 2013. Even if we are able to continue to increase Model S production and sales, there can be no assurance that we will be profitable.

While Tesla is growing quite quickly -- which is visible by its ability to top vehicle delivery estimates each quarter -- some investors would feel more comfortable seeing GAAP results. When a company uses non-GAAP, it makes me feel like management is doing everything possible to manipulate the numbers into looking as great as they possibly can. 

Source: Tesla Motors

Hidden risks
While this sometimes does not matter, using non-GAAP revenue and earnings-per-share results allows for the company to discount certain risks, and leave out certain aspects of accountability that would otherwise show investors that the picture isn't quite so rosy. 

In Tesla's case, it is able to exclude certain expenses -- such as stock-based compensation -- and work its favorable financing plan for consumers into higher revenue figures. If you weren't aware, Tesla provides a minimum repurchase price for its vehicles, meaning that, after three years, the company is willing to buy back customers' vehicle at a certain price. 

As Jonathan Weil wrote at Bloomberg::

The accounting rules say Tesla can't recognize all of the revenue immediately in those instances and must account for such transactions as leases. So after Tesla takes customers' cash, it records liabilities for "deferred revenue" and "resale value guarantee" on its balance sheet...So the non-GAAP revenue isn't comparable to Tesla's sales before the program began, and it may overstate the true growth and demand [emphasis added].

Plus, by adding back the resale-value guarantee, the company assumes that nobody is going to return the vehicle, for purposes of the non-GAAP revenue [emphasis added], [according to Dan Mahoney, director of research at CFRA, an accounting firm.]

Add in the fact that Tesla has admitted to having accounting issues -- although slight -- doesn't help either. In its Form 10-K filed in February 2014, the company stated,

Our management concluded that our internal control over financial reporting was ineffective as of December 31, 2012 because a material weakness existed in our internal control over financial reporting related to the presentation and disclosure of non-cash capital expenditures in our consolidated statements of cash flows. 

We could lose investor confidence in the accuracy and completeness of our financial reports, which would have a material adverse effect on the price of our common stock.

Source: Tesla Motors

Although this information may not have dire consequences on the company's finances, it lowers Tesla's credibility. It forces investors to ask, "Are there more issues we don't know about?"

Don't get me wrong... I'm not calling the company or its management a bunch of fraudulent liars. I'm only saying that it doesn't look quite so hot when the reporting has had a history of mistakes.

The Foolish takeaway
Okay... so now what? While these are not deal-breaking points, there are definitely things investors should be aware of. Instead of going through the motions, and pretending everything is perfect in the world of Tesla, it's important to be aware of these potential hangups going forward. 

I love CEO Elon Musk's vision and charismatic vibe. And I love Tesla's cars. However, putting all of that aside, it's still vital for investors not to get caught up in the emotional side of investing, and to realize what exactly they're putting their hard-earned dollars into. 

Tesla's GAAP and non-GAAP earnings results aren't a make-or-break situation for potential investors. Instead, it's just important to be aware of the different reporting metrics and, in the case of Tesla, some of the risks non-GAAP reporting can overshadow.

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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 July 12, 2014, at 11:47 AM, drax7 wrote:

    Risk free investing goes along with insignificant returns. Getting all wrapped up in gaap accounting misses the big picture.

  • Report this Comment On July 12, 2014, at 2:11 PM, Bkenwell wrote:

    Hey Drax -

    I see your point. I just want to point out that investors should be aware of the differences in GAAP and non-GAAP accounting.

    I even stated that it's not a reason in itself to regard Tesla as 'un-investable.' It's just something people should be aware of. See:

    "Instead, it's just important to be aware of the different reporting metrics and, in the case of Tesla, some of the risks non-GAAP reporting can overshadow."

    -Bret

  • Report this Comment On July 12, 2014, at 10:20 PM, DavidinCA wrote:

    Excellent article. One material factual error, not all sold cars carry the money-back liability...in fact very few do. It is offered only when the buyer finances through their banking partner, and very few do.

  • Report this Comment On July 13, 2014, at 10:48 PM, CrazyDocAl wrote:

    When management uses the word "if" when talking about increasing sales of it's only model it would send up a red flag for investors causing them to tread lightly. When management states that they only made a profit in one quarter and aren't sure if they will ever make a profit that would be the end of the company.

    When industry experts come out and state that a larger plant than current LiON plants will not reduce costs then that also gives me pause when it comes to the Gigifactory. When other battery mfgs have shut their doors because they couldn't make a profit that's another red flag.

    The fact is Tesla has proven that an electric car is a viable option for the rich. That an electric car can be fun and safe. When the model X comes out I expect it to sell just as well as the S.

    However as an investor I want to see that a company is solid. GM proved that car companies, no matter how large, can file bankruptcy at any point. Tesla is on an emotional stock ride. No matter how great the product is a private company must make a profit. Others can disagree but Tesla seams to be paving the way for other brands to follow at great expense.

    Tesla stock is more like going to a casino. If you've got spare money to play with then enjoy the ride. But for my investments that will fund my retirement, for me, I'm not going to include any Tesla stock. It's just too risky.

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