Tesla (TSLA 1.50%) has been a massive wealth generator for early investors thanks to its leadership in the growing electric vehicle industry.
While a handful of visionary investors benefited enormously, most failed to catch the bus early to participate in the gain. As Tesla's stock price fell more than 50% from its peak, many (myself included) are excited.
Yet, after researching the opportunity, I decided this was not the time to buy.
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Tesla has been firing on all cylinders
One of the biggest complaints about Tesla in the past was that it couldn't make a profit and might never reach the scale needed to become profitable.
While this has been true throughout the bulk of Tesla's existence, the EV maker posted its first profitable year in 2020 and has been profitable every quarter since then. Moreover, its bottom line improved from 2017 to 2021, with losses narrowing each year from 2017 to 2019. Net loss was $2.0 billion in 2017, but net profit reached $5.5 billion in 2021.
Tesla's strong financial performance resulted from higher electric car sales volume, up from 103 thousand in 2017 to 936 thousand in 2021. The economics of scale and operating leverage kicked in with growing sales, driving top-line growth and margin expansions.
While Tesla is the top dog in the electric vehicle (EV) industry, its sales volume remains small compared to the global car sales of around 56 million in 2021. As the transition toward EVs is an unstoppable trend, the carmaker is well-positioned to ride this tailwind for years (if not decades).
On top of that, the company is constantly exploring new products and business opportunities. Autonomous driving, renewable energy, and, more recently, robotics are a few examples of ventures that could grow into massive businesses in the future.
But it's too risky to buy the stock now
Tesla might have executed well in the last few years, yet it's facing an increasingly more challenging operating environment in the coming months.
Topping the list is the high inflation rate, which raises prices for basic needs, leaving less cash for consumers to spend on discretionary items like a car. Besides, consumers are facing higher interest rates today compared to the last few years, making it even more expensive for them to own a car. And with ongoing geopolitical tensions affecting consumer sentiment, the near term just doesn't look rosy for the company.
So far, Tesla has not shown any clear sign of slowing down. In fact, in the third quarter of 2022, revenue grew 56%, while net income more than doubled compared to last year. Still, investors must keep a close eye on the company's performance in the coming months for signs of weakness. If Tesla's sales volume plunges materially, which may happen during a recession, there is a risk that the company may turn unprofitable.
If Tesla fails to remain profitable, investors may question whether the company is a leading technology company or just another carmaker. Herein lies the big problem. Tesla's stock has been trading at sky-high valuations. Even after the recent price correction, it has a price-to-earnings (P/E) ratio of 80. Comparatively, General Motors has a P/E ratio of 6 .5.
With such a high valuation, Tesla has to assure investors that it is more than just an automaker and can do better than the incumbents. The stock price could fall further from current levels if it fails to maintain investor confidence.
I'm watching the company closely
Tesla might be famous for its electric cars, but it is actively exploring promising industries like renewables, robotaxis, and robotics. While the company is generating the bulk of its income from selling electric cars today, we can expect much more in the years to come.
But to start buying its shares, I need two things to happen. First, I need to see that Tesla can continue to execute in challenging economic times -- and we are entering one. In particular, the tech company must remain profitable during this time.
Second, I need a better entry point, from a valuation perspective, before buying the stock. A lower valuation can happen if Tesla grows its business, but the stock price remains at these levels (or declines further).
If both factors are fulfilled, I may initiate a position on the stock.
