Tesla runs a lucrative operation
First, the positive. As Tesla Motors Inc (NASDAQ:TSLA) ramps up production, the company’s manufacturing process benefits from greater economies of scale. This, of course, is no surprise — it’s a basic rule of thumb in business. But to what degree will Tesla benefit?
Already, the company has “reduced the hours required to build a car by almost 40% from December to March,” asserts Tesla’s first-quarter letter to shareholders.
Tesla Model S undergoing assembly. Source: Green Car Reports.
This, along with a number of other benefits associated with scale and $68 million in sales (12% of revenue) of its zero-emission vehicle credits, or ZEVs, helped the company double its gross margin from last quarter, to 17%.
In the first quarter, Tesla Motors Inc (NASDAQ:TSLA)’s gross margin of 17.15% outperformed a number of auto manufacturers. Ford Motor Company (NYSE:F) , for instance, reported a gross profit margin of 16.21% during the same period — and that was on sales of about 1.5 million vehicles. To make this comparison fair, however, it’s important to note that Tesla’s core auto business’ gross margin was just 2% in the quarter, according to Morgan Stanley’s Adam Jonas. ZEV credits were a major contributor to the company’s 17% gross margin, says Jonas.
But here is where things get really interesting. In the first-quarter letter to shareholders the company reaffirmed its guidance for a gross margin of 25% by the fourth quarter of 2013, “assuming zero ZEV credit revenue”.
Valuation
Can Tesla Motors Inc (NASDAQ:TSLA)’s improving gross profit margin save the company from the Street’s lofty expectations? Probably not by itself, but it’s definitely a start.
A gross margin of 25% is about 1.46 times the company’s current gross margin of 17.15%. Taking Tesla’s first-quarter gross profit of 96 million and multiplying it by 1.46, Tesla Motors Inc (NASDAQ:TSLA) could earn a gross profit of 140 million every quarter at today’s revenue levels and with a gross profit margin of 25% — that’s 560 million annually. In other words, Tesla trades at 25 times a very conservative estimate of 2014 gross profit. Conservative or not, 25 times 2014 gross profit is a significant premium. Ford Motor Company (NYSE:F) trades at just three times its trailing-12-month gross profit.
