A Deep Dive Into Tesla Motors Inc: Part II -- Understanding Profits

In Part I of our Tesla Motors (TSLA 11.35%) deep dive, we took a look at what kind of cars Tesla makes, what the Supercharger network is, and the potential of the Gigafactory. To start from the beginning, head to Tesla Motors Deep Dive: Part I.

In this installment, I want to take a closer look at the automaker's Generally Accepted Accounting Principals, or GAAP, versus non-GAAP reporting, to see if there is important information that investors are overlooking. 

Taking a look at earnings per share
Earnings-per-share growth at Tesla looks great. On a non-GAAP basis, the company has posted five consecutive quarters of positive earnings per share, and has topped analysts' estimates in each of those quarters. 

Non-GAAP earnings per share is expected to remain strong, as are revenues. Below is a table of forward annual expectations: 

Source: Thompson Reuters/E*Trade (Asterisk indicates forward-looking estimates).

Although these growth numbers look fantastic, especially on the earnings-per-share side, with 78% average annual growth expected, they are not GAAP numbers. Below, I have a comparison of non-GAAP earnings and revenues versus GAAP earnings and revenues during the past four quarters, to show how different the two measures truly are:

Source: Tesla 10-Q Filings for GAAP results; Thompson Reuters for non-GAAP results. 

As you can see, the difference between non-GAAP and GAAP results are quite noticeable, especially with the revenues. Additionally, in Tesla's latest 10-Q Filing, management stated on page 51:

We have had net losses on a GAAP basis in each quarter since our inception, except for the first quarter of 2013. Even if we are able to continue to increase Model S production and sales, there can be no assurance that we will be profitable.

While Tesla is growing quite quickly -- which is visible by its ability to top vehicle delivery estimates each quarter -- some investors would feel more comfortable seeing GAAP results. When a company uses non-GAAP, it makes me feel like management is doing everything possible to manipulate the numbers into looking as great as they possibly can. 

Source: Tesla Motors

Hidden risks
While this sometimes does not matter, using non-GAAP revenue and earnings-per-share results allows for the company to discount certain risks, and leave out certain aspects of accountability that would otherwise show investors that the picture isn't quite so rosy. 

In Tesla's case, it is able to exclude certain expenses -- such as stock-based compensation -- and work its favorable financing plan for consumers into higher revenue figures. If you weren't aware, Tesla provides a minimum repurchase price for its vehicles, meaning that, after three years, the company is willing to buy back customers' vehicle at a certain price. 

As Jonathan Weil wrote at Bloomberg::

The accounting rules say Tesla can't recognize all of the revenue immediately in those instances and must account for such transactions as leases. So after Tesla takes customers' cash, it records liabilities for "deferred revenue" and "resale value guarantee" on its balance sheet...So the non-GAAP revenue isn't comparable to Tesla's sales before the program began, and it may overstate the true growth and demand [emphasis added].

Plus, by adding back the resale-value guarantee, the company assumes that nobody is going to return the vehicle, for purposes of the non-GAAP revenue [emphasis added], [according to Dan Mahoney, director of research at CFRA, an accounting firm.]

Add in the fact that Tesla has admitted to having accounting issues -- although slight -- doesn't help either. In its Form 10-K filed in February 2014, the company stated,

Our management concluded that our internal control over financial reporting was ineffective as of December 31, 2012 because a material weakness existed in our internal control over financial reporting related to the presentation and disclosure of non-cash capital expenditures in our consolidated statements of cash flows. 

We could lose investor confidence in the accuracy and completeness of our financial reports, which would have a material adverse effect on the price of our common stock.

Source: Tesla Motors

Although this information may not have dire consequences on the company's finances, it lowers Tesla's credibility. It forces investors to ask, "Are there more issues we don't know about?"

Don't get me wrong... I'm not calling the company or its management a bunch of fraudulent liars. I'm only saying that it doesn't look quite so hot when the reporting has had a history of mistakes.

The Foolish takeaway
Okay... so now what? While these are not deal-breaking points, there are definitely things investors should be aware of. Instead of going through the motions, and pretending everything is perfect in the world of Tesla, it's important to be aware of these potential hangups going forward. 

I love CEO Elon Musk's vision and charismatic vibe. And I love Tesla's cars. However, putting all of that aside, it's still vital for investors not to get caught up in the emotional side of investing, and to realize what exactly they're putting their hard-earned dollars into. 

Tesla's GAAP and non-GAAP earnings results aren't a make-or-break situation for potential investors. Instead, it's just important to be aware of the different reporting metrics and, in the case of Tesla, some of the risks non-GAAP reporting can overshadow.