Tesla (TSLA -1.11%) stock has been one of the biggest winners on the market over the last decade. The automaker did something many thought was impossible -- prove that electric vehicles (EVs) were a viable business -- and the company's success has made EVs mainstream.
However, the stock looks uniquely vulnerable right now after pulling back on disappointing results in its third-quarter earnings report. Here are three reasons why I think the stock looks likely to keep falling.
Image source: Tesla.
The EV market is in trouble
It took only a year or two for the conventional wisdom on EVs to go from them being something near-impossible to being the future of the auto industry. Mainstream automakers like Ford and General Motors have jumped on the bandwagon, promising to manufacture millions of electric vehicles, and investors gave huge valuations to EV start-ups like Rivian and Lucid at one point.
However, nearly every EV maker is now signaling that the market isn't as strong as they thought, and EVs seem to be entering a correction. Price cuts have been rampant in the industry this year. Ford laid off a shift of workers at its Lightning F-150 EV plant. GM is delaying production of three new electric models. Tesla CEO Elon Musk spent much of the most recent earnings call complaining about the effect of interest rates and challenges making the Cybertruck, and there are signs that Rivian and Lucid are facing weakening demand as well.
Ford CEO Jim Farley summed up the challenges the industry faces, saying car buyers are "unwilling to pay premiums for [EVs] over gas or hybrid vehicles, sharply compressing EV prices and profitability."
The car market is cyclical, and the EV market is part of that. With interest rates elevated and signs that auto loan delinquency rates are climbing, we could head into a downcycle soon. As the biggest U.S. EV maker, no other company is more exposed to weakness in the industry than Tesla.
Tesla's biggest customer isn't happy
Hertz (HTZ -5.56%) and Tesla made big headlines in 2021 when the car rental giant said it would buy 100,000 vehicles from Tesla as part of its strategy to electrify its fleet. At the time, the news helped propel Tesla's market cap above $1 trillion.
However, Hertz echoed many of the EV manufacturers above on its recent earnings call, discussing unforeseen challenges with its Teslas and with electric vehicles more generally. Management noted that while routine maintenance costs are cheaper with EVs than conventional gas vehicles, the repair costs for collision and damage were roughly double what they would be with ICE vehicles, lowering its profit margins by several percentage points. Additionally, Hertz management said the price reductions on Teslas have led the company to take greater losses on vehicle salvage than it had anticipated.
Hertz said it was still committed to its long-term strategy to electrify its fleet, but that strategy has run into more potholes than the company had expected. It's also planning to diversify away from Teslas to other EVs from GM, Polestar, and other brands.
Overall, Hertz's comments and future purchase orders may not be material to Tesla's performance. But they reflect negatively on the industry, and the concerns about repair costs could add to a long list of car buyers' doubts about EVs.
The valuation is unsustainable
Tesla currently trades at a price-to-earnings (P/E) ratio of around 70 at the time of this writing and has a market cap above $600 billion. That valuation might have been reasonable when Tesla was growing rapidly and its margins were expanding, but that is no longer the case.
Tesla's revenue grew just 9% in the third quarter, with automotive revenue up just 5%, while profits plunged. Musk's commentary on headwinds from interest rates, pressure on prices, and production challenges makes it seem unlikely that its growth will reaccelerate in the near future, and its earnings valuation will only rise if profits languish.
Traditional automakers, in comparison, trade at rock-bottom P/E ratios, reflecting that the auto industry is mature and competitive and that legacy automakers are still losing money on electric vehicles.
Tesla's valuation also seems to reflect the potential of its "robotaxis," but Tesla has never manufactured such a vehicle, and there are a lot of doubts about its full self-driving technology. It's far from a foregone conclusion that robotaxis will be a multi-billion-dollar business for Tesla. Investors have thus far been unwilling to award a premium to companies like GM and Alphabet that actually have autonomous ridesharing vehicles on the road, showing some doubts about the industry.
With sales growth slowing, profits falling, and its robotaxis remaining little more than a promise, there's not much holding up Tesla's valuation at this point. It wouldn't be surprising to see the EV stock fall another 50% from here. Investors would be better off avoiding the stock until the correction in the EV industry shakes out.
