Is Tesla’s Stock Actually A Little Too Low At This Price?

Is Tesla’s Stock Actually A Little Too Low At This Price?
Paul Allison, CFA

about 1 year ago6 mins

  • Market researchers don’t have high expectations for the number of EV cars that will be sold in 2032, and it looks like investors agree. But carmakers have bigger plans. I’ve included those in my estimate.

  • I forecast that Tesla will hold a 20% share of the global EV market, but keep its average selling price and margins steady from today’s level. If you disagree with either side of these assumptions, then you’re likely to have a different conclusion from mine.

  • I’m assuming Tesla only sells cars. Fans of the company believe there’s much more to the story than that.

Market researchers don’t have high expectations for the number of EV cars that will be sold in 2032, and it looks like investors agree. But carmakers have bigger plans. I’ve included those in my estimate.

I forecast that Tesla will hold a 20% share of the global EV market, but keep its average selling price and margins steady from today’s level. If you disagree with either side of these assumptions, then you’re likely to have a different conclusion from mine.

I’m assuming Tesla only sells cars. Fans of the company believe there’s much more to the story than that.

Mentioned in story

Fans of Tesla haven’t had a smooth ride this year. Its stock is down 60%, and its price-to-earnings (P/E) ratio is at an all-time low. But to understand whether the stock’s just hit a bump in the road or whether it’s shifted permanently into a lower gear, you need to do some forward-thinking. See, valuing shares is about imagining all the profits that a firm will produce in its lifetime – forever – and converting those profits into today’s money. But forever’s a long time, so instead, I’m going to do something simpler: forecast the firm’s sales and profit ten years from now, value the future Tesla, and convert that value into today’s currency. Strap yourselves in, we’re off to 2032…

What’s 2032’s market for electric vehicles (EVs) look like?

Global passenger car sales are expected to come in at 85 million in 2022, according to LMC automotive group. Now, forecasting car sales for 2032 is – quite frankly – a bit of a guess, but my starting point is that global economies will continue to grow modestly over the next ten years and that demand for cars will follow suit. Analysts at Oxford Economics say the world’s economy will grow by 1.3% next year, so I’ll go with that. From there, I’ll assume that global growth ticks along at 2% for the rest of the period. And if auto sales trace economic growth, then the world’s car makers will shift 103 million vehicles in 2032.

As for EVs, analysts at IHS Markit predict one in four new cars sold in 2030 will be electric. But that sounds pessimistic to me. Most carmakers are planning far more.

Source: IHS Markit.
Source: IHS Markit.

So I’m going to be a tad more optimistic than IHS, and say 30% of 2032’s car sales, or 31 million, are EVs.

What will Tesla’s market share be?

This is a little tricky because Tesla’s share varies by geography. The firm’s dominant in the US where its share of the EV market stood at around 65% in the third quarter. But S&P Global Mobility forecasts that Tesla’s market share in the US will fall to just 25% by 2025, as other manufacturers catch up. And given Tesla’s high-priced cars are less popular outside the US, my guess is that the firm will hold a 20% share in 2032.

That’d mean Tesla will ship 6.2 million cars in 2032, compared with the roughly 1.3 million it’s expected to sell this year, or 17% growth per year. That sounds pretty reasonable to me.

What will Tesla’s sales and profit be in 2032?

The price range for the latest models is wide, but using a rough calculation of dividing third-quarter revenues ($19 billion) by the number of cars delivered (344,000) equates to an average price of $55,000. It's anyone’s guess whether Tesla prices will be higher or lower in the future, so for now, I’ll assume they stay the same. That would mean Tesla notches $341 billion in sales in 2032.

Now for profit. Tesla’s last quarter earnings before interest, tax, depreciation, and amortization (EBITDA) – a measure of cash-based profit – was 22% of sales. As I see it, two main factors will determine the future direction of this industry-leading margin. Firstly, the extent to which competition can chomp away at it, and secondly, whether Tesla can benefit from cost savings as it ramps production. Assuming these two offset one another, it's reasonable enough to think that margins will be roughly the same in ten years. That’d mean Tesla generates $75 billion in 2032 EBITDA ($341 billion revenue x 22% EBITDA margin).

How valuable is our future Tesla?

Tesla’s shares change hands today for around 19x enterprise – or firmwide – value to EBITDA: a common valuation metric used when performing these kinds of exercises. Applying 19x to our 2032 EBITDA forecast of $75 billion churns out a $1.4 trillion valuation, around three times today’s level.

But remember, that’s ten years from now, so we have to discount that $1.4 trillion future value into today’s currency. Discounting is the opposite of compounding. See, to calculate what a value today is worth in the future you multiply it by an interest rate a number of times – ten if you’re looking ten years ahead. You do the opposite to turn a future value into the present – meaning you divide it by an interest rate a number of times.

The interest (discount) rate you choose is up to you. But it’s a convention to start with a rate that’s considered risk-free – like a government bond yield – and add a little to that for a risk buffer (known as an equity risk premium, or ERP). The choice of risk buffer is up to you, but I’ve always used a total discount rate of 8% for these calculations. That would be the equivalent of a 4% government bond yield and a 4% ERP.

And how much is that in today’s money?

Dividing $1.4 trillion by 8% ten times gives a value for Tesla today of $650 billion, some 28% higher than today’s level. Adding on the cash that the firm has on its books – around $19 billion – pushes my valuation to roughly $670 billion, or 32% above today’s level.

But before reaching for the buy button, I need to point out there’s a huge margin for error in these forecasts. The biggest risks I see come from my market share and profit margin assumptions. If Tesla’s market share ends up at only 10% in 2032, for example, my valuation estimate would halve to $335 billion, 34% below today’s level. Similarly, the 22% EBITDA margin I assume is high relative to Tesla’s competition. Ford’s EBITDA margin in 2021 was 12%, for comparison. Then there’s the choice of valuation multiple. If the firm’s growing much more slowly in ten years than it is today, then that 19x EBITDA might be too high.

Tesla’s also been accused of aggressive accounting practices in the past, and it’s said to have some cultural problems. And on top of that, no one knows what Elon Musk is planning for his own future. He’s pretty tied up with Twitter right now, and that’s irking shareholders.

So how can you use this analysis?

Existential risks aside, future valuation exercises are about giving you an idea of what investors are thinking. And using our admittedly finger-in-the-air assumptions, it would appear they’re not massively hopeful right now.

If you’re a fan of Tesla, you might think the assumptions I’ve used in this process aren’t positive enough, and this whole thing might have you feeling even rosier about its stock. Tesla’s future probably has more than cars in it too, after all. But if you’re not a fan, well, you could make a case that a lot of my assumptions are far too optimistic. But the math is sound nonetheless, so have a play around with the numbers and see what your calculator churns out. If nothing else, it puts this year’s massive share price drop into perspective, showing that investors are now at least a tad more realistic about the firm's future.

Finimize

BECOME A SMARTER INVESTOR

All the daily investing news and insights you need in one subscription.

Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.

/3 Your free quarterly content is about to expire. Uncover the biggest trends and opportunities. Subscribe now for 50%. Cancel anytime.

Finimize
© Finimize Ltd. 2023. 10328011. 280 Bishopsgate, London, EC2M 4AG