It’s all about the story.
If it’s not official at the moment you read this, it’s likely to be soon: Tesla’s (NASDAQ:TSLA) market cap surpassed General Motors’ (NYSE:GM) at several points during the trading day on Monday. Once it’s a done deal, that will make Tesla the largest U.S. automaker by market cap. But what does it mean?
This isn’t about fundamentals
I don’t think I’ll upset any of its fans by saying that Tesla’s valuation isn’t exactly supported by flinty, old-fashioned Benjamin Graham fundamental metrics. Tesla sold a total of 76,230 vehicles in 2016, or one for every $669,000 of its market cap, give or take. It lost $674 million on revenue of $7 billion.
I’ll give credit where it’s due: That sales total is a genuinely impressive achievement for a start-up automaker. But c’mon: GM sold 10 million vehicles last year. (An all-time record for the General, by the way.) And under CEO Mary Barra, GM has been putting up big profits with good margins: GM earned $9.4 billion-with-a-b in net income on revenue of $166.4 billion in 2016.
Step back a minute: What the heck is going on here? How is it possible that investors think Tesla is more valuable than GM?
A vision of limitless potential
Obviously, Tesla’s valuation versus GM’s isn’t about sales or revenue or margins or anything you’ll find in a financial report. It’s about the story.
Tesla has a truly great story. It’s one of the most exciting corporate stories in years. As fans see it, CEO Elon Musk is inventing the future — of cars, of electricity for homes, of clean energy in general — right before our eyes. In the minds of Tesla’s biggest fans, the company’s future growth potential seems unlimited.
When I say “unlimited,” I’m not kidding. Morgan Stanley auto analyst Adam Jonas, a longtime Tesla bull, issued a note last week that estimated Tesla’s eventual total addressable market at $15 trillion. That’s about 20% of the gross domestic product of all the countries in the world, combined.
How could boring old General Motors possibly hope to compete with that? (Maybe Jonas would be more impressed if Barra announced a Mars mission. Of course, then GM would just be accused of copying Tesla.)
The bullish case for GM can’t compare
Really, it’s not very hard to figure out why Tesla’s value is so high. Investors want to see growth. Tesla offers the possibility of truly massive growth, something that just isn’t in the cards for GM.
The bullish investment case for GM is pretty good, at least when compared to ordinary industrial companies. It assumes that GM’s annual profit will grow to something in the neighborhood of $15 billion over the next several years on a slew of incremental improvements that Barra is making to GM’s businesses. Until then, you can collect a nice dividend.
That’s not shabby at all. But the bullish investment case for Tesla assumes that it will become the largest and most profitable company in the history of humanity. And that even if it doesn’t, it’ll grow into a company generating hundreds of billions of dollars in revenue every year.
See what I mean? GM’s possible growth pales in comparison.
Tesla’s story is also a recipe for volatility
The thing is, Tesla’s great potential comes with great risk. Right now at least, Tesla has shaky finances, faces considerable uncertainty on a number of fronts, and — in its core business, electric vehicles — will soon have to deal with vastly better-funded competition (including GM) that is catching up quickly.
That risk makes Tesla’s stock volatile, and could make for a wild ride if and when the market turns choppy.
GM? Well, GM’s margins will come under pressure during the next economic downturn. That’s how it goes in the auto business. But with low debt and a big cash reserve, GM is unlikely to face serious danger. That means that the downside to an investment in GM’s shares is probably limited.
But to Tesla bulls, the Silicon Valley upstart’s upside is unlimited. That’s why Tesla’s shares have soared. And it’s why the company will remain richly valued — at least, until the story changes.
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