With the Nasdaq Composite index in record territory these days, investors might think that all growth-focused businesses are soaring in value. That's just not true.
Take Tesla (TSLA -1.11%). The once high-flying electric vehicle (EV) stock is driving in the wrong direction. Shares are down 31% this year and off 58% from their all-time high, which was set in November 2021.
Contrarian investors might be thinking it's the perfect time to buy the dip on Tesla. I'd think twice about this course of action. Here's why.
Temporary issues or permanent struggles?
Tesla's ongoing challenges have been widely publicized. The business reported 3.5% revenue growth in Q4. That was a major slowdown compared to previous years. It points to the higher-rate environment that discourages consumers from wanting to buy new cars. This situation makes monthly payments more expensive.
But Tesla's decelerating revenue demonstrates the competitive nature of the EV industry as well. There are numerous rivals all focused heavily on EV investments, hoping to boost manufacturing capacity and launch new models. This means Tesla will have its work cut out for it going forward.
Consequently, the business must compete aggressively on price. Over the past couple years, Elon Musk and his team haven't shied away from lowering prices on its range of cars on many different occasions to support demand and maintain market share. The result has been contracting margins, which no investor wants to see.
It's not a surprise that shareholders have rushed for the exits. Tesla's financials have taken a hit. And the stock is down big, now trading at a price-to-earnings (P/E) ratio of 40. That valuation is certainly cheaper than it was just three months ago.
Investors who are considering buying the stock need to ask if Tesla's latest struggles are temporary or permanent. If you believe they're the former, then adding shares to your portfolio looks like a smart move. But this might not be the case.
From losers to winners
After reporting two straight quarters of subscriber losses at the start of 2022, Netflix shares took a beating. From their all-time high in November 2021 to their low in May 2022, they dropped 76%. The stock was trading at a P/E multiple of 15.
During a roughly 14-month stretch from September 2021 to November 2022, Meta Platforms saw its shares tank 76%, and they were selling at a cheap P/E ratio of under 9. Investors were worried about the weak digital ad market pressuring sales growth, as well as crushed margins due to heavy metaverse spending.
Both Netflix and Meta have absolutely skyrocketed since those lows, thanks mainly to stronger business performance and a favorable market backdrop.
Tesla bulls will quickly point to how the EV maker's current situation mimics these two leading internet companies. It's easy to be skeptical about this stance, though.
For starters, Tesla's current valuation is astronomically higher than where Meta and Netflix traded at during their low points in 2022. You can argue that Tesla has much greater growth potential, but that would imply lofty expectations about the future, with the hopes that EV sales will catapult higher in an interest rate environment that's not as supportive as it was during the 2010s.
Investors are probably also pricing it the probability that Tesla will introduce fully autonomous vehicles, or that it will start selling humanoid robots to other companies, or that its energy ambitions will take off. This stuff is unpredictable, but it's likely reflected in the valuation.
Meta and Netflix were and are still the clear leaders in industries whose competitive dynamics have already largely played out. Netflix had the most subscribers of any streaming service, with impressive profitability and unit economics. Meta, on the other hand, had billions of daily active users and a global network effect. Once industry and macro conditions improved, these companies got back to their positive trajectories.
The EV market is less established. But it has proven to resemble the cyclical nature of the traditional auto market. So while it might be tempting to rush and buy Tesla stock on the dip, that's not what I'm doing. The issues the business is facing may prove to be the beginning of more normalized trends.
