Tesla (TSLA -1.80%) is one of the most popular stocks among investors right now. It is also one of the most criticized. This battleground investment option has seen bulls and bears make strong arguments for and against the company, and so far, looking at Tesla's stock price, the bulls have been proven right. With the rapid growth in production and everyone becoming increasingly optimistic about CEO Elon Musk and the electric vehicle (EV) market, it is no surprise to see Tesla's stock price up 1,800% in the last three years.
But just because a stock was a buy yesterday doesn't mean it is a buy today. Should you invest in Tesla right now?
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Strong historical growth
Over the last few years, Tesla has massively scaled its EV manufacturing. In 2021, the company delivered 936,000 vehicles to customers, up from only 500,000 in 2020 and 368,000 in 2019. Delivery growth has led to strong revenue growth and operating leverage. In 2021, Tesla generated $53.8 billion in revenue, up 71% year over year, and $5.5 billion in net income, its first year generating significant profits. Net income of $5.5 billion translates to a profit margin of 10.2%, which should expand if Tesla can continue to gain operating scale with its EV manufacturing while managing supply chain costs.
Tesla is expected to continue its rapid growth, too. The average analyst estimate for 2023 revenue is $106 billion, which would be around double what it brought in last year. With between 60 million and 70 million cars sold around the world each year, Tesla has plenty of room to grow if it can convince people to buy its cars over the competition.
Add-on products look shaky
One of the bull cases with Tesla is that it is not just an EV manufacturer but also a transportation and energy platform. It plans to do this with its autonomous driving software that it labels full self-driving (FSD) and energy products like solar roof tiles and battery storage. While this sounds cool in theory, these new business lines haven't gone well so far in practice.
First, with energy, Tesla has struggled to generate positive gross margins, let alone net margins or free cash flow. In the fourth quarter of 2021, the energy storage and generation segment did $688 million in revenue but had a cost of revenue of $739 million. That means last quarter, the segment had a negative $51 million in gross profit. And it's not like the segment is growing rapidly, either. Revenue was down from Q4 of 2020 when the segment had a top line of $752 million.
With FSD, the problem isn't the business model but the underlying technology. Right now, Tesla is selling FSD as an add-on package for as much as $12,000 upfront or as a monthly subscription. But the software doesn't seem to work very well. There are hundreds of videos across the internet showcasing how the "self-driving" software constantly makes mistakes, with people saying they don't trust it right now. That is not a good sign for convincing future customers to purchase the upgrade. And it looks even worse when competitor Waymo (an Alphabet subsidiary) has a full-blown autonomous taxi service operating safely in San Francisco and Phoenix.
Tesla seems to have found its footing as a car manufacturer. But if it is going to fulfill its $1 trillion-plus market cap, the company will likely need to succeed in its FSD and energy endeavors. So far, it doesn't look like that is happening.
Valuation has high embedded expectations
As of this writing, Tesla has a market cap of $1.19 trillion. Add on all the stock options and restricted stock units, and the fully diluted market cap is closer to $1.25 trillion. Compare that to its trailing net income of $5.5 billion, and Tesla has a price-to-earnings ratio (P/E) of approximately 227. The market's average is 26, or just less than one-tenth of Tesla's P/E.
What this means is if you buy Tesla, you are buying a stock where the expectation is for the company to 10x its net income just for you to not lose money. If Tesla only raises its profits by three or five times over the next decade, it is highly likely (but not impossible) that investors will lose money due to the valuation coming back down to the market average.
So should you buy Tesla?
If you're confident Tesla can more than 10x its annual deliveries, more than 10x its annual net income, and figure out its energy and FSD businesses, the stock could be a good buy here. I think that is a tall task and adds a ton of risk to an investment in Tesla at these prices. With hundreds of other stocks out there for investors to buy, I think it is smart to put your money elsewhere and avoid Tesla stock right now.
