Tesla: When “getting There” May Not Be Ideal

The bill of materials for lithium ion batteries appears to be rising rapidly - again, but this time round this raises a questions about the business model (no, it is not as simple as we will run out of lithium soon).

As readers may have noted, the supply chain investment process that I follow requires continuous monitoring of large shifts in prices or volumes of commodities, products and assets. The process flagged the prices of lithium, cobalt, nickel and aluminum a few weeks back; all these components of a typical lithium ion battery chemistry have been up considerably in the past few months.

Tesla’s entry-level Model S gets a $2,000 price hike

Tesla has told customers via its monthly newsletter that it will hike the base Model S 60 price by $2,000 on November 22nd. The new $68,000 price is still luxury car money, so we doubt the increase will dissuade many potential buyers. However, it gives them even less of a reason to choose the 60 kWh, 215-mile-range Model S, since the 75 kWh Model S 75 is just $6,500 more and has 259 miles of range.

Tesla re-launched the Model S 60 and 60D to boost sales by giving buyers a lower-priced option. The move no doubt had an impact, as Tesla made a profit for the first time in two years last quarter and increased sales by 59 percent over last quarter.

While the lower-priced model may be helping drive sales, another recent Tesla move has likely increased costs. Each vehicle, including the upcoming Model 3, will be manufactured with the eight cameras and 12 sensors needed for fully autonomous self-driving capability. (Prior to that, customers had to order the feature or the hardware wouldn’t be installed.) If buyers don’t pay up to $8,000 to activate autonomous features, the hardware will just sit there doing nothing.

SolarCity Could Give Tesla Too Much Sun

Election season isn’t over quite yet.

The outcome of Tesla Motors’ proposed acquisition of SolarCity will be known next week. SolarCity’s third-quarter results, and the way the company flattered the numbers, shouldn’t reassure Tesla stockholders that the deal is a wise one.

The solar-roofing company reported a net loss of $225 million on sales of $200 million. SolarCity has reported a loss on an adjusted basis in every quarter since 2013, according to FactSet. SolarCity’s cost per installed watt increased from a year ago, while the value per watt accruing to the company has dropped. Meanwhile, SolarCity cut its guidance for total panel installations for the third time this year.

The Fate of the Tesla Motors, Inc.-SolarCity Deal to Be Decided Thursday

Tesla’s shareholder meeting to consider the acquisition of SolarCity will take place in Fremont, California on Thursday, at 1:00 p.m. PST. For investors who won’t be at Tesla’s shareholder meeting, the company will also webcast the meeting live at tesla.com/shareholdermeeting.

SolarCity will be hosting its shareholder meeting to discuss the merger in Foster City, California, two hours before Tesla’s meeting.

Tesla has ambitious plans for its SolarCity acquisition, essentially planning to be the world’s first integrated sustainable-energy company, from energy generation to energy storage to transportation solutions. Today, Tesla is already the world leader for electric-car production when measured by kilowatt-hour battery capacity delivered.

Further, Tesla entered the energy-storage market with its Powerwall and Powerpack in 2015. And by the end of this year, Tesla will likely have already finished deploying the two-largest lithium-ion battery-storage installations in the world. Including projects being deployed now, Tesla has deployed 300 megawatt-hours of Tesla batteries in 18 countries.

With SolarCity, Tesla plans to also bring to market a solar roof, which the two companies jointly unveiled in October. The solar roof differs from traditional solar panels in that solar cells are actually the roof itself. With Tesla’s solar roof, solar tiles are integrated into the roof and are nearly indistinguishable from high-end roofing options.

Tesla Motors: Does It Really Understand What It’s Buying in SolarCity?

While we previously pegged the odds of Tesla’s proposed merger of SolarCity at a 50/50 probability yes/no, we now peg those same odds at 70/30. However, with an 0.11x exchange of Tesla stock for each share of SolarCity, if the deal were to close today, SolarCity would be valued at $20.21/share, or 2.0% upside. However, were the deal not to close, we believe SolarCity’s stock would trade down to $6/share (we believe SolarCity is still creating negative value for each system sold on an unlevered basis. Thus, on valuation, applying 70% to $20.21 + 30% to $6, on arrives at a probability adjusted year-end 2016 price target of $16, or 20% downside.

So, despite advisory firm Institutional Shareholder Services’s (“ISS”) approval last week, why do we still see a 30% chance some shareholders “walk” on this deal when the date for approval (i.e., Thursday of this week) is so close, and the merger-arb spread has come in so much? In short, we assume investors aren’t willfully ignorant. What do we mean? Well, in SolarCity’s C3Q16 10-Q, which was released last week, we gleaned two key takeaways, including:

§ SolarCity sold roughly 25% of their panels to the Commercial and Industrial (“C&I”) segment during the quarter; and, despite the company reporting C&I prices for their systems sold at roughly $3.00/W, based on checks we did months ago, we know that C&I prices in the US are 35%-50% below what SolarCity has reported; thus, if one were to spread the SG&A across proportionally to the average selling price (“ASP”), SolarCity’s creation cost would be significantly higher than the reported $2.89/W level, which would also mean a huge miss on megawatts (“MW”) deployed in C3Q16, not the beat reported; and

§ SolarCity changed the useful lives of their systems from 30 years to 35 years in the quarter, artificially (we believe) reducing depreciation expense, allowing the company to inorganically beat on EBIT and thus EPS.

We believe these actions are HIGHLY questionable, and assume Tesla investors either: (a) lack a very basic understanding of the solar market, or (b) lack a very basic understanding of accounting. But it doesn’t end there. In addition to these forms of what we see as accounting chicanery, SolarCity claimed that it generated cash in the quarter. However, when adjusting for the debt the company issued in the quarter (i.e., excluding it), its cash balance fell from $146mn in C2Q16 to just $67mn in C3Q16. Thus, again, assuming the portfolio managers at Fidelity, Baillie Gifford, T. Rowe Price, Vanguard, Black Rock, Morgan Stanley, etc. are aware of this, and not under Mr. Musk’s “spell”, we still see a 30% probability this deal does not close. As such, we would be short the stock ahead of Thursday’s vote.

Another Tesla Crash, What It Teaches Us

Tesla crashed on a test drive while AutoPilot engaged. Nobody got hurt. But the minor incident gives us a plenty to think about.

Earlier this week, I came across a report about a Tesla’s AutoPilot crash. It appeared on Tesla Motors Club’s site, posted by a Tesla fan planning to purchase a car.

The user’s post on the web site’s forum read:

I was on the last day of my 7-day deposit period. I was really excited about the car. So I took my friend to a local Tesla store and we went for a drive. AP [AutoPilot] was engaged. As we went up a hill, the car was NOT slowing down approaching a red light at 50 mph. The salesperson suggested that my friend not brake, letting the system do the work. It didn’t. The car in front of us had come to a complete stop. The salesperson then said, “brake!” Full braking didn’t stop the car in time and we rear-ended the car in front of us HARD. All airbags deployed. The car was totaled. I have heard from a number of AP owners that there are limitations to the system (of course) but, wow! The purpose of this post isn’t to assign blame, but I mention this for the obvious reason that AP isn’t autonomous and it makes sense to have new drivers use this system in very restricted circumstances before activating it in a busy urban area.

Thankfully, nobody got hurt. This post got no traction in the media. No reporter appears to be following it up (except for this publication). This could have been easily filed under the rubric, “minor accidents,” the sort of news we all ignore.

Overcoming SolarCity’s Language Barrier

As you know, elections breed a fair amount of cognitive dissonance.

Which brings us, naturally, to the other vote taking place this month: the decision on Tesla Motors Inc.’s acquisition of SolarCity Corp., scheduled for Nov. 17.

The latest ¯\_(ツ)_/¯ episode came on Friday morning. International Shareholder Services Inc. issued a report urging investors to vote for the deal and containing this gem of a line:

Tesla has — within the confines of its suboptimal governance structure — taken the requisite steps to reassure its shareholders…

Taking steps within confines is, of course, a ticklish task. Even Elon Musk seemed surprised at the outcome. Later that day, though, rival proxy-advisory firm Glass, Lewis & Co. took a somewhat different view:

Stripped from the pretense of creating a fully-integrated renewables retailer serving a loosely framed end-market, we believe non-affiliated Tesla investors should be concerned the proposed tie-up of Tesla and SolarCity mostly amounts to thinly veiled bailout plan (sic).

I have tended to hew more to that view (see here and here). The idea that SolarCity is a vital, healthy, must-have target is belied by the fact that it agreed to sell itself for a low-ball, all-stock offer that, as of early Monday afternoon, barely provides a premium to the undisturbed price:

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