Tesla ($TSLA) Q2 Earnings Preview

by Enis July 30, 2014 12:09 pm • Commentary

Event:  TSLA reports its Q2 earnings on Thursday after the close.  The options market is implying a 8% move for the event, lower than both the 4 quarter average of around 12% and the 8 quarter average of around 11.5%.  One reason for the lower implied move is that recent volatility in TSLA has been very low (30 day realized vol only around 30).

Sentiment:  Wall Street analysts have been mixed on TSLA throughout the stock’s huge move over the past 18 months. There are 5 buys, 8 holds, and 3 sells on TSLA, with an average 12 month price target of $231.  Short interest in TSLA has gradually declined over the last 6 months to about 30% of the float:

Short interest in TSLA, Courtesy of Bloomberg
Short interest in TSLA, Courtesy of Bloomberg

The total float in TSLA is about 81 million shares.  While TSLA has stalled since February, it is still up 50% year-to-date.

Options Open Interest:  Puts actually outnumber calls by a ratio of 1.2 to 1 in terms of total open interest, rare for a stock that has had such outsized gains over the past couple of years.  The average volume over the past month has favored calls, though, by a ratio of around 1.25 to 1.

Today, there was a bullish roll in the stock.  A trader sold 4k of the Sept 270 calls at 3.50 to close, and bought 4k of the Sept 255 calls for 6.10 to open.  For Aug16th expiration, the Aug16th 200 puts and 275 calls are the two strikes that have over 5k in open interest.  Across all maturities, the 200 strike is the one with the most interest among options traders.

Price Action/Technicals:  The $190-$200 level is the key support level for TSLA over the past year:

TSLA daily chart, 50 day ma in pink, 200 day ma in yellow, Courtesy of Bloomberg
TSLA daily chart, 50 day ma in pink, 200 day ma in yellow, Courtesy of Bloomberg

The stock doubled from its November low to its February high, and has traded in the $175 to $250 range ever since.  TSLA’s all-time high from late February is $265.

The overall trend is still higher, as the 200 day moving average held as support on several occasions, and is still upward sloping, now around $191.35.  The 50 day moving average is also now upward sloping, and is around $218.30.  The stock’s $18 implied move would put it around $243 on the upside or $207 on the downside, still within the recent range.

Fundamentals/Valuation:  Even as Elon Musk juggles numerous business ventures (Tesla, SpaceX, SolarCity, etc.), his boundless energy is evident from his large ambitions for Tesla alone.  The company is only 6-9 months away from its product launch of the Model X crossover vehicle.  Tesla is on track to deliver around 35k of its Model S vehicles in 2014.  It expanded its sales operations to China in the most recent quarter, and is also working on expanding the network of charging stations for Tesla owners around the world.

As if all of that were not enough, Elon Musk has announced plans for battery manufacturing at its GigaFactory, with a target opening of 2017:

We have recently indicated our intention to build the Tesla Gigafactory, a facility where we intend to work together with our suppliers to integrate battery precursor material, cell, module and battery pack production in one location.

We currently plan to commence supplying battery packs manufactured at the Tesla Gigafactory for our vehicles, including the Gen III vehicle, and stationary storage applications, in approximately three years.

We believe that the Tesla Gigafactory will allow us to achieve a major reduction in the cost of our battery packs of greater than 30% on a per kWh basis by the end of the first year of volume production of Gen III. The total capital expenditures associated with the Tesla Gigafactory through 2020 are expected to be $4-5 billion, of which approximately $2 billion is expected to come from Tesla.

Talk about capital investment!  In an environment where most corporations are afraid to invest in anything other than stock buybacks, Elon Musk and the Tesla team are attacking every part of electric vehicles to reduce long-term costs.

Tesla is a stellar company with splendid management and an amazing product.  But what’s the appropriate price for the stock?  $150?  $250?  $350?  That’s the tough part.

TSLA has its sights set on becoming the largest electric car company in the world, and in that sense, it has a major lead on the competition.  The total addressable market for automobiles is enormous (87 million in 2013), so Tesla’s main limiting factor in the near term will be efficient manufacturing, customer service, advances in battery technology and lowering the cost of those batteries.

Part of the reason why Wall Street analysts have not been enthused about Tesla stock is that the ramp-up for production to 500k vehicles could take 8-10 years.  As a result, the economies of scale and large long-term profits are not expected until 2020 at the earliest.

Having said all that, the incredible stewardship of Elon Musk up to this point, and the potential for future innovation not factored into the stock price at the moment are both reasons for optimism.  Valuing TSLA on 2014 EPS is certainly not the right approach.  If TSLA can quicken the pace of manufacturing, maintain its stellar customer service and product quality, and build out the Gigafactory at the same time, then the stock will be a good investment in the long run.  That’s a lot of IFs, but no one said this was easy.

Volatility:  30 day implied volatility is around 50, its lowest level prior to an earnings event in the past year.  The low level of realized volatility is a factor:

TSLA 30 day implied volatility (blue) vs. 10 day realized volatility (white), Courtesy of Bloomberg
TSLA 30 day implied volatility (blue) vs. 10 day realized volatility (white), Courtesy of Bloomberg

10 day realized volatility in TSLA hit a 2 year low this week. If the earnings event does not move the stock more than the expected 8% move, then implied volatility is likely to fall below 40 after the event.  That might be a good area to look at stock replacement or protection using long premium structures.

Our View:  TSLA is a standout American company.  We have been thoroughly impressed by the progress over the past 2 years, and hold Elon Musk in very high regard among historical American entrepreneurs.

As for TSLA the stock, it’s a more difficult call.  Investors will be focused on whether the 35k target for Model S deliveries in 2014 remains on track, and margins continue to improve after last quarter’s jump to 25%.  We don’t have a strong view on the short-term reaction, but expect $190-$200 support to hold given the long-term story.