In a fiercely competitive auto industry, Volkswagen stands out with its impeccable portfolio of brands – Volkswagen, Skoda, Porsche, Lamborghini, Bugatti, Man, Scania, Seat, Audi and Bentley. The behemoth company has its presence in both light-weight and heavy-weight motor vehicle segments and posted an impressive record sales of €202.5 billion ($222.4 billion), a YoY increase of 2.8%. Majority of this growth was driven by the sales growth in the Asia-Pacific region, where Volkswagen is heavily invested in and is undergoing expansion plans. The auto industry is coming out of a large slump over the last few years and demand is picking up again. Volkswagen is ready to exploit the coming opportunities with its Strategy 2018, which is a four-fold plan for growth and includes 4 main goals to be achieved by 2018.
Looking at the financials, Volkswagen has consistently failed to generate economic growth from early 1990s, with its CFROI being significantly less than the discount rate. This changed in 2011 when the company’s CFROI surpassed its discount rate. Since 2011, CFROI has been steady at around 6%. The company’s assets grew during 2011-2012 but declined sharply thereafter. This trend of decline has been projected to continue. In the Sales, Margins and Asset Turns chart, we see a cyclical pattern for the sales growth, coinciding with the economic cycles. The operating margins and asset turnover have remained stable, indicating an operating stability and an ability to generate sales. This also shows that sales are largely sensitive to the level of investments.
Looking forward, automobile sales are expected to rise and this will positively impact the company. Volkswagen has expanded its model portfolio in key segments such as high-end luxury and sports cars. Profit Margins grew 16% in 2014 and this is expected to continue, given the company’s efficient and stable cost management system. While the company seems to be entering some its best years, it is not without risks. In the event of an economic downturn, the sales in the luxury segment could be materially affected. Also, South American unit has posted a sharp decline in sales growth. Although this is expected to change, any continuation in this trend will drive down overall sales growth. The fuel-based auto industry is currently going through a consolidation phase and this is expected to drive down prices of vehicles. As Volkswagen has a history of dividend and expects to continue this, it has a challenge to keep earning stable in the upcoming headwinds. Also, given the fiercely competitive nature of the auto industry, any expected increase in demand will have to be effectively captured with series of spectacular products that fit well with the needs of a rising middle class, as every last market share is being fought for amongst competitors. If the market fails to accept the new line of products, growth will be materially impacted. Volkswagen can counter this to an extent with its geographical diversification, as losing market share in Eastern Europe and South America can be offset by an increase in US, Europe and Asia.
Tesla Motors Inc
Since its IPO in June 2010, the stock of Tesla Motors Inc. has grown 11 times with a CAGR of approximately 60%. Investors have believed in co-founder Elon Musk’s vision of battery operated cars and the prospects for the company are considered very bright, given its constant game-changing innovation. Although it has faced a disappointing Q1, Tesla has shown amazing growth potential, by growing its sales more than 7 times in the last 2 years. The Model S has been well received in home and European markets and has boosted the sales of Tesla since its launch in 2013. However, financials paint a risky picture for this company, and its current stock price stands at 219 times its 2015 consensus earnings (source: Bloomberg). Looking at the Relative Wealth Chart, the forecast CFROI for 2015 using the HOLT methodology is 5.63, which has significantly grown from -18 in 2012. 2013 was a turnaround year for the company, with a 535% drop in net loss and the company coming close to profitability. But 2014 was a year of increased investment; it commenced operations in China, increased its network of ‘Supercharging’ stations, and doubled its R&D expenditure. This is reflected in the Sales, Margin and Turns chart. Sales growth dropped steeply in 2014 along with asset turnover, whereas operating margin increased.
Looking ahead, the company has many projects up its sleeve. The upcoming Gigafactory, which is slated to be the world’s biggest factory, began construction in 2014 (this project is in partnership with Panasonic). This factory will integrate production of battery precursor material, cells (including the lithium-ion cells that Tesla vehicles use), modules and battery packs in one location. Tesla has estimated an investment of $2 billion (34% of its total assets) over the next 5 years, with a $300 million expenditure in the next 12 months on this project. Tesla estimates the sales of plug-in operated cars to increase dramatically in the next three years, reaching 500,000 vehicles by 2020. Such estimates may seem ambitious given Tesla’s 2014 sales of 35,000 units, by the landscape seems to be changing for plug-in cars. One of the biggest driver of sales is the network of charging stations. This looks optimistic, with the U.S. energy department predicting more than 5000 charging stations by mid-2015 (source: Bloomberg News) and the number is expected to steadily rise. In addition to this, Tesla has plans to roll out the Model X SUV in 2015 as well as a mass-market Model 3 in 2017. The outlook for plug-in cars looks very optimistic and Tesla is poised to take on the challenge. However, there are many risks the company faces.
- The growth of Tesla is almost wholly financed by external financing. Not only does this have a potential to dilute the existing ownership structure, it also poses risks that if financing dries up or if Tesla is unable to raise additional funds, growth will be unfunded and difficult to achieve.
- Tesla has no prior experience of building a factory of the scale of Gigafactory. It also has no prior experience in producing cells and battery related components. This could lead to significant delays and underestimation of various factors such as financing, labor etc.
- Tesla’s expected sales growth can be hurt due to the ‘resale value guarantee’ option that allows customers to sell back the car to Tesla at a pre-specified price. Should the value of Tesla’s vehicles decrease in the market, customers will exercise this option and this can materially affect sales growth.
The valuations of both companies give a straightforward answer: sell Tesla and buy Volkswagen. Given its size and experience, Volkswagen is poised to exploit the growth in the upcoming markets around the world. It’s effective cost management system and expected 5 year dividend growth rate of 15.83% (source: Bloomberg) in the context of tremendous growth potential will be rewarding for shareholders. The company is coming out of the problems it faced in previous years and the stock price seems to not have priced in these positive expectations. According to HOLT Valuation methodology, the stock is significantly undervalued and it has a 77% upside potential. On the other hand, Tesla’s stock seems to already reflect the market’s anticipation of future prospects. In fact, the market seems to be overoptimistic about its future. Although the stock has declined by almost 30% since September 2014, it is still overvalued. HOLT valuation methodology estimates a 63% downside. This recommendation comes in the context of current strategy. With a long term horizon, Tesla stock is more favorable than Volkswagen as growth of alternative fuel-based transportation is expected to exponentially increase towards the end of this decade. Also, Tesla’s innovation has proven to hit the mark time and again in the past. Its current innovation is also expected to be change the landscape of the automobile industry. If the investor wishes to profit from this success story, Tesla’s stock can be invested at price levels of $90-100 a share.
- Volkswagen Annual Reports 3013 and 2014
- Tesla Annual Reports 2013 and 2014