These epic gains came despite the fact that Tesla sells just half a million vehicles a year, compared to around 10 million vehicles for Toyota. They came despite the fact that Tesla reports a profit solely due to its sale of regulatory credits. They came despite a mountain of electric car competition on the horizon from traditional automakers and upstarts alike. They came despite Tesla‘s valuation reaching a level that simply can’t be justified without whimsical thinking.
The rally has now started to unwind. At market open on Tuesday, Tesla stock was down about 24% from its peak in late January. Other popular growth stocks were also suffering.
If Tesla were valued like an automaker
The business of making cars is tough. It’s capital-intensive, highly competitive, and cyclical. Auto stocks generally don’t trade at particularly rich valuations relative to sales, book value, or earnings. Tesla is the exception.
General Motors (((NYSE:GM))) is worth about $75 billion. GM stock trades for about 0.6 times annual sales and about 1.6 times book value. Since Tesla doesn’t have any real profits from actually making cars, I won’t bother making that comparison.
Tesla, on the other hand, trades for around 23 times annual sales and 29 times book value. Of course, Tesla has more growth potential than GM because it’s much smaller, but the valuation gap is still extreme.
If the market were to start valuing Tesla like GM, giving the stock similar price-to-sales and price-to-book value ratios, Tesla would be worth between $20 billion and $35 billion. That’s $32 per share at the high end. From Tesla‘s all-time high, that would represent a decline of about 97%. From where Tesla traded Tuesday morning, it would represent a decline of about 95%.
If Tesla stock were valued five times as richly as GM, a stock price of about $160 would still represent a decline of 75% from Tuesday morning’s level. If the Tesla story starts to show cracks, the bottom is a long way down.
Apple (NASDAQ:AAPL) is worth over $2 trillion, generates annual sales of about $275 billion, and produces annual net income of $57 billion. Apple makes more in profit in a year than Tesla generates in sales.
Apple is not a particularly cheap stock. In fact, Apple is trading at just about the priciest level relative to earnings and sales in over a decade. Apple stock goes for just over 7 times annual sales at the moment, up from just 2.5 times sales a few years ago.
Tesla is no Apple. While Apple enjoys gross margins of nearly 40%, Tesla‘s gross margin was just 21% last year, and that figure includes the sale of regulatory credits. The mass-market auto business is a low-margin affair, and Tesla hasn’t escaped that reality.
Be careful with Tesla
Tesla may very well grow into one of the largest automakers in the world by sales at some point down the road. Yet, the market has been valuing Tesla as if it’s already achieved that goal and then some. The list of things that need to go right for Tesla for the stock to grow into its valuation is quite long and, in my opinion, quite unrealistic.
There’s no telling what will happen to Tesla in the short term, but the market seems to be turning on the stock. Given the extreme optimism baked into Tesla‘s stock price, it’s potentially a long way down from here.