Tesla Just Hit Its Most Critical Milestone
It’s not about how many cars it makes
No other stock has divided opinion quite like Tesla (NASDAQ: TSLA). It is amazing to hear how adamant investors are about the company’s future, and how dichotomous their predictions are.
By its own lofty standards, Tesla has completely failed to live up to its original vision. Yet the market has stuck with the stock like nothing else, forgiving its shortcomings and giving a free pass to its founder Elon Musk, who despite multiple setbacks has kept pushing into all manner of new ventures. Maybe the market doesn’t believe Musk is a genius, but it believes in his ability to grind forward. If anyone else was at the helm, investors would have lost patience years ago.
The Tesla story is fascinating and if nothing else isatisfies a fundamental psychological need of the market right now: the need for a strong vision, a belief in something, and the sheer bloody-mindedness to carry it through. In a world where companies are looking for ways to make quick money through automation, Tesla has won permission from shareholders to keep dreaming big and focus on the future, even if does not arrive as quickly as we would like.
There are still many investors betting against Tesla’s current valuation, which is certainly difficult to stomach for anyone looking to buy in at this point. There are still those betting that the business will fail completely. Right now, the short sellers are in a world of pain, and part of the stock’s current momentum is undoubtedly due to short covering to stem further losses, which only drives the share price higher.
Tesla will be admitted into the S&P 500 Index after posting four consecutive quarters of profit
But another key driver has been Tesla’s admission into the S&P 500 Index, which was secured on Wednesday afternoon after the bell, when the company reported its fourth consecutive profit. Already one of the strongest stocks of 2020, this is the final piece in the bullish puzzle and will be sure to have short sellers even more riled.
Tesla’s Q2 earnings beat Wall Street’s expectations but is nothing to write home about. It seemed that some analysts were a bit too conservative in their base case, but that is to be expected given the impact of the Covid-19 lockdowns. One estimate was as low as $2.8 billion in revenue, which was far too bearish. The final revenue result came in at just over $6 billion for the quarter, of which $4.9 billion was related to the automotive segment, while net income was $129 million, compared to $68 million in Q1.
By joining the S&P 500, many fund managers will be required to buy the stock if their mandate requires them to track the index. Already, large institutions have been aggressively buying the stock in anticipation of this event. The question is, will this trigger a major upside catalyst, or is the price already reflecting additional institutional demand and possibly even overextended?
Helping to bolster Tesla’s top line was its sale of regulatory credits, which other automakers but from Tesla to comply with emissions standards around the world. In Q2 these regulatory credits came in at $428 million and kept GAAP automotive margins steady on Q1. Excluding credits, non-GAAP gross margin was down from 20.0% to 18.7%. Despite management claiming credits are becoming less important, over the coming year they are forecast to be double what they were in 2019.
It might not be the prettiest set of figures, but Tesla has hit arguably its most important milestone. It has generated four consecutive quarters of profit and secured its admission into the world’s most important share index. Even if the share price needs to cool, this milestone has crystalized at least part of the bull case and will only make life harder for the short sellers.
