Last weekend, I noted that Tesla (NASDAQ:TSLA) had gotten a dubious upgrade from analysts at RBC Capital Markets. The brokerage simultaneously lifted its price target for Tesla stock and predicted that the electric vehicle pioneer's growth rate would decelerate dramatically over the next five years. RBC's fundamental analysis and price target appeared to be completely untethered from one another.
With Tesla stock rocketing higher, two more Wall Street analysts raised their price targets with equally little justification last week. The growing disconnect between Tesla's projected fundamentals and analysts' price targets could be a sign that the stock has become too frothy.
Another vote for circular logic
One of RBC's two main arguments for raising its price target was that Tesla stock's high valuation allows the company to raise capital extremely cheaply. That capital can be used to pay for new factories, acquisitions, or other investments.
Analysts at Bank of America trotted out the same argument last Monday, while raising their price target to a Street-high $900. They made no attempt to hide the circular logic, either: "... [T]he higher the upward spiral of TSLA's stock goes, the cheaper capital becomes to fund growth, which is then rewarded by investors with a higher stock price. The inverse of this dynamic is also true, and it is this self-fulfilling framework that appears to explain the extreme moves in TSLA stock to the upside and downside."
To some extent, Tesla's ability to raise capital cheaply may make Tesla stock more valuable. However, this factor is not nearly as important to the company's intrinsic value as its long-term sales and earnings potential. On the latter subject, even bulls on Wall Street continue to have muted expectations.
High price targets and predictions of slowing growth
Later in the week, Wedbush displaced Bank of America with a new Street-high price target of $950: up from $715 previously. As with RBC's analysis the previous week, this lofty price target doesn't square with the brokerage's projections for the underlying business.
Wedbush analyst Dan Ives and his team now predict that Tesla could deliver 1 million vehicles in 2022 and 5 million a year by 2030: a tenfold increase from the roughly 500,000 vehicles Tesla delivered in 2020. That may sound impressive, but it implies that growth will slow sharply in the years ahead. After all, Tesla's deliveries nearly quintupled between 2017 and 2020 and have been growing about 50% annually recently. Wedbush's forecasts imply that Tesla's growth will slow to a low-teens rate by 2030.
That level of growth can't come close to justifying a $950 target for Tesla stock (equivalent to a fully diluted market cap of more than $1 trillion). Assuming $50,000 of revenue per vehicle sold -- which may be generous given the long-term downtrend in Tesla's pricing -- 5 million vehicle deliveries would translate to $250 billion of automotive revenue in 2030. Assuming a 13% to 14% pre-tax margin and a 25% tax rate, this implies annual earnings of about $25 billion.
It's doubtful that Tesla would be worth 40 times earnings in 2030 (i.e., $1 trillion based on income of $25 billion) if it is only growing 12% annually by then. And Tesla stock certainly wouldn't be worth $1 trillion today based on that scenario.
To be fair, many bulls expect Tesla to develop valuable ancillary revenue streams aside from selling cars. However, most of those revenue streams -- such as insurance, self-driving technology, and ride hailing -- ultimately depend on having a large installed base of Tesla vehicles. Wedbush's estimates don't contemplate enough growth to justify Tesla stock's valuation this way, either.
A fundamental disconnect
Last year, Elon Musk said that Tesla's annual vehicle deliveries could potentially surge to 20 million by 2030. That type of stellar growth could easily justify a $1 trillion-plus valuation today. The recent Wall Street price target increases are bizarre because the analysts don't think Tesla will get anywhere close to Musk's target.
Of course, it's possible that analysts are right about the price and wrong to expect Tesla's growth to tail off so rapidly. Tesla has certainly crushed consensus expectations many times before. Still, the disconnect between analysts' price targets and their fundamental outlooks is eerily reminiscent of the "creative" analysis that helped drive tech stocks into a bubble in the late 1990s. That ended very poorly for investors. The recent trend of Tesla analysts abandoning all pretense of deriving their price targets from fundamental analysis may signal that Tesla stock is in a similar bubble that could pop at any time.