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2Q Deliveries – Nothing Much To Write Home About
After weeks of sell-side analysts cutting expectations from near record deliveries in 2Q to a meaningful sequential drop-off, we finally got the deliveries number from Tesla (NASDAQ:TSLA) on Saturday.
All told, deliveries fell ~18% sequentially. Tesla did note that the month of June was its highest month for total vehicle production in company history, an optimistic sign that suggests back-half deliveries could ramp hard to the upside.
As for the delivery number itself, Tesla missed lowered sell-side expectations by <1%. We think Wall Street’s takeaway will be the following: (a.) yes quarterly deliveries were slightly light, but (b.) production is ramping hard and demand isn’t an issue at this time.
As a result, when the market opens Tuesday, barring any major news in the macro environment or anything company specific, the stock might experience a bit of a relief rally.
Structural Concerns Linger – Watch For CapEx, Gross Margins, and More in the 2Q Report
Our main concerns on the stock and the company continue to linger. Our previous report detailed a potential growth cliff ahead of Tesla into out-years. The fact is, Tesla is valued at $700 billion right now. While some investors want to price upside from its energy business and potential gains in autonomy, we’re in a show-me market environment.
The auto business is the business. Full-stop. At least for now. That’s the type of environment we’re in. We continue to believe that Tesla could face a deliveries cliff if the US economy dives into a recession, as detailed in our previous report.
While right now the order backlog is full and production is scaling rapidly, juicing deliveries into 2H and possibly into the first half of 2023, we are concerned about Tesla’s ability to generate new order flow after they get to the point of backlog depletion.
With inflation high, the Fed raising interest rates, and now Atlanta Fed’s GDP tracker flashing negative for back-to-back quarters, we’re entering a more negative macro environment. This is the type of environment where demand for big ticket items could really wane.
Our thesis may be early, but assuming we’ve got the macro picture right, then we likely aren’t wrong.
As far as the 2Q report goes, we would urge investors to look at headline numbers, but also go deeper on the details. With continued high input cost inflation, we would look at gross margins to see if Tesla is passing on rising expenses and then some to the consumer to improve margins or if Tesla is starting to feel the heat on profitability.
Additionally, when considering Elon Musk’s previous comments on the new gigafactories being ‘money furnaces’, we would advise investors look at CapEx and free cash flow this quarter.
Our Overarching Belief Is That Tesla Could Face A Growth Cliff in 2023 or 2024
We would say there is a ~75% chance that by 2H’23 Tesla’s deliveries could reach a cliff. This is based on a few presumptions:
- The US economy is in a mild technical recession right now that would be exacerbated by Fed rate policy in an attempt to curb inflation
- Big ticket items like housing and autos tend to slow in weaker consumer environments
- Tesla’s ASPs have risen dramatically to offset cost inflation, but more importantly fuel profitability, putting them in the over-earning dilemma.
As of right now, the Atlanta Fed has 2Q GDP shrinking ~2.1% y/y after we already saw 1Q GDP contract. If GDP did in fact contract in 2Q, then the US economy would be in a technical, albeit mild recession. Combined with record low consumer sentiment readings and an economy that in 2021 was centered on massive goods spending (vs. the shift to services like travel now) and you could argue Tesla is facing a problem. The economy is in a mild recession right now, a recession that the Fed could meaningfully exacerbate by increasing the cost of credit around the economy in an attempt to bring inflation back to target.
If we get a relatively prolonged period of structurally weak consumer sentiment, we would expect big purchase price goods like housing, autos, TVs, electronics, etc. to be weighed down as consumers shift spend to more essential goods (food, energy, etc.).
While we see a lag effect between deteriorating consumer sentiment and deteriorating deliveries growth, the idea is that new order flow could be impaired as the economy worsens. So, as Tesla’s production ramps and their current order backlog is fulfilled, we see a risk of overshooting on the supply-side as new orders disappoint. The real question is when does this happen.
We think that if you get a continued deterioration in the US economy, meaningful deterioration in y/y deliveries growth at Tesla could occur in 2H’23. So, if we’re right, we’re most certainly early.
Additionally, if Tesla ramps other products (like the Cybertruck and the Semi) or if economic productivity returns to normal and we get a soft landing, consumer spend could recover as could deliveries growth.
There is one problem that Tesla will almost certainly be stuck with. That is the problem of appropriate vehicle pricing. Tesla’s vehicle pricing has skyrocketed, with the embedded excuse of input cost inflation being enough to keep consumers buying the product. We think Tesla will eventually come to a dilemma of whether or not they reduce prices as inflation eases. As input cost inflation eases, Tesla will either sacrifice margins or growth. We wrote about this in our last note on the stock.
We continue to see short-term risk to deliveries growth, and long-term risk to margins as a result of this dynamic. Again, if you are unfamiliar with our thesis here, read our prior work here.
Valuation
Our valuation methodology hasn’t changed since our prior report for our bear case, bull case, or base case estimates. For more information on our updated valuation framework, you can read our article linked above.
Conclusion – 2Q Deliveries Haven’t Changed Much at Tesla, We’re Still Bears
Barring an incredible and acrobatic soft-landing, which is very much a possibility when Elon Musk is running the company, we see a likely slowdown in deliveries growth and/or margin contraction being in the cards medium term. While fundamentals remain solid right now, we think Wall Street is underappreciating the possibility of downside to both growth and margins. Coupled with the considerably high valuation on both nominal and multiple terms, and we can’t help but stick to a Sell rating.
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