Tesla's Gift Box – Inefficiency Wrapped in Hype
Congratulations! You've been appointed Energy Czar for the island of Self Sufficiency; a wonderful place that can satisfy the bulk of its energy needs from domestic resources, but needs to import gasoline for a 10,000-unit automobile fleet that gets replaced at a rate of 1,000 cars a year. The island's battery factory can manufacture 45,000 watt-hours of lithium-ion batteries each year and depending on how they set the machines; the factory can make high-power batteries for HEVs or high-energy batteries for EVs.
Your mandate as Energy Czar is to minimize Self Sufficiency's fuel imports and CO2 emissions.
You have two competing proposals on your desk. The first is from Self Sufficient Motors, which wants to build a fleet of thirty HEVs using high-power batteries from the factory. The second is from Tesla Motors (TSLA), which wants to build one Model S using high-energy batteries from the factory. There is only enough capacity for one of the alternatives.
It you accept the proposal from Self Sufficient Motors, each of the HEVs will save 160 gallons of gasoline a year. So the combined fleet will reduce imports by 4,800 gallons a year and reduce CO2 emissions by 55 metric tons a year.
If you accept the proposal from Tesla Motors, the Model S will save one owner 400 gallons of gasoline a year and reduce CO2 emissions by 5 metric tons, but it will increase CO2 emissions from power generation by 2 metric tons, resulting in a net emissions reduction of 3 metric tons a year.
At first you're confused by the numbers because everyone knows that grid-powered electric vehicles are way cleaner than normal cars. Then your research assistant finds the following graph from the Union of Concerned Scientists that explains it all by showing that less costly HEVs fall nicely into the middle of the emissions range for grid-powered electric vehicles.
As a sensible, responsible and ethical public servant which alternative do you choose to support?
The fascinating thing about this simple example of an island nation is that the numbers closely approximate conditions in the US and they translate perfectly to a country, a continent or a planet. No matter how you slice and dice the fuel savings and CO2 emissions, there is absolutely no public policy justification for supporting grid-powered electric vehicles.
The bottom line is that grid-powered electric vehicles are unconscionable waste masquerading as conservation. There are enough batteries and battery materials to make electric vehicles for the few, the rich and the mathematically challenged, but there will never be enough batteries or materials to permit the implementation of grid-powered electric vehicles at a large enough scale to impact global, national or even local oil consumption. It's not an effective solution.
A grid-powered electric vehicle might make one driver feel warm and fuzzy about himself, but from a public policy and resource conservation perspective it's the most wasteful plan in history.
There is no room for rational intellectual debate.
At March 31st, Tesla had $123 million of working capital and $154 million of equity. It lost $89 million during the first quarter and burned $50 million of cash in operations. Its remaining DOE loan facility can only be used to buy equipment. Those funds cannot be used to buy parts, materials or labor to build cars, or to pay the overhead associated with running a company. At Friday's close, the market value of Tesla's outstanding shares was $2.96 billion, or 19.2 times book value.
I've heard the breathless claims that Tesla is the next Apple (AAPL) and Mr. Musk is a younger and far smarter version of Steve Jobs. That may be the case, but it can't change the reality that Apple trades at 5.2 times book value after a decade of extraordinary growth and profitability that consistently outperforms market expectations while Tesla is a rank startup with a long history of losses.
Many individual investors don't understand the Hype Cycle, the most dangerous dynamic in the stock market, until after they've been victimized at least once. Some investors never learn and they keep doing the same thing expecting different results. This graph from the Gartner Group conveys enough information to help sensible investors avoid Wall Street's version of a buffalo jump were the herd is sent stampeding over a cliff and the hunters feast on broken carcasses.
A simpler tongue-in-cheek version from Paul Graham is too accurate to be funny. It shows his view of the stages all startup companies must survive on their path to becoming viable business enterprises. While the Gartner graph does a great job explaining the dynamics, I think the Startup Curve is closer to the truth.
The root cause of the phenomenon is the simple fact that equity markets behave like people. During childhood and adolescence when all things are possible, equity markets act like voting machines – so Disney economics, wish upon a star thinking and irrational exuberance prevail. In most cases, investment decisions are based on the greater fool theory which holds that paying an outlandish price is acceptable because there will always be a greater fool to pay an even greater price. At some point, however, equity markets mature; children learn there is no Santa Claus and that wishing won't make it so. Then the weighing machine kicks in with a vengeance, stock prices collapse and neophytes who bought in reliance on the greater fool theory learn the identity of the last and greatest fool.
I can't predict when Tesla will reach that tipping point of market maturity, but I'm certain that it will.
If you doubt what I'm saying about the Hype Cycle and the Startup Curve, visit Yahoo! Finance and pull up the long-term price charts for Ballard Power (BLDP), Plug Power (PLUG), Pacific Ethanol (PEIX), First Solar (FSLR) and A123 Systems (AONE). The same pattern repeats itself time and time again because politically motivated energy policies and a technology du jour mentality that pervades every political organism repeat themselves time and time again, particularly when the last set of panacea technologies begins to generate backlash over fiscal black holes.
New readers love to assume that I hold some deep-seated animus for technology or that I'm simply an oil industry stooge. Nothing could be further from the truth. The fact is I'm an unrepentant early adopter when it comes to new technology. Notwithstanding my personal proclivities, I've been practicing securities law for over thirty years and have a profound understanding of the challenges all early-stage companies must face. I've also worked as an executive in the battery industry and understand the inherent wastefulness of battery-powered electric drive. Based on my knowledge and experience I see a perfect storm brewing for Tesla. Investors love to tell themselves that "it's different this time," but they invariably learn that it's never different.
Disclosure: I have no direct or indirect interest in Tesla and nothing to gain or lose from its future stock price movements.