Tesla Inc (TSLA) Earnings Show A $7 Billion Cash Loser

Tesla Model 3 TSLA Autopilot NASDAQ:TSLA

Tesla Inc burned more than $1 billion in cash in the three months through June. That number, contained in an earnings report published on Thursday, actually seems to have impressed Wall Street. With the Model 3 on the way, investors are hoping that Elon Musk can finally make his EV maker profitable. Others really aren’t so sure.

The second quarter’s record cash burn brings the total cost to investors to $7 billion since Tesla began public operations. That’s an average of about $1 billion per year and accelerating.

At the end of June the firm had $3 billion in cash on hand. That may be enough, depending on the initial Model 3 margins, to get it through the end of the year. Tesla can’t afford to drop below $1 billion or so in cash without investors getting very nervous, however.

Tesla has a real cash problem

The $3 billion that CFO Deepack Ahuja counts as cash on hand comes from one of two sources: investors and loans. Since it started public operations, the firm has taken about $10 billion from these two sources. It has spent about $7 billion in the seven years since. Cash raising and cash spending have both grown with car output .

Since its inception Tesla Inc has had an insatiable need for funding. Of the $7 billion it has spent, about $6 billion ended up in capital expenditure. Another $1 billion was lost in operating expenses. Both of these are, of course, investments in the future of the company.

Skeptics, however, don’t think Tesla stock has much of a future. At least not in terms of growing stock value. They don’t see the firm’s margin promises meeting guidance goals. On top of that they think that the firm’s unbridled expansion goals will hurt cash flow for quite a while going forward.

Tesla is selling off its assets

In order to arrest the cash burn, Tesla has begun to sell off some of its assets. Zero Emissions Vehicle credits which the firm gets from states like California and others were sold during the quarter. The firm made approximately $100 million from selling these credits, a cushion for it’s cash burn during the period.

These sales were worth about 60 cents per share in earnings. Considering that Tesla beat expectations by around 50 cents, this is very significant.

The ZEV credits schemes amount to a direct subsidy for Tesla Inc . The problem with a subsidy in this case isn’t anything about moral work ethic, or government picking winners and losers, it’s reliance. If Tesla needs government payments to gussy up its books, it could be at risk of future problems.

Some people have suggested, with little evidence, that the federal government could sue California for its ZEV regime. The reality likely isn’t so contentious. There are lots of imaginable situations, however, where ZEV credits would be reduced or eliminated in the state.

Automakers will start to earn their own credits once they sell enough new energy vehicles. For the time being, that seems to be quite a while away, but once they do, the market for those credits will shrink.

The ZEV credits are assets to Tesla, and they firm is right to sell them to generate cash. There is no problem there whatsoever. The question is whether the firm can survive without them. The company’s business model is based on a delicate financial dance, after all.

That would massively increase cash burn at Tesla, and could have a big effect on the firm’s stock. Because of its odd financial structure, Elon Musk’s EV project is actually much more reliant on the value of its shares than most other firms on Wall Street.

Wall Street loves Tesla stock

Despite the debt saddled, promise based financial structure, Wall Street loves Tesla stock. That may have something to do with the “disruption” that Tesla Inc is promising to bring to the world on multiple fronts. The firm is certainly risky, few analysts deny that, but there’s also the potential of a massive reward if its plans come to fruition.

Tesla Inc TSLA Autopilot NASDAQ:TSLA
Model 3 Design. Source: Tesla Motors

The faith in that big opportunity really is the only thing keeping Tesla Inc alive. As it continues to burn cash, it’s likely to be forced to raise more. That means heading back to the stock and bond markets, possibly before the end of the year.

For both equity and debt, the cost of raising cash is lower if the stock price is higher. If Elon Musk’s comments cause another fall, for example, those costs will rise.

In some ways the firm’s cash position is self fulfilling. If the stock price is high, Wall Street is reasonably confident that the firm can raise enough cash to continue. If that price falls, however, analysts could begin to become antsy very quickly.

Most firms don’t care too much about their short and medium term share price. The key is to maximize long term value for shareholders. For Elon Musk, however, those objectives are part and parcel.

Tesla earnings won’t stall a big challenge

Tesla earnings in the second quarter were better than expected, but the firm really didn’t do much to stall its big challenges. All Wall Street wants to see right now is Model 3 production ramping up. Next year, however, investors may be demanding positive cash flow.

For the time being Tesla has one major job. The firm needs to defy stock market gravity long enough to show that it can perform with the Model 3. On Wednesday evening Elon Musk attempted to do both. He said that his firm will aim for a 25 percent gross margin on the car in 2018. That’s a lofty ambition, but one that the entire Tesla funding model seems to rely on.

We don’t know whether Wall Street will give Tesla stock another chance.

Picture the second quarter 2018 earnings. 100,000 Model 3s have been shipped in the quarter, but the firm is still in negative cash flow. Then Musk promises that the Model Y will be much cheaper to put out because of common design elements with the Model 3. After that next big investment, he says, of course the firm will turn a profit.

How will Wall Street react? Would you buy shares in the subsequent offering? For Tesla Inc stock, defying gravity can only last so long, but how long is a question nobody can answer soon.

For the time being, Wall Street seems happy with Tesla stock. On Thursday morning, in response to the earnings report, Alexander Potter of Piper Jaffray raised his price target on the stock to $386. Mr. Potter says “There are too many good vibes to consider bailing now.” It’s exactly those good vibes that Tesla stock will need going forward.

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