Tesla: Eyes on the Prize

Q3 2023 ER Update

Edited by Brian Birnbaum and an update of my original Tesla deep dive.

In Section 1.0 I explain how a cyclical analysis of Tesla falsely implies that the company is in trouble, and how, in the past, Tesla has overcome even larger challenges.

In Section 2.0 I dissect the energy and AI businesses.

In Section 3.0 I analyze the financials and explain how they reveal that, despite Tesla facing problems in a cyclical context, the company is actually much stronger than it was just two years ago.

In Section 4.0 I conclude the write up.

1.0 A Diagnosis of the Tesla Machine

Tesla cyclically makes efficiency gains and then passes them on to consumers. This time around, it has been forced to pass on the efficiency increases faster than otherwise, which is putting the company under pressure.

In turn, the dwindling growth rate of EV demand is likely to push Tesla further ahead of legacy players.

If Tesla continues compounding its AI, renewable energy, and manufacturing prowess, it can eventually yield a platform that brings a new level of material abundance to the world. The moment the company can create robots with generalized, human level intelligence, it will effectively abstract most forms of (manual) work away, and there is no telling how valuable this can be.

But, in order to get there, Tesla has to continue selling cars profitably to generate free cash flow that can then be reinvested into the above initiatives.

Further, for investors to obtain outsized returns going forward, Tesla does not need to hit all three endeavors out of the park. A combination of manufacturing + AI or manufacturing + energy will produce outsized returns.

The only combination that won’t produce such gains is AI + energy; manufacturing is the fulcrum upon which rests Tesla’s ability to produce AI and energy at levels that attain economies of scale.

High-functioning AI requires many devices picking up data that can then be used to train models. High-functioning energy production requires the production of solar panels and batteries at scale for the unit economics to make sense.

Naturally, as rates rise, the cost of money–i.e. debt and borrowing–rises in tandem. As a result, investors can certainly expect Tesla to sell less cars than otherwise as fewer customers are able to afford the cost of borrowing. But, so long as Tesla´s manufacturing increases efficiency, lowering prices won’t hit free cash flow enough to hamper the pace of reinvesting back into the business.

Tesla´s progress in this sense exhibits a cyclical pattern. When they make efficiency gains, they pass them on to consumers by dropping prices. Then they move on to pursue further scale and efficiency, to then pass it on to consumers again.

This can be tracked via the following two metrics:

1. Operating cash flow / CapEx: an increase in this metric could denote an increase in automation; holding all else equal, higher rates of return per invested dollar would indicate more efficient operational processes. 

2. Free cash flow / Operating margin: indicates how much free cash flow Tesla is able to produce per percentage point of operating margin.Increased FCF/Op. Margin indicates that Tesla can produce more free cash flow with lower margins, meaning more efficient manufacturing (and operational) processes.