What happens if the Tesla bubble bursts?
How many cars is it credible to believe Tesla will be making a year in 2032?
An awful lot rides on that rather odd question at the moment, including an entire theory of innovation, which we have, in reality, literally bet the planet on.
This is because the price of Tesla stock is the consequence of market participants’ readiness to believe that Tesla will be earning the kind of money soon that could support a $1 trillion valuation. And the only way to do that is to make more cars — a lot more cars! And to do so profitably.
So let’s look at the stakes — financial and otherwise — involved in stock market participants’ belief that Tesla is worth almost $1 trillion.
For starters, there is the market capitalisation of Tesla itself, which recently fell from over $1 trillion to around $900 billion. Excluding insider holdings, there is still around half a trillion carried on the balance sheets of pension funds and mutual funds, foundations, endowments and households around the world.
Then there is control of Twitter — one of the world’s central communications platforms, an asset of almost unimaginable political and cultural significance. Tesla’s founder, Elon Musk, is about to buy on the strength of Tesla’s stock price: press reports indicate that 72% of the financing of the Twitter acquisition — or $31.7 billion — is coming in various ways from Tesla stock.
And then there is the issue of banking system stability. Press reports are that Musk has borrowed against as much as half his holdings in Tesla — holdings worth over $200 billion. It is not public how much he has borrowed, and thus at what price level his lenders would force him to sell. It’s not so much that the banking system could not withstand a $100 billion margin call, but rather the nature of the signal it would send to the equity markets and to other market participants, and the risk that there are similarly large margin positions held by insiders in other potentially overvalued tech companies. A hundred billion here and a hundred billion there and soon we could be facing a banking crisis.
But perhaps most importantly, what is riding on Tesla’s ability to make a lot more cars is a theory of how to fight climate change. The idea is that eccentric, power mad geniuses, backed by Wall Street capital, will be able to produce and distribute in a deregulated privatised environment, low carbon technologies at scale, and simultaneously make themselves, and those who invest with them, fantastically rich.
In Tesla’s case, what the company has actually done is to sell luxury cars at large mark-ups to the global rich, which is not at all the same thing as what we actually need to do to fight climate change: make low carbon technologies available affordably at a massive scale, in a context that creates good jobs and lifts labor standards.
In the movie Don’t Look Up, an Elon Musk type figure, trying to pursue a vast personal fortune while at the same time saving Earth from a doom comet, ends up literally destroying the planet. Is the real life story that Elon Musk tells more plausible? Or simply a comparable fantasy but this time in real life?
A quick look at the numbers suggests something really isn’t right with Tesla’s story.
An implausible valuation
Tesla today has a market capitalisation of around $900 billion, down almost 20% this week due to generalised anxiety around Musk’s Twitter hunger. That capitalisation is all about what investors think Tesla’s earnings will be in the future. Tesla’s current earnings, while they have grown impressively, are nowhere near enough to support that valuation. Tesla is in a very competitive space — the global auto industry. That industry as a whole has returns on equity today of around 8%. Successful large scale luxury auto manufacturers like BMW have ROE’s of around 15%. But assuming Tesla’s future is in mass production, the 8% ROE seems much more realistic. At that number Tesla’s market capitalisation assumes a long term level of profitability of at least $76 billion per year (this calculation assumes continuing low interest rates, but if rates are higher then the future production levels implied by Tesla’s current market cap are also even higher).
“What Tesla has actually done is to sell luxury cars to the global rich, which is not at all the same thing as what we actually need to do to fight climate change”
How many cars will it take to make $76 billion in profit? Tesla has just had several very good quarters. Its most recent rate of profit as a percentage of sales is 15%. Using that number as a baseline, making $76 billion in profit in a decade will require sales of $526 billion in today’s dollars.
How many cars does that represent? This depends on how much a Tesla costs ten years from now. Currently per unit sales of Tesla’s are $48,000. If that price remains constant, $526 billion in revenue means 11.5 million units in global sales. But as you have probably figured out by now, these kinds of numbers mean that Tesla has gone from a luxury car company to a mass market car company, and the average unit price has to go down accordingly. Say it went down to $30,000, this means the implied level of unit sales in the long term is 17 million.
So now we have a kind of range of implied unit sales in the future for Tesla based on Tesla’s current market cap. That range is 11–17 million units. Is that plausible — in any future?
Today the entire global passenger vehicle market sold 73 million units in 2021, generating $1.7 trillion in revenue. It is divided up among global behemoths, well capitalised players with implicit government backing like Volkswagen, Toyota, Fiat, and new Chinese and Indian competitors. The largest global auto firm, Toyota, has a 10.5% market share.
By comparison, Tesla’s market cap assumes something like a 25% global market share in the future. No company has ever had that kind of global market dominance in the auto industry since Otto Benz invented the car with the possible exception of Henry Ford for a brief few years. And that assumes Tesla can maintain its current profit margins at 15% of revenue as they move to being a mass production company, which seems equally implausible. If Tesla reverts to, for example, Toyota’s 10% revenue margins, Tesla’s current market value implies Tesla will sell 25 million vehicles per year in the future –35% of the world’s auto market.
And this year — Tesla’s best year by far ever in every dimension — Tesla actually sold a little under 1 million vehicles.
A systemic risk
The above back of the envelope calculation suggests Tesla may be severely over valued. Should interest rates rise any further, both the analytics underlying Tesla’s numbers, and the ability of market actors to put other peoples’ money behind speculative fantasies like 25% global auto market share, will be severely tested.
So maybe, just maybe, it makes sense for a variety of regulatory actors — competition and communications regulators, banking and securities regulators — to start looking at where Tesla, Twitter, Elon Musk and the banking system intersect, and to ask the simple question: what happens if, under the pressure of Elon Musk’s ever larger ego, the Tesla bubble bursts?
And maybe, just maybe, we should reexamine the theory that the person who is going to solve the climate crisis and successfully dominate the world’s most competitive consumer market is a debt-laden billionaire focused on making luxury cars, currying political favour with the far right, and sending himself and others like him into space.