The 'Unknowable When' Is Coming for This Classic Bubble Stock
Beware if you own this stock today... The smoke and mirrors behind a profitable first quarter... A move 'to prove liquidity' – or something else?... He's like the love child of Thomas Edison and Snoop Dogg... One of the most overhyped stocks in the market... The 'unknowable when' is coming for this classic bubble stock...
When is a car company not a car company?
That's easy... when it makes all of its profits as a corporate welfare recipient or cryptocurrency speculator that spends billions of dollars covering up its founder's mistakes.
In other words... when it's Tesla (TSLA).
The electric-car, battery, and solar-panel maker's latest quarterly earnings call has me (Dan Ferris) scratching my head. But as I'll show everyone in today's Digest, it's much worse for Tesla shareholders... They should be grabbing their wallets and heading for the exits.
Here's the story...
After the markets closed on Monday, Tesla released its first-quarter report...
The company earned nearly $10.4 billion in revenue and $533 million in pretax income for the quarter, which ended on March 31. Its sales grew 74% year over year from the first quarter of 2020.
Meanwhile, Tesla reported that its total vehicle deliveries doubled over the past year. And management expects 50% average annual growth in vehicle deliveries "over a multiyear horizon."
Based on those data points, you might say, "It sounds like business is booming! Someone should give Elon Musk a raise! What's all this guff about Tesla not being profitable?"
Well, as you might've guessed, the story doesn't end there...
If Musk, Tesla's founder and CEO, deserves a raise for anything, it's for his latest role as Chief Deception Officer...
For one thing, as Wall Street Journal columnist Charley Grant pointed out on Wednesday, Tesla earned more profit from selling bitcoin last quarter than it did selling cars.
Now, Grant is a well-known Tesla critic... So you might think he's just piling on here. But when you dig deeper into the details, it's true...
In fact, all of Tesla's pretax profits came from two sources – neither of which was car sales. That's right... As Tesla's Chief Deception Officer, Musk pulled another trick out of his bag.
In the first quarter, the company's biggest source of profits was selling emissions credits...
It's well known by now that Tesla earns tradeable credits for selling electric cars. The credits come from government regulations "related to zero-emission vehicles ('ZEVs'), greenhouse gas, fuel economy, renewable energy, and clean fuel."
The company then turns around and sells the credits to other regulated companies who can use them to comply with emission standards and other regulatory requirements. Basically, Tesla is using its business to help others skirt around the "green" energy regulations.
In a nutshell, Tesla earns government subsidies because it makes electric cars, which are politically favored today over internal combustion engine vehicles.
Regulatory credits are reported as 100% profit... That's because the company doesn't need to invest or spend any extra capital to earn them. In its most recent quarter, Tesla earned $518 million from selling these credits – or about 97% of its reported pretax profits.
That leads us to Tesla's second source of non-car-related profit in the first quarter...
Bitcoin sales.
Regular Digest readers know Tesla entered the bitcoin game earlier this year...
In its latest annual report, filed on February 8, Tesla reported purchasing $1.5 billion worth of bitcoin in January. It explained the move as providing "more flexibility" and "to further diversify and maximize returns on [its] cash that is not required to maintain adequate operating liquidity."
Before I go on, I must make a quick note...
A lot of big companies do the same thing that Tesla did (though not using bitcoin). Companies with tons of cash – like consumer-electronics giant Apple (AAPL), for example – use their excess capital to buy a lot of different stocks and bonds for the same general reasons that Tesla gave in its report.
Apple's last balance sheet shows that it has roughly $39 billion in cash, $31 billion in short-term marketable securities, and $135 billion in long-term marketable securities. It has around $205 billion in money market funds, certificates of deposit, U.S. Treasurys of various maturities, corporate bonds, and municipal bonds... all kinds of different securities.
But the thing is, Apple makes a lot more money by selling hardware and software...
The company reported $67 billion in pretax profits last year, including just $803 million in net interest income. In other words, its huge profits from its core business were simply augmented by a small amount of net interest income on its $192 billion cash and securities portfolio. (Its interest income equaled $3.7 billion before subtracting interest expenses.)
Meanwhile, Tesla did the exact opposite... Last quarter, it reported a $101 million profit on the sale of $272 million worth of bitcoin from its investment portfolio, while reporting net losses from selling cars.
Tesla reported $594 million in operating profits for the first quarter. Since its regulatory and bitcoin profits totaled $619 million, that means selling cars generated a pretax loss of at least $25 million ($619 million – $594 million = $25 million).
As part of its earnings report this week, Tesla announced that it had sold 10% of its bitcoin position...
My colleague and Digest editor Corey McLaughlin touched on this briefly in Wednesday's Digest. The company booked a $101 million gain on its bitcoin holdings in the first quarter.
When asked about the company's cryptocurrency strategy by an individual investor, Tesla Chief Financial Officer ("CFO") Zachary Kirkhorn gave a response too long and rambling to reproduce here in its entirety. But here's the nugget that seemed to explain the decision to sell...
When we did the sale later in March, we also were able to execute on that very quickly. And so as we think about kind of global liquidity for the business in risk management, being able to get cash in and out of the market is something that I think is exceptionally important for us.
Musk was much clearer on Twitter about how it all went down...
Barstool Sports founder Dave Portnoy – and noted poster child of the "Melt Up" mindset – listened to Tesla's conference call. During the call, he posted on Twitter...
So am I understanding this correctly? @elonmusk buys #bitcoin. Then he pumps it. It goes up. Then he dumps it and make [sic] a fortune.
And then, in true 2021 fashion, the social media showdown was on. Later that night, Musk replied...
No, you do not. I have not sold any of my Bitcoin. Tesla sold 10% of its holdings essentially to prove liquidity of Bitcoin as an alternative to holding cash on the balance sheet.
I know what Musk is talking about because I've done it plenty of times...
It's a simple liquidity test... You buy and sell a position quickly to "prove liquidity," making sure you're not about to get stuck owning an asset that you can't sell quickly.
But I've always run the test with a smaller amount of capital before committing a larger amount... I've never committed a large position like Tesla did, then ran the test.
That doesn't make any sense...
Can you imagine committing $1.5 billion of the corporate treasury of a money-losing company to a speculative asset in February... then running a liquidity test two months later to see if you can get out as fast as you might need to?
Talk about a laid-back corporate culture!
I don't need to ask what they're smoking, though... We all saw Musk smoking pot on the Joe Rogan Experience podcast a couple years ago (followed by a 6% drop in Tesla's share price).
Musk's explanation about why Tesla sold 10% of its bitcoin is ridiculous. And when a genius like Musk says something ridiculous, I start looking for a more plausible explanation...
The truth is likely one of the oldest moves in the book...
On the conference call, Kirkhorn said the company sold 10% of its bitcoin "later in March."
Gee, maybe it's just a coincidence... But that was just in time for Tesla to add another $101 million in profit to its income statement before the end of the first quarter on March 31.
That's great timing.
Or perhaps it was both a liquidity test and earnings management in one fell swoop. It could've gone down like this – purely hypothetical, of course – conversation between Musk and Kirkhorn...
2 a.m.; in the back of a luxury RV, parked by the roadside, somewhere outside Barstow...
Musk: Road trip to Vegas was an epic call, dude. Hey man [inhales], did we ever do that liquid-y... um... liquidity test thing with bitcoin? [exhales and passes pipe to Kirkhorn].
Kirkhorn: [inhaling]. No, dude. We just said screw it and bought like a billion and a half. I figured you'd be cool with it. [exhales] Man, where'd you get this weed? It's awesome. I'm stoned.
Musk: I can't remember... It'll be cool when we start growing weed on Mars, man. Bitcoin is like, way cool, but maybe we should just sell some and make sure like, you know... that we actually can sell some. Dude, that would suck if we couldn't sell it [chuckles then inhales].
Kirkhorn: [laughs, puts popcorn in microwave] Sure, man. [pulls phone from pocket] I'll just get on Coinbase and sell some right now. How much, like half? That would be, like, a lot.
Musk: No man. Just sell enough to beat earnings expectations. Wall Street banks do it all the time.
Kirkhorn: Oh dude... I'm the CFO. I should've thought of that. I need to stop smoking so much weed. [looks in fridge] Want a beer?
Measured by Wall Street fuzzy math, Tesla was expected to do $0.80 per share in "adjusted earnings." That was the consensus estimate among all the Wall Street analysts covering the company.
The company's filing with the U.S. Securities and Exchange Commission shows that it reported $0.39 per share in earnings based on generally accepted accounting principles ("GAAP")... And it reported $0.93 in non-GAAP earnings – adjusted for whatever story Tesla is telling about why it doesn't make money actually selling cars.
Mission accomplished... It handily beat analysts' estimates for adjusted earnings!
But in reality, anyone who looks at Tesla's reported results and subtracts the bitcoin profits and regulatory credits from its pretax earnings will get a negative number every time.
When you think about Tesla's whole smoke and mirrors episode, it makes sense...
The use of trading profits to bolster earnings would be a typical move for a big public company – especially one whose business model is selling cars at a loss and getting bailed out every quarter by a government program purporting to fight a made-up climate emergency. (Keyboard cowboys, keep your climate screeds to yourself.)
And I can see why a company priding itself on disruptive innovation would want to put a little bit of the corporate treasury into an innovative asset like bitcoin. Plus, of course, Tesla's timing was great... Bitcoin doubled from the start of 2021 through the end of March.
But this notion of proving the liquidity of bitcoin while coincidentally goosing the quarterly profit is a cynical ruse... Musk is simply having his way with Wall Street and its gullible mass of unsuspecting marks (customers, clients, whatever you want to call them).
I guess every time a Tesla director exercises stock options and sells shares, they're proving the liquidity of the company's stock. And every time the company sells a car, it's proving the liquidity of the electric-car market.
So riddle me this, Batman...
When is selling not selling? When it's done to "prove liquidity," of course.
The liquidity-proof story is absurd, too, against the current macro backdrop...
Investment bank Goldman Sachs' Financial Conditions Index just tracks how easy it is to finance purchases and projects. When it's high, conditions are "tight"... and when it's low, conditions are "loose."
As you can see in the following chart, over the past four decades, this index has never before been as low as it is right now...
This tells us that the U.S., if not the world, is awash in the easiest money ever...
So if you want to borrow money for absolutely anything... refinance a house... or lease a car or maybe some heavy equipment for your farm... the time is now! It's easy to get money, and it's as easy to buy bitcoin with it as it is to buy stocks, bonds, futures, or any other asset you can trade online.
The great money spigot is wide open. Come one, come all... It's Finance-A-Palooza!
The idea of testing an asset with a $1 trillion market cap like bitcoin for liquidity in such an environment is like testing the Sahara for sand. And that isn't even factoring in the sheer absurdity of testing it after holding $1.5 billion worth of the stuff for two months.
Also remember that Tesla doesn't just sell cars (and bitcoin and regulatory credits) these days...
It also sells solar panels.
Recall that Tesla bought SolarCity – another Musk venture – in November 2016 for $2.6 billion in stock...
When the deal was announced earlier that year, Musk called it a "no brainer"... meaning the combination of a solar-panel maker with a company that makes batteries (as Tesla does) is logical. He reasoned that the combined company could sell customers a car, a home battery, and solar panels all in one trip... instead of making several house calls.
But SolarCity was struggling... Its stock was down 60% when the deal was announced. And at the time, Tesla wasn't doing great, either – making the deal look like two drunks holding each other up. Tesla's fortunes have improved since then (though it still can't make money selling cars), so now the deal looks more like a parent bailing its kid out of jail.
Musk and two of his cousins started SolarCity in 2006... A decade later, SolarCity was firing staff and hemorrhaging cash when Tesla acquired it. In October 2019, publicly disclosed e-mails between Musk and SolarCity CFO Brad Buss showed that Musk knew SolarCity was going broke and that he knew the company's roof tiles weren't functional as of June 2019.
Shareholders sued five Tesla directors (including Musk's brother, Kimbal), accusing them of breaching their fiduciary duty by allowing the deal to happen. Plaintiffs said the transaction "improperly benefited" Musk... And last August, a Delaware judge approved a $60 million settlement.
Plus, last year, Walmart (WMT) sued Tesla after seven of more than 240 SolarCity rooftop installations on the retail giant's stores caught fire.
Now armed with all of this hindsight, it sure looks like SolarCity was failing back in 2016 – with bankruptcy as a likely outcome. And it certainly appears that Tesla's "no brainer" deal was little more than a bailout of SolarCity's shareholders – of whom Musk was the largest.
Is it so hard to believe that Musk would rather make a shady deal than see his reputation as an entrepreneurial genius tarnished?
A highly successful man's character flaws tend to be more salient against the backdrop of the genius and drive that made him successful... And Musk is no different.
When you step back and take it all in, Tesla starts to look like some weird modern art project...
The project seeks to combine the latest technology (some of which works, some of which doesn't) with accounting legerdemain (some of which works, some of which doesn't).
Under a single roof, you can find...
- A car company
- A lithium-ion battery factory
- A recipient of billions in corporate welfare
- The acquirer of the founder's down-and-out solar company
- A massive bitcoin HODLer (HODL is short for "hold on for dear life")
- A mediocre earnings manipulator
And that isn't even factoring in the eccentric founder who pulls it all together. As we've seen in the past, his demeanor ranges from energetic, hyperrational, and brilliant to downright stoned... suggesting something like the love child of Thomas Edison and Snoop Dogg.
This is perhaps the least controversial thing we can say about Tesla in today's Digest...
It's one of the most overhyped stocks in the market.
Right now, as we go to press, Tesla trades at about $710 per share. That's 21% below its January intraday all-time high of $900 per share, but it's still an astronomical valuation...
With a market cap of $680 billion, it's valued at roughly 3.2 times higher than carmaker Toyota Motor (TM) – which made $17.9 billion in profits last year and makes more than 10 times as many cars in a year as Tesla. And as Grant pointed out in the Wall Street Journal...
If Tesla extended its first-quarter results for the next three quarters, the stock would trade at about 200 times this year's adjusted earnings.
No matter how you feel about Tesla's business... No matter how much you adore Musk... No matter how fast Tesla really winds up growing its production...
You must admit that an electric-car, battery, and solar-panel maker that moonlights as a corporate welfare recipient and bitcoin trading company with an intrinsic value of 200 times its adjusted earnings is probably overvalued.
But who knows? The world has never seen one before.
Tesla epitomizes a time-honored recipe for a classic bubble stock...
It involves a great story, a brilliant founder, plenty of controversy... and a soaring stock.
The following logarithmic chart shows the meteoric rise of Tesla's split-adjusted share price over the past five years. Take a look at its near-vertical ascent from its mid-2019 low...
Tesla is up roughly 1,700% since early June 2019. And over the past decade, it's more than a 120-bagger... It closed at a split-adjusted price of $5.52 per share to end April 2011.
Investors who think Tesla is a great long-term holding should remember that, when a company's stock goes ballistic – like Tesla's has since 2019 – it will eventually stop. And when that happens, it won't just level out and go sideways... It'll turn around and crash.
When that happens, a 90% drop in Tesla's share price should surprise no one...
As Prohibition-era journalist Damon Runyon once wrote, "The race is not always to the swift, nor the battle to the strong – but that is the way to bet."
I might restate Runyon's quote this way...
Money-losing companies with 120-bagger stocks that buy their founders' mistakes while introducing new technologies into capital-intensive, highly competitive, low-margin industries don't always fall 90% – but that is the way to bet.
Now, I have no idea when the stock will finally succumb to the forces of gravity and common sense. But it might not take much nudging at all...
I recently saw an analysis so profound that I can't get it out of my head...
It comes from Wayne Himelsein, the president and chief investment officer of Logica Capital Advisers, on Twitter... I even used it as my "Quote of the Week" on the latest episode of the Stansberry Investor Hour podcast.
Himelsein was commenting on traders' obsessions with "fat tails" – huge, unpredictable events that rock markets to their core, whether to the upside or downside. Trader and author Nassim Taleb helped popularize the topic in his 2007 book, The Black Swan.
Earlier this week, Himelsein posted on Twitter...
While there's constant talk of fat tails in markets, the irony is that extreme events don't even require them – thin tails kill too...
Tail size is nothing next to the unknowable when.
In other words, it won't take a huge, unpredictable shock to "kill" Tesla's share price.
A run-of-the-mill development could get the job done... And given the cyclical nature of markets – especially highly speculative ones – you have to wonder if the situation would require much of a catalyst (or any?) at all.
Tesla is a quintessential bubble stock engaged in blatant earnings manipulation. So with that in mind, this "unknowable when" should make its shareholders very uncomfortable.
Now, the cynics among you might say we've been similarly critical – and frankly, wrong – in the Digest about Tesla's impending doom in the past... And so far, you're exactly right.
But Tesla might just be a "Thanksgiving turkey" stock... It's fat, happy, and doing great – successful, you might say – right up until the moment it gets slaughtered and eaten.
Consider trying to "prove liquidity" of Tesla's stock before the bubble bursts and it's too late.
New 52-week highs (as of 4/29/21): American Homes 4 Rent (AMH), American Express (AXP), Axis Capital (AXS), Berkshire Hathaway (BRK-B), Brown & Brown (BRO), CBRE Group (CBRE), Crown Castle (CCI), Corteva (CTVA), Facebook (FB), Comfort Systems USA (FIX), Alphabet (GOOGL), W.W. Grainger (GWW), Huntington Ingalls Industries (HII), Hershey (HSY), Invitation Homes (INVH), iShares U.S. Home Construction Fund (ITB), LGI Homes (LGIH), Cheniere Energy (LNG), McDonald's (MCD), Mosaic (MOS), MasTec (MTZ), Annaly Capital (NLY), Northrop Grumman (NOC), NVR (NVR), Oshkosh (OSK), S&P Global (SPGI), ProShares Ultra S&P 500 Fund (SSO), Seagate Technology (STX), Constellation Brands (STZ), TFI International (TFII), Trane Technologies (TT), Visa (V), Vanguard S&P 500 Fund (VOO), Vanguard Short-Term Inflation-Protected Securities Index Fund (VTIP), Waste Management (WM), and Zimmer Biomet (ZBH).
In today's mailbag, more feedback on the bitcoin versus gold debate. As always, if you have comments or questions, send them to feedback@stansberryresearch.com.
Also, we've heard from several folks who weren't able to access at least parts of True Wealth editor Steve Sjuggerud's latest "Melt Up" event last night – or simply couldn't make it at the scheduled time. If this was the case for you, we have some good news...
You can check out the full replay for free right here. And you won't want to miss it... During the event, Steve shared critical updates about where the "Melt Up" is today, what he expects to come next for stocks, and how to position your portfolio so you're prepared.
"[Michael Saylor for bitcoin and Frank Giustra for gold] was a great debate from both informed speakers. But I think the winner will not emerge in the near future. While one may have seemed more convincing, only time can settle the score." – Paid-up subscriber P.J.
Good investing,
Dan Ferris
Medford, Oregon
April 30, 2021