The Tesla Absurdity Continues
The Tesla absurdity continues... Musk's most controversial 'tweet' to date... How the electric-car maker could go private... And why it's unlikely... Is Elon getting desperate?
It may be the most widely publicized 'tweet' in history...
No, we're not referring to anything written by President Donald Trump. Instead, we're referring to the unexpected message posted by Elon Musk – the founder and CEO of our favorite whipping boy, electric-car maker Tesla (TSLA) – yesterday afternoon...
Now, Musk is no stranger to social media controversy...
In just the last few months alone, he has lashed out at critical journalists, repeatedly threatened short-sellers, and made jokes that the company was bankrupt. But yesterday's surprise announcement created the biggest buzz yet.
The proposal – which would value Tesla at more than $80 billion (including debt) – would be the largest deal of its kind in history. And it immediately raised questions about why Musk would attempt to do so... how it could be done... and where the company could find the financing.
Musk tweeted several other vague comments about the move over the next few hours, before finally publishing a memo – reportedly sent to Tesla employees earlier in the day – detailing his reasons for the proposal. From that memo...
As a public company, we are subject to wild swings in our stock price that can be a major distraction for everyone working at Tesla, all of whom are shareholders. Being public also subjects us to the quarterly earnings cycle that puts enormous pressure on Tesla to make decisions that may be right for a given quarter, but not necessarily right for the long-term. Finally, as the most shorted stock in the history of the stock market, being public means that there are large numbers of people who have the incentive to attack the company.
I fundamentally believe that we are at our best when everyone is focused on executing, when we can remain focused on our long-term mission, and when there are not perverse incentives for people to try to harm what we're all trying to achieve.
This is especially true for a company like Tesla that has a long-term, forward-looking mission. SpaceX is a perfect example: it is far more operationally efficient, and that is largely due to the fact that it is privately held. This is not to say that it will make sense for Tesla to be private over the long-term. In the future, once Tesla enters a phase of slower, more predictable growth, it will likely make sense to return to the public markets.
The memo also explained how Musk envisions the transaction would work...
First, I would like to structure this so that all shareholders have a choice. Either they can stay investors in a private Tesla or they can be bought out at $420 per share, which is a 20% premium over the stock price following our Q2 earnings call (which had already increased by 16%). My hope is for all shareholders to remain, but if they prefer to be bought out, then this would enable that to happen at a nice premium...
Finally, this has nothing to do with accumulating control for myself. I own about 20% of the company now, and I don't envision that being substantially different after any deal is completed.
However, longtime readers likely won't be surprised to hear Musk did not explain how or from whom the funding had been "secured." He also didn't provide any additional details about how the buyout would actually be carried out.
Again, the details aren't yet clear, but analysts speculated on two potential paths the company could take to go private...
Unfortunately, both come with significant potential problems.
The first – which Musk suggested in one of his tweets – would involve the creation of a "special-purpose fund," which could then sell shares to individual investors.
In theory, this would allow current investors to continue to own shares
Investments in these types of funds are typically restricted to only high-net-worth "accredited" investors. If it were to be
So despite Musk's statements, this path appears highly unlikely.
The alternative would be a leveraged buyout ('LBO'), but this, too, comes with some potential issues...
First, simply securing the financing (which Musk claims he has already done) would be a herculean task. Again, at $420 per share, Tesla would have a total enterprise value of roughly $82 billion. Assuming Musk retains his current stake worth $16 billion, this would value the buyout at $66 billion... making it twice as large as the largest LBO in history (a buyout which ended in bankruptcy, for the record).
Now, it's possible Musk could find enough big investors to pull it off. Yesterday, the financial media reported that Saudi Arabia's sovereign wealth fund ("SWF") had purchased a 3%-5% stake in Tesla shares, valued between roughly $2 billion and $3 billion. Perhaps several other large funds would be willing to make a similar contribution in a buyout. But this, too, seems unlikely...
You see, LBOs are typically reserved for companies with positive cash flows and minimal leverage.
Yet, as regular Digest readers know, Tesla has never made a profit in its history... and it has been hemorrhaging cash at a mind-boggling rate. In fact, according to its latest "earnings" announcement last week, the company lost more money last quarter – $717.5 million, to be precise – than it ever has before. Meanwhile, it already holds more than $11 billion in debt.
In other words, as the Wall Street Journal deftly put it...
Tesla is the exact opposite of the type of company buyout firms want: It burns rather than generates cash and it is already neck deep in liabilities.
But that's not all. Tesla's terrible business means that the LBO itself would simply be the beginning. These investors would also have to come up with more money to fund Tesla's continuing operations. Considering the company burned through $3.5 billion over the past 12
And then there's the debt service to consider. Remember, Tesla's current debt is rated Caa1 – well into "junk" territory. According to analysts at Barclays, if roughly $40 billion of the LBO were financed in the corporate bond market – which would be expected of a buyout this size – the company's annual interest payments alone would eat up another $2.7 billion in cash each year at current interest rates.
Of course, there's no guarantee the high-yield markets would even support an offering of that size today without significantly higher yields. But even in a best-case scenario, Tesla would find itself burning cash even faster. And as the Financial Times noted this morning, if Musk thinks equity market pressures are bad, just wait until he has to maintain
Finally, we'll also note that according to reports from multiple media outlets, none of the large banks or investment funds they had contacted were even aware of Musk's plans.
In short, we believe Musk's chances of pulling off an LBO are slim... And if he fails, Tesla shares could plunge.
But there's one more scenario we haven't discussed...
And that is the possibility that Musk hasn't actually secured financing at this time... and, perhaps, doesn't even intend to take the company private at all. Instead, it's possible that his tweet was simply intended to temporarily push Tesla's share price higher.
To be clear, we're not alleging this is the case today. It would be incredibly risky and erratic even for Musk.
But given Tesla's rapidly deteriorating business, it's possible he just may be that desperate... and it would provide two obvious short-term benefits.
First, it's no secret Musk isn't a fan of short-sellers. A higher share price could create a "short squeeze," where
And if shares stay high enough, for long enough, it would provide an added benefit. As Bloomberg reported earlier today...
Investors in an arcane corner of the bond market are latching onto one important detail lost amid all the chaos surrounding Elon Musk's bombshell Tuesday: Even if he ultimately fails in his effort to take Tesla private, the company could win much-needed debt relief.
That's because more than a third of the company's approximately $11.5 billion debt was issued as convertible bonds – securities that creditors can exchange for equity if the stock reaches a certain price level. Coaxing investors to take equity, instead of demanding repayment on the money they're owed, would help ease the financial pressure on a company that's burned through more than $600 million in six of the past seven quarters.
One of the most imminent of these bond maturities – a $920 million note due in March – has a conversion price of $359.87 per share. The stock was priced some $18 below that level at the start of trading yesterday before Musk began tweeting. And within minutes, it had surpassed it.
In other words, if shares can remain above $359.87 for the next six months or so, Tesla will be "off the hook" for nearly $1 billion in principal payments to bondholders. Given the company's massive losses, this wouldn't be a game-changer... But it could buy Musk a little more time.
Of course, should it become clear that Musk did intentionally mislead investors, he could soon find himself with far bigger problems than short-sellers or debt service. As the Wall Street Journal noted in a separate report last night...
[Musk] didn't offer proof to back up his claim that he has money to take the company private at $420 a share. If he doesn't, his statement "could be seen as manipulation" of Tesla's share price, said John Coffee, a securities law professor at Columbia University. "That's a factual statement, and if it's material, that's the kind of lawsuit plaintiffs' lawyers regard as Christmas in August," Mr. Coffee said.
Regulators, who unlike private plaintiffs can subpoena information before filing a lawsuit, could examine the facts behind Mr. Musk's statement if Tesla doesn't follow through with regulatory filings that explain the terms of the deal. The Securities and Exchange Commission can file fraud charges against companies and corporate officers it believes to have made misleading or false statements.
It's still early, but trouble may already be brewing. As we go to press, reports say the SEC has officially made inquiries into Musk's claim.
New 52-week highs (as of 8/7/18): Disney (DIS), VF Corporation (VFC), Verisign (VRSN), and Williams Partners (WPZ).
In today's mailbag: Several more readers respond to Porter's Friday Digest question... and two others weigh in on Tesla. What's on your mind? Let us know at feedback@stansberryresearch.com.
"Porter: No, I have not purchased any of them for several reasons. 1. I am somewhat late to the party. My initial subscription was in late 2015 and I have used much of my investment money to purchase the bonds recommended in the [Stansberry's] Credit Opportunities. 2. My plan is to wait until the tide goes out and then purchase them when their price is lower. 3. The stocks I have purchased as a whole have higher interest payments." – Paid-up subscriber Andy W.
"Porter asked a question whether people had invested in some of their top recommendations and if not, why? I personally have 4 of those recommendations. Porter feels that fear is a factor for not buying those stocks.
"My issue is that I just don't have enough cash. Stansberry cranks out multiple newsletters with many recommendations each week. First, I can't keep up with all the reading of dozens of emails and second my stock account is maxed out in Stansberry recommendations already. If by chance we have a rare loser or take profits, I crank those funds into another stock, option or bond. So I have to pick and choose between the recommendations. Not all of my picks have been Stansberry's best winners but most have made money. I wish I had enough funds to put in more recommendations but
"Keep up the good work.
"Ok guy, I did buy and still own Apple but I bought it before it split and I am up probably 200% now. The reason I bought it is because it pays a dividend and it will be another dividend aristocrat. I own Microsoft and Cisco for the same reason. As soon as Amazon, Google & Facebook start paying a dividend I, too, will own it. 90% of my portfolio (of stocks owned) are with dividend aristocrats. Y'all taught me that and, since I have been a subscriber, my portfolio has averaged 20%+ per year in value. The other 10% are recommendations from your other portfolios and they don't do as well.
"My bond portfolio with a few leftovers from my previous crappy investment advisors are all recommendations from your Credit Opportunity publications and they are all doing well. Thank you." – Paid-up subscriber Jon S.
"I can't believe how many respondents said they avoided companies for social reasons. My advice: vote with your heart and invest with your brain." – Paid-up subscriber Ira C.
"The evil brilliance of Elon Musk continues to amaze me. As the stock founders periodically for perfectly rational reasons, as comprehensively covered in Stansberry publications, he has become increasingly distressed. Aha! An easy solution:
"'Guess what folks, I'm thinking of taking the whole thing private at $420 a share. Only me and my fellow rich investors fully appreciate what I'm doing. I'm sick of you horrible short sellers who are holding me to (completely reasonable) financial expectations, like free cash flow, minimal indebtedness and (horrors!) the ability to sell any car at a profit. Take that!'
"And with one tweet, I hit my extended stop loss for TSLA puts, and I'm done. Someday, somebody will profit on this stupid company's demise. Unfortunately, not sure it will ever be me." – Paid-up Stansberry Alliance member Eric W.
"How is it even legal for Musk to tweet privatizing Tesla at 420$ a share? Why doesn't every CEO make a claim to privatize their company at a ridiculous valuation only to be blowing smoke?" – Paid-up subscriber Chris
Brill comment: It's not entirely clear that it is... In short, the company claims that because it once mentioned that investors should follow Musk's Twitter account for further information, yesterday's announcement met the legal requirements for proper disclosure. We may soon see if the SEC agrees.
Regards,
Justin Brill
Baltimore, Maryland
August 8, 2018