2024 has not been kind to Tesla (TSLA -3.25%) shareholders. While the S&P 500 has risen by 21%, the electric vehicle (EV) leader's stock has been on a roller-coaster ride that has left it more or less flat year to date due to competition and consumer fatigue. While the stock still enjoys a premium valuation, it is unclear how much longer it will be able to maintain it unless CEO Elon Musk finds a way to reinvigorate the company.
It's hard to justify Tesla's valuation
Trading at a forward price-to-earnings (P/E) ratio of 85, Tesla stock is valued substantially higher than the broader market's ratio of 24. And its valuation is wildly higher than those of other large U.S. automakers like Ford or General Motors, which have forward P/Es of just 5.3 and 4.7, respectively. In the past, this level of premium could be explained by Tesla's unique EV focus and its higher margins. But those justifications just don't hold as much water anymore.
Legacy automakers have gone all-in on electric vehicles, and they are rapidly gaining market share. For example, Tesla's third-quarter deliveries grew by only 3% year over year to 439,975 units (the company doesn't break down its business by country, but the U.S. is its largest market). For comparison, GM's U.S. deliveries of EVs surged by 60% to 32,095.
Tesla's margin advantage is also starting to fade. In the second quarter, operating margins fell to just 6.3% from 9.6% a year earlier. And the company could face even more pressure from vertically integrated Chinese rivals like BYD (which is also a top EV battery manufacturer) that might be able to undercut its prices in key markets such as Asia and Europe.
BYD is considering opening a second plant in Europe in 2025 to produce affordable EVs like its Seagul compact car, which is expected to cost less than $21,550 on the Continent and less than $10,000 in China.
Can cheaper cars save the day?
Tesla's automotive business doesn't look capable of justifying its premium valuation. And over the next three years, Elon Musk may need to pull off a major pivot to software to keep the stock from crashing. The good news is that management seems keenly aware of what needs to be done.
On Thursday, Tesla will host "Robotaxi Day," a much anticipated live event where it will unveil its newest ideas, including a new compact EV expected to launch for around $25,000 in 2025. This much-anticipated vehicle will turn one of Musk's most ambitious goals into reality. And it could also reignite Tesla's growth by putting EV ownership within reach of the masses.
But while cheaper cars could be great for Tesla's unit sales volume, they probably won't do much to improve its margins. And instead of creating an economic moat, they could trap the company in a continuous race to the bottom as other companies follow its lead. Ford is reportedly working on its own affordable EV platforms through a semi-autonomous "skunkworks" team.
Tesla will need to become a tech company
The most important aspect of Robotaxi Day will naturally be Tesla's update on its self-driving car program. According to analysts at McKinsey & Company, the market for ride-sharing services provided by autonomous vehicles could reach $300 billion to $400 billion in revenue by 2035, with much of that likely money going to high-margin services and licensing. If Tesla can successfully deliver the tech that robotaxi services will require, that could easily justify its current valuation and possibly send it higher.
That said, these are speculative projections. And Tesla will have to compete with other well-capitalized rivals like Alphabet's Waymo and General Motors' Cruise, which are also working on self-driving technology. Investors who buy Tesla stock at current prices will need to have a lot of confidence in management's ability to navigate an incredibly uncertain situation. And it might make sense for them to wait for more information before buying.
