Tesla turbulence continues

Another quarter, another investor disappointment, despite not just strong but record-high deliveries earlier this month. Revenue came in at $23.33B, barely missing street estimates of $23.35B, up 24% year-on-year but down 4% sequentially, the second-highest all-time. Adjusted earnings per share (EPS) reached 85 cents also missed expectations (of 86 cents) and were down 21% on a year-over-year basis.

Certainly, the main driver of revenue growth was the many price cuts, six in total this year, along with US government credits, all of which boosted demand for Tesla’s EVs. However, top and bottom-line misses were not the only issues; there was also gross and operating margin compression, worsening quality of earnings, and negative free cashflow.

Price war & margin compression
Focusing on the company’s profitability margins, it is clear that the price war for expanding market share came at the expense of lower margins.

Automotive Gross Margin (GM) was down to 19.3% (vs. 29.1% in Q1’2022) and missed estimates of 21.2%. Tesla GM ex. credits dipped below 20%, missing CFO Zach Kirkhorn’s forecast from last quarter that Tesla would be able to stay above 20%. The question is how low will GM fall; since the beginning of the year, we saw two price cuts, one in China and one in the US, probably of around $1 billion. If you factor that in, next quarterly GM might fall to 16-17%. That is what has driven the drop in the stock price since the earnings announcement. Operating margins also nosedived significantly to 11.4% from 19.2% on a year-on-year basis.

Tesla’s free cash flow (FCF) fell to $441 million, which was way under the consensus estimate and down 80% year-over-year. Without the regulatory credits this quarter, Tesla’s FCF would have been negative $80m, for the first time since Q1’2020.

Credit sales totaled $521M in Q1 versus the Wall Street estimate of $275M. This suggests a lower quality of earnings, given that regulatory credit sales tend to be irregular and should not be considered part of the long-term strategy.

The company is still optimistic about the future. Tesla expects to remain ahead of the long-term growth rate of 50% and forecasts production at 1.80m vehicles (vs. 1.37m in 2022). $TSLA is trying to ramp up production at a 45-50% rate, while demand growth is running at 35% at best. That is why they are cutting prices; otherwise, the growth story would not play out. This imbalance is causing order backlogs to dry up, and inventory to soar.

Tesla is trying to ramp up production at a 45-50% rate, while demand growth is running at 35% at best – that is why they are cutting prices. Otherwise, the growth story would not play out. This imbalance is causing order backlogs to dry up and inventory to soar.

All of the above factors caused Wallstreet (WS) analysts to become quite bearish over the past year, continuously lowering their 12 months target from over $300 to around $200.

The latest price cuts will drive further profitability margin compression WS is likely to cut forward EPS to $3.7. At a 30-35x price-to-earnings (P/E) multiple and only around 30% volume growth Tesla’s stock is most likely stuck in $111-120 range for now.

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