Tesla: Walking a tightrope with cash; stock is heavily shorted

The original excitement about mass/produced electric cars appears to be dwindling, as automakers are lowering their forecast sales and slowing down production.

GM, the producer of the Chevy Volt, will suspend its Volt production for a month for the second time in the past 6 months due to high inventory at retailers. Back in 2011, GM (NYSE: GM) expected to sell 25,000 Volts in 2011 and 120,000 Volts in 2012. The 7600 cars actually sold in 2011 and the 2012 YTD 10,700 sales have been a huge disappointment. The importance of Chevy Volt sales is not lost on the industry and market participants, as Volt sales are often used as a proxy to determine the health and future of the electric car industry, which includes electric sportscar maker Tesla.

Production is vital

In the short run, Tesla (NASDAQ:TSLA) is facing a major potential cash crunch, as the company's cashflow is quickly eating at its cash balance as the company tries to scale up its operations for its Model S sedan. As it currently stands, the company has backlog of about 12,000 orders for its Model S and is expected to be able to finish production of 5000 units by the end of the year. 500 units are expected to be delivered in Q3, with the remaining 4500 in Q4. The company currently only produces about 2-3 cars per day and expects that by the end of the year it will be able to push out more than 50 per day, a pretty steep production curve. Short sellers are definitely not as optimistic as management, as more than 50% of the company's float is short interest, meaning that 50% of the stocks held have an opposite short sell position. 

Because of the company's large ramp up and tight finances, Tesla is highly dependent on its production goals for the rest of the year. From my cashflow estimation the company's available cash balance could run out with two quarters of delays of its 5000 unit production target. The company's available cash balance is mostly funded from the company's own cash balance of $232 million along with the remaining 65 million undrawn portion of its U.S. Department of Energy low interest loan.

If the company produces as expected, the company should have a cash balance around $200 million at the end of the year, but if the full scale production of the Model S is 2 months delayed the company's cash balance will disappear, meaning that the company will be forced to offer a private placement or another public offering. Either way, the company will get diluted. Due to the loan provision with the Department of Energy, 50% of the proceeds of a new stock offering would go directly to paying back the Deparment of Energy's loan. Therefore the company is definitely hoping to avoid any type of stock offering, something short sellers are hoping for.

Analysts vs short sellers

Tesla is a bit of financial conundrum. On one side, the company is much unloved by traders, as 53% of the company’s free float is being shorted. But sell side analysts are quite bullish on the stock. Of the 14 analysts covering the stock, 60% have an 'Overweight' or 'Buy' rating, with only 13% of the analysts having a 'Sell' rating (shown below). Such a discrepancy in outlook can best be explained by the different incentives that analysts and investors face. Investors make money by placing bets on market movements, while analysts benefit not by the performance of the stock but the story that can be told, and in finance a good story is usually better than bad one. In addition analysts are usually bound by the company's guidance. Unless the guidance is adjusted, analysts pretty much have their hands tied.

So who is right?

As a general rule, short investors have a much greater incentive to be correct than do sell side analysts since analysts get paid for their 'story' more than their accuracy. And short sellers tend to be the most knowledgeable investors. To go against the best investors takes a lot of guts.

For long-only investors, given the high short interest, any positive news on Tesla could create a decent upside pop as shorts cover their bets. But on the other hand, any production mishaps should send Tesla stock sharply lower.

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