July 19 2020 - Tesla Earnings Preview: S&P 500 Time

Summary

Unusual quarter could produce many surprises.

GAAP profit could lead to S&P 500 inclusion.

Update to yearly deliveries forecast is expected.

One of the most important quarterly reports this time around will come when electric vehicle maker Tesla (TSLA) reports its Q2 results after the bell on Wednesday. The stock has been one of the market's biggest winners this year, and investors are looking to see if another quarterly GAAP profit can help shares soar even higher. Today, I'll take a look at where expectations stand and break down what I think is most important for this week's report.

With the Fremont factory shut down for nearly half of the quarter and China also closed for a short time, production in the period was down considerably as seen in the graphics below. However, because the company started the period with a bit more inventory than it would have liked, deliveries actually were up sequentially from Q1 to Q2, coming in less than 1,000 vehicles from my quarterly prediction. The leasing percentage was down a bit sequentially.

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(Source: Tesla Q1 release, seen here)

1017993-1593695550389602_origin.png

(Source: Tesla Q2 release, seen here)

As you might expect, street estimates for Q2 have taken a wild ride as this year has progressed. In late February, analysts thought revenues of more than .6 billion were possible for this period. Then we saw the street get very bearish, which I thought was wrong, and I was proven right with the Q2 delivery report. Some of the street revenues estimates, like the one that is still below .8 billion, are so low that you almost wonder if they are typos, or if some analysts just haven't updated their numbers in several months.

As a result, we've now seen top line estimates jump from their lows as the chart below shows, although the average would be a bit higher if not for that really low estimate. However, it still seems that the street is a notch too low, because the current estimate represents a meaningful drop from Q1's just under billion revenue print. Tesla did deliver more vehicles during Q2, and the company is going to recognize a bit of full self-driving revenue, so I just don't see how the top line will fall this much.

1017993-1595167646113836.png

(Source: Seeking Alpha Tesla estimates page, seen here)

There are so many variables at play this time around that you'll likely see expectations all over the place. Ramping of the Model Y in Fremont and China Made Model 3 should benefit margins of those two vehicles, but price cuts during the quarter will also hurt selling prices and margins. Credit sales are always a wildcard, and the company is expected to recognize some of its previously deferred self-driving revenue. The dollar also strengthened versus some key currencies in the quarter, and the company came to a new battery agreement with Panasonic during Q2. Worker furloughs, employee pay cuts, and potential debt to equity conversions could also play a major role in how the income statement looks.

It was more than two months ago when I first brought up the idea of a GAAP profit in Q2 being a key goal for Tesla. This would allow the stock to meet all inclusion criteria for the S&P 500, although that doesn't guarantee the stock will get added to the index anytime soon. For this reason, I believe that Tesla management will have tried everything it could think of to get the quarter to have a positive GAAP net income. Remember, there are plenty of things that can be played with here, like how much full self-driving revenue can be attributed to certain features released during the period. As a result, my "base case" for the quarter is going to show a GAAP profit. Below, you can see the three cases I've projected for the period as I have done for previous periods, with dollar values in millions except per share amounts.

1017993-15950308773435493.png

*Diluted share count will vary based on profit/loss situation.

The balance sheet and cash flow situation is where things will get really interesting. The drop in inventory will certainly help, but you also wonder how much the company reduced its accounts payable and other liabilities balances during the quarter with production shut down. Capital expenditures will also be heavily in focus as Tesla is ramping two vehicles and looking to build out new factories. Most expectations seem to be calling for a decline from Q1's more than billion in cash, perhaps as much as billion in a worst case scenario, but it would not surprise me if management pulled some levers during the period to limit any cash burn and beat expectations.

It will certainly be interesting to see if management holds on to its forecast for more than half a million deliveries this year. That is going to take a monster back half of the year, but of course Tesla can always cut prices like we've seen with the Model Y recently and S/X/3 during Q2. Over the weekend, Tesla also introduced leasing on the Model Y in the US, which came a lot quicker than Model 3 leasing did. In China, the transition period ends on July 22, so we could see large price cuts there if the company wants to get the Long Range made in China Model 3 under the 300k Yuan price limit.

In the end, investors are watching this week to see if Tesla reports a Q2 GAAP profit that could lead to S&P 500 inclusion. It wouldn't surprise me if the company does beat analyst estimates, as the street seems awfully low with its numbers just like we saw with deliveries. There are a number of reasons for management to try to print a Q2 GAAP profit, since Q3 will likely see a large earnings hit from Elon Musk's pay package. Shares have certainly surged in recent months as investors look for potential major index inclusion, but if we don't see a profit, it will be interesting to see how much shares come back down.



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