Tesla Inc Is an Ugly Contrarian Investment

Although it is one of the most recognized technology names, Tesla Inc (NASDAQ: TSLA ) has been recently making news for the wrong reasons. Primarily, investors are losing confidence that CEO Elon Musk has the right mentality to keep Tesla moving forward. As a result, TSLA stock took a beating.

It’s not unusual to see volatility in this sector. Furthermore, tech firms don’t always meet expectations, and Wall Street is known to penalize underperformance sharply. That said, Tesla stock is particularly disappointing because Musk has promised much but has delivered comparatively little. With Tesla stock down 9% year-to-date, investors need a reason to stay onboard.

The company’s technical problems extend beyond this year’s losses. Since closing at $385 on Sept. 18, TSLA stock has charted a decisively negative trend channel. Not only that, the price action is incredibly unstable in both directions. Shares will climb sharply higher, only to be met with a sudden collapse. Then, it’s rinse and repeat.

An additional technical concern is that Tesla stock witnessed a dramatic rally throughout the first half of 2017. During that time frame, the presently maligned tech company gained an extremely robust 68%. But the second half was a different story, with Tesla Inc shedding 16%.

Fears that Musk and his team have lost their magic touch are very much real. Should TSLA stock not break out of its bearish trend channel, we could see shares test longer-term support between $230 to $240. Failing that, Tesla Inc could potentially fall to $180.

I personally don’t believe things will get that bad. While Musk is controversial, his genius is on par with Bill Gates or the late Steve Jobs. Yet I don’t discredit the bearish position, either.

TSLA Stock Is a Popular Short

One of the biggest concerns for buy-and-hold investors is that TSLA stock is a popular bear trade … and it’s not just any old short position. Last month, it earned the ignominy of being the most shorted American equity share.

At the time, FactSet reported that the percentage of Tesla stock held short exceeded 25%. Much of the bearishness was attributed to Goldman Sachs. The renowned investment firm recommended its clients sell TSLA.

Even worse from a public-image perspective, Elon Musk seemed to take personal offense at the notion that investors doubted him. The eccentric chief executive pushed back through — what else? — Twitter Inc (NYSE: TWTR ). Using President Donald Trump’s favorite social-media platform, Musk acted very presidential by mockingly tweeting “Place your bets …”

Now, I’m not necessarily concerned that Musk fired back at Goldman Sachs and his detractors. He’s known for unconventional behavior, so some bravado is expected. But what I found uncharacteristic is that Musk appears deeply impacted by the criticism.

During the company’s most recent earnings report, the CEO was in a foul mood. The Wall Street Journal labeled the earnings call “bizarre”, and honestly, we have no other way to describe it.

The biggest highlight (or is that lowlight?) occurred when Musk abruptly cut off RBC Capital Markets analyst Joseph Spak for asking “boring, bonehead questions.” Instead, Musk fielded questions from 25-year old retail investor Galileo Russell.

The outburst went as well as you might expect. Spak sent out a note to his clients, stating that he’ll “hold Tesla accountable” for any disappointing performances.

It was another headache that Tesla Inc could do without. Moreover, the cool-under-pressure Musk appeared rattled for the first time, committing an unforced error.

Tesla Inc Needs a Leader, not a Provocateur

That investors were disappointed in the head executive was an understatement. Tesla stock was merely choppy prior to Musk opening his mouth. But when the verbal onslaught commenced, shares quickly plummeted.

The lesson here is that as a CEO, you should never egg on your shareholders to sell. Wall Street is a bad place to play reverse psychology, and Musk learned the terrible lesson the hard way.

Although I’m not a psychologist, I believe his semi-breakdown was telegraphed in the aforementioned Twitter post. Like many geniuses with Type-A personalities, Musk has a high view of himself. Prior to the earnings incident, the world was his oyster. I mean, the man launched his personal Tesla Roadster into orbit. Eventually, if the calculations are accurate, his car will end up on Mars!

This is not a type of person who is used to criticism, certainly not sustained criticism. Thus, we may have conflated Musk’s seemingly unflappable personality with his company’s many successes. But we don’t find out a person’s true character until they’re tested in the fire.

In many ways, we’re finally seeing Elon Musk for the first time. No, I’m not judging him for having a bad day. It happens to the best of us. But what we’re witnessing is Musk independent of his corporate successes. In sports terms, most professional quarterbacks can throw dimes all day with a strong offensive line, but the truly great ones are defined when the protection breaks down.

No one will dismiss or discredit Musk’s incredible talents. However, he needs to get his act together, and as quickly as possible. Overall, this is a pensive market and shareholders will use any excuse to get out.

Again, now’s not the time to play games.

Musk’s Erratic Behavior Worries Investors

Unfortunately, I’m not sure if Musk has hit rock bottom enough to recognize that he’s becoming a liability to Tesla Inc. Recently, the company announced a “thorough reorganization.” Musk wrote the following to his employees:

“To ensure that Tesla is well prepared for the future, we have been undertaking a thorough reorganization of our company. As part of the reorg, we are flattening the management structure to improve communication, combining functions where sensible and trimming activities that are not vital to the success of our mission. To be clear, we will continue to hire rapidly in critical hourly and salaried positions to support the Model 3 production ramp and future product development.”

Several companies go through reorganizations, but underneath this sanitized announcement is that two high-profile executives abruptly left Tesla. Their departures follow ten other executives in the past seven months who either left the company or took an extended leave, according to a CNBC report.

It’s possible that Musk’s behavior and the executives bailing are completely separate and unrelated issues. However, it’s also not out of the question that high-ranking Tesla Inc employees want to protect their professional reputation.

After the company’s embarrassing earnings call, and the negative impact towards TSLA stock, leaving isn’t a bad option.

Plus, Elon Musk is acting like the President of the U.S. Normally, that would be a good comparison. But in Musk’s case, his continued tweeting is very much “Trumpian.” The Tesla head appears petty as he goes after those shorting TSLA stock. Furthermore, his recent share purchase appears more aimed at settling scores than in confidence in his company.

Tesla Stock Has a Cash-Burn Problem

One of the biggest reasons why shareholders would love to see Musk zip his lips is cash flow. In other words, he doesn’t have any, which means he’ll likely have to raise funding.

Musk asserted during the earnings call that this won’t be the case. Instead, he intends to ramp-up production for the Model 3 and produce a profit in the second half of this year. If this sounds like a fairy tale to you, you’re not alone.

For starters, analysts anticipate Tesla stock will turn profitable (barely) in the fourth quarter. They don’t see the company entering the black on an annual basis until fiscal 2019. Thus, going profitable so quickly seems an absurd statement and does nothing to mitigate the CEO’s tarnished image.

Additionally, Tesla’s free cash flow metric hits bigger branches on the ugly tree. During fiscal 2014, the company’s FCF was a $1 billion loss. Three years later, that number sank to an even uglier low at a $4.1 billion loss.

Unsurprisingly, most of the cash burn comes from its investing expenditures. The company spends considerable time pushing boundaries, and that costs money.

I admire Musk’s chutzpah. Sometimes, you need a dose of it when dealing with Wall Street types. But at a certain point, reality has to set in. If actual results don’t match expectations, TSLA will have to raise money.

Which makes the whole biting the hand that feeds you part extremely awkward. Musk has clearly demonstrated that he’s willing to offend the financiers that back him. That’s not a great recipe for success.

Even if he does find further capital support, investors aren’t comfortable with the rapidly growing debt levels. Already, it stands at $8.8 billion.

Can Elon Musk Stay Focused?

Another critical issue is whether or not Musk can stay focused. With all the troubles surrounding Tesla Inc, the easy way is to drop them and go with a winner.

That’s what famous (or infamous, depending upon your perspective) short-seller Jim Chanos believes. He thinks Musk will eventually bail on Tesla and work full-time for SpaceX. Musk’s recent purchase of TSLA stock appears to negate that thesis. However, as I mentioned previously, his buyback seems emotionally motivated.

Now, I doubt that Musk would make such a move. Certainly, though, the idea is tempting. With Tesla, he has cash-burn problems, debt problems and production deadline problems. With SpaceX, he’s the darling of the international scientific community. If it’s between one or the other, the choice is obvious. Plus, he’d never have to field a “boneheaded” question at an earnings call again.

Not only that, Musk’s non-Tesla ventures are making significant strides. A recent example is The Boring Company’s Los Angeles tunnel. Aimed at reducing transportation congestion and travel times, Boring will offer free rides in a few months.

I can’t speculate as to what’s going on in a person’s mind. However, I’m under the impression that Musk is intellectually revitalized working for either Boring or SpaceX. In these organizations, he can put his incomparably innovative mind to superb use. More importantly, he enjoys the work, which is a labor of love.

In sharp contrast, TSLA is just labor. Rather than changing the lives of Angelinos, he must expedite Model 3 production. He’s certainly capable of overcoming both challenges, but one is infinitely more rewarding for him.

Not All Bad News for TSLA stock

Despite several serious headwinds against TSLA stock, it’s not all bad news for the innovative automaker. Those who are looking to speculate on a groundbreaking company that hit upon some rough patches should consider Tesla.

Don’t get me wrong: I’m not saying that shares won’t experience near-term volatility, because they almost surely will. In my last article for Tesla Inc, I wrote the following:

“I’m not a fan of what Musk did. Yeah, he’s cool and trendy, but he’s got to know when to keep his mouth shut. But this is a company that is single-handedly rejuvenating a stale, old industry. Short Tesla stock? Maybe, but get ready to load up when the negative sentiment fades.”

This is what it really comes down to. The CEO had an unfortunate outburst. Perhaps the stress is getting to him. But while we’re tempted to pour out our own frustrations with TSLA stock, we can’t overlook the positives. Tesla made the automotive sector great again.

Thus, I’m not as hysterical about the cash burn problem as other analysts are. Sure, the cash burn is a serious problem, but we also have to consider the broader context.

A huge difference exists between cash burn in an emerging industry versus an industry facing obsolescence. Sears Holdings Corp (NASDAQ: SHLD ) is also burning billions annually, but analysts aren’t focused on this issue because it’s just one of many for the retailer. Stated more cynically, we expect Sears to eventually fail.

But Tesla doesn’t have an existential crisis. Rather, the company is trading money’s time-value component. It’s borrowing and raising capital in anticipation of future demand. The ball game is completely different.

Extraordinary Demand for Tesla Cars

The most recent TSLA earnings report was all about deliveries, deliveries, deliveries. In this regard, Tesla actually produced very solid numbers. The company delivered just under 30,000 cars, up 20% from the year-ago quarter. I wrote:

“Of course, bearish analysts point out that management plunked, and continues to plunk, significant resources to push these deliveries. These costs are rising, and Tesla doesn’t seem to have convincing answers. Still, our own James Brumley points out that the Q1 haul is more electric vehicles than Ford Motor Company (NYSE: F ), General Motors Company (NYSE: GM ) and Toyota Motor Corp (ADR) (NYSE: TM ) sold, combined. “And yes, TSLA has significant trouble meeting its lofty 5,000 unit target for Model 3 sales. But Brumley counters that 450,000 drivers are on a waiting list for the Model 3. I mean, come on! Who waits for a standard-production car in this market? Clearly, demand remains ultra-strong for the company’s product offerings, which makes the idea to short Tesla highly risky.”

I can’t stress enough how competitive the automotive market currently is. Generally speaking, car sales peaked in 2015. Yes, December 2016 and September 2017 saw multiyear sales spikes. However, these were one-off bursts. Overall, consumers just aren’t excited about car purchases as compared to prior generations.

The exception to this rule is Tesla Inc. Critics often overlook the fact that the major automakers are following TSLA, not the other way around. If you want to mention deliveries, at least they have customers to whom they can deliver!

And as James Brumley points out, that waiting list is massive. I’ll say it again — nobody waits for a car in this market. But Tesla is in a league of its own. That’s why I’m not yet giving up on it.

Tesla Stock to $500?

Although the contrarian view on Tesla stock isn’t very popular, it has notable support. Nomura Instinet analysts Romit Shah and Kellan Grenier urged investors to not miss the forest for the trees. They peg TSLA to hit $500 over the next two years.

Their reasoning? The analysts stated, “We believe that over the next three to six months the narrative on the company will shift from insolvency risk and cash burn to market opportunity and growth.” Based on their analysis, Tesla should achieve a $100 billion valuation.

To get there, TSLA must sell 1 million autos with a $60,000 average price over the next two years. The analysts also believe that the company could take 10% of worldwide luxury-car sales.

The first forecast is extremely optimistic, even for a TSLA bull. Last year, the company sold a little over 103,000 cars. Even with sustained 20% quarter-over-quarter improvements, you’re not going to be anywhere close to a million in two years.

However, the luxury-car market share is a much more rational target. I wrote:

“Finally, TSLA’s concerted efforts have delivered phenomenal macro results. As an automotive brand, Tesla ranks number eight among the most valuable in the world at nearly $5.9 billion. To put this into perspective, TSLA outranks Land Rover ($5.53 billion) and Porsche ($5.14 billion). Keep in mind that the latter two are premium automakers, and are right in line with Tesla’s target demographic.”

This goes back to my earlier point that customers truly desire Tesla cars. Over the next few years, it can start chipping away at its next closest rivals. Audi and Nissan Motor Co Ltd (ADR) (OTCMKTS: NSANY ) have to watch their backs!

Don’t Underestimate Elon Musk

Potential buyers of TSLA stock have every right to blast Elon Musk for his earnings call debacle. However, don’t conflate boorish behavior for incompetency.

If anyone can break Tesla free from its funk, it’s Musk. I’m 100% certain that figuring out auto-production efficiencies is far easier than launching a car towards Mars. Sure, it’s not something that an intellectual like Musk probably enjoys doing, but it’s well within his capabilities.

Additionally, rumors suggest that Tesla has already made significant ground. According to CNBC’s Robert Ferris:

“Tesla may be on the verge of a pretty big leap in Model 3 production this week, reported electric car blog Electrek, citing a leaked email from CEO Elon Musk to employees. “The email said it is “quite likely” Tesla will make more than 500 Model 3 cars per day this week. If Tesla is still running production nonstop, as it said it would, then Tesla would be able to hit a weekly production rate of 3,500 cars per week. For comparison, it hit a production rate of 2,270 cars in the last week of April.”

If this rumor turns out to be true, you don’t want to be caught selling Tesla stock short!

Speaking of which, the short squeeze could be the contrarian’s best friend in this case. A short squeeze occurs when leveraged bearish traders pull out of their positions in fear that the trade can go against them. Unlike a traditional long investment, shorting a stock could lead to unlimited losses.

Right now, everyone’s piling in on the bearish side, so panic hasn’t ensued. But an unexpectedly good news item could swing the markets to the upside. To prevent intractable damage, the bears must abort, which would further drive TSLA stock higher.

Final Thoughts on TSLA stock

As much as I’ve been bullish on Tesla Inc, I must admit that presently, the company is a mixed bag.

On one hand, Elon Musk has committed several unforced errors. His attitude has become more acidic, creating image problems and apparently internal leadership issues as well. The last earnings call was an embarrassment to the brand, and unnecessarily hurt TSLA stock.

On the other hand, I’m reminded that despite all his extracurricular nonsense, he’s a true pioneer. He’s created multiple innovative businesses which push the technological envelope. Tesla specifically succeeds in areas where so many automakers fall short.

One might argue that Musk deserves to have a few erratic moments.

For me, the company’s potential is more than convincing. The technological synergy within Tesla is second-to-none. And eventually, as the Nomura analysts stated, the focus will shift from its problems to its potential. Whether it hits $500 or higher is something I can’t answer.

But what I do know is that if Tesla stock gets hammered from here on out, you should consider buying. There’s no way that a company this good could stay deflated indefinitely.

As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.