Tesla pivot threatens to blow a hole in the investor case

The explosive report detailing plans within Tesla to cancel its ‘Model 2’ low-cost electric car to focus on a robotaxi has blown a hole in the investment case for the firm, as analysts scramble to assess what it means long-term. Much of the case for investing in Tesla – the world’s most valuable car maker, based on its share price – has come from CEO Elon Musk’s stratospheric growth projections for the firm: as much as 20 million cars by 2030, up from 1.81m last year. The lower-cost Model 2, a crossover codenamed Redwood, was intended to drive much of that growth in the mid-term, with production initially coming from Tesla’s factory in Austin, Texas and then in Berlin, Germany. A subsequent second model would generate combined sales of 5m per year, Tesla has said. But with that now on ice in favour of an autonomous car, according to the well-sourced Reuters report, analysts are now left wondering exactly how to value Tesla. “If Tesla were to confirm that its renewed robotaxi focus comes at the expense of [the] Model 2, we believe this would introduce a considerably higher risk profile for the stock,” Emmanuel Rosner, chief analyst at Deutsche Bank, wrote in a report. Musk denied the Reuters reporting, accusing the well-regarded news agency of "lying", without being specific on which part was wrong. However, he did seemingly confirm one element by following up his accusation on X (formerly Twitter) with an announcement that Tesla would reveal a robotaxi on 8 August. Musk has a long history of promising self-driving vehicles without delivering, starting in 2015, when he announced that all Teslas would be autonomous-capable by 2018. They weren’t. In 2016 he promised one of his electric cars would drive across the US without human intervention. It never happened. The boldest claim came in 2019, when Musk claimed all Teslas could be operated as robotaxis the following year, earning owners $30,000 a year while their car went to work for them. Predictably, Teslas have remained resolutely driver-monitored. Claims such as this sent the company’s stock soaring, valuing the company from a high of $76 billion in 2019 to $668bn in 2020 and over $1 trillion in 2021. However, the harsh realities of both autonomous driving and Tesla’s weaker-than-expected first-quarter sales have pushed the stock down 31% this year to $547bn – albeit still at a height far above second-placed Toyota ($332bn), despite the latter’s recent climb. The business case for robotaxis remains deeply uncertain, worrying analysts. “This change in strategy would also make any upside from here tied to Tesla cracking the code on full driverless autonomy, which represents a significant technological and regulatory challenge,” Rosner wrote. Tesla is still only at level-two autonomy, Rosner pointed out, despite the branding of its driver assistance as Full Self-Driving. “Bridging the gap to level four-five is arguably more complicated by orders of magnitude,” he wrote. Currently only Google’s Waymo operates driverless taxis in geofenced areas of San Francisco, Los Angeles and Austin, after its main rival, General Motors-backed Cruise, was forced to pause its operations after an incident in which one of their vehicles ran over a pedestrian. Musk’s announcement that Tesla would unveil a robotaxi in August coming so soon after the Reuters scoop caused some observers to wonder whether his X post was also news to engineers within the company. The immediate reaction was to steady the stock price after dropping soon after the Reuters scoop was published last week, but Musk’s gambit isn’t a long-term solution. “Unveiling a robotaxi on 8 August may help [stock market] sentiment but won’t address the timeframe and investment needed to render the technology and business model viable,” Philippe Houchois, analyst at the bank Jefferies, wrote in a note to investors. Abandoning the low-cost model is the wrong move, argued Houchois. “The economics of [the] ‘Model 2’ are certain to be challenging, but abandoning it would repeat past mistakes of US OEMs giving up against foreign competition when Tesla has demonstrated an edge in manufacturing and Shanghai provides a unique low cost base for a Western OEM,” Houchois wrote. Bearing in mind that Tesla has been very good for investors over the past four years or so, the banks were also looking to find the positives in the apparent U-turn. One of Tesla’s biggest cheerleaders on the investor side, Morgan Stanley analyst Adam Jonas, told his investor clients in note that that Tesla’s move could be “a recognition that making and selling EVs in a traditional consumer model may not create lasting economic value”. Without specifically referencing the expertise of the Chinese and its EV leader, BYD (an even fiercer cost-cutter and price-slasher than Tesla), Jonas mentioned that within the world of low-margin EV production, “entry-level EVs are likely to be the fiercest sub-segment”. Tesla had been targeting a 50% cost reduction in making the 'Model 2', including reorganising production to follow the ‘unboxed’ method that rejects the age-old production line method in favour of a system that pre-assembled modules that come together right at the very end of the process, saving time and reducing assembly space. The ‘bull’ case for Tesla if it abandons the scale-manufacturing effect of the Model 2 is on the tech side, argues Jonas – not just with robotaxis but also software and artificial intelligence with relevance perhaps beyond cars. “While Tesla may have achieved its 'iPhone moment' with [the] Model 3 [and Model] Y, it has yet to reach the 'App Store moment', which is critical to unlocking high-margin, high-multiple, highly recurring revenue,” Jonas wrote. Morgan Stanley remains ‘overweight’ on Tesla, which means it sees potential for the share price to improve. It's not 100% certain that Tesla has abandoned its cheaper models, however. The ‘next-generation’ Tesla is “not just one vehicle but multiple,” Lars Moravy, head of vehicle engineering at Tesla, said at last year’s Tesla Investor Day. It could end up being a more flexible platform that produces replacements for the Model 3 and Model Y and possibly further on a cheaper model. Established car makers would certainly breathe a sigh of relief if Tesla were removed from the competition list on cheaper EVs, given that it would be built right in the European heartland in Berlin and that the Model Y was last year’s best-selling car globally. Car makers in recent months have been cursing Tesla for creating a buzz around EVs that they reacted to but so far haven’t translated into the same consumer enthusiasm. Like many in the business, they will be waiting for 23 April to see if Musk uses his company’s next earnings call to clarify if he really is backing off on his commitment to scaling up to the point that Tesla doubles Toyota’s annual sales – and if so, what's the new strategy? It could be a pivotal moment in Tesla’s already incredible story.