Tesla’s (TSLA) announcement that it wants to buy SolarCity (SCTY) in a stock-for-stock deal is the latest sign that things are not as they seem in Elon Musk’s empire. TSLA stock plunged 8% on the news, and with good reason.
Our TSLA January 2017 $100 puts (TSLA170120P00100000) are now up over 60% today alone.
Don’t go anywhere. This is just starting to get good…
I recently warned readers of Sure Money that Tesla is a house of cards. The company loses money (huge amounts of it) despite using accounting gimmicks to falsely claim that it is profitable. It makes promises it can’t keep about future production levels. And it shamelessly exploits government tax credits for electric cars – tax credits that will phase out as production levels rise and reduce demand.
Most alarmingly, the company is going to need to come up with billions of dollars of capital to fund the unrealistic production plans of its founder. Tesla recently raised $1.7 billion in a stock sale to the public, but it is going to need at least five times that much money to reach its goal of producing one million cars by 2020 – a goal, by the way, that it is not going to achieve in view of the fact that it currently produces less than 10% of that volume.
But now, in a move that only the most doped-up Silicon Valley optimist could justify, Tesla decided to buy a money-losing solar energy company whose main attraction is that it happens to claim Elon Musk as its largest shareholder and Mr. Musk’s cousin as its CEO. This will not only increase Tesla’s debt and losses but add to its voracious need for capital. It makes my previous short recommendation even more mouth-watering.
Here’s Why Tesla’s Solar City Deal Is Such A Bad Idea
As usual, Tesla’s PT Barnum claimed that the deal will create the only “vertically integrated energy company offering end-to-end clean energy products” for efficient and sustainable energy consumption. This commercial for the deal omits the fact that both TSLA and SCTY are bleeding cash and have no genuine synergies other than their common ownership by Mr. Musk and the fact that SCTY needs a bailout because its business is stumbling badly.
The only reason this deal is on the table is because Mr. Musk needs to bail out SCTY and happens to control TSLA. There is no fundamental industrial logic to merging an electric car company and a solar energy company. The only reason for the deal is to bail out Mr. Musk from a bad investment that appears likely to get worse.
This is not the first time that Mr. Musk used one of his companies to prop up SCTY. In 2014, Mr. Musk’s rocket ship company, Space Exploration Technologies Inc. (Space X), bought $214 million of bonds sold by SCTY. Space X is in the space business, not the bond buying business. Mr. Musk also borrowed $475 million secured with shares in his companies to purchase shares of both TSLA and SCTY. Borrowing money backed by overvalued shares to buy more overvalued shares in those companies is the working definition of a house of cards. Mr. Musk may deserve credit for putting his money where his mouth is, but he is eating at a restaurant whose kitchen is eventually going to catch fire and burn down.
Make no mistake – SCTY is in bad shape. The stock is down 60% over the last 12 months – which its largest shareholder Mr. Musk is more than well aware of. It burns cash at a rate that makes money-losing Tesla look like a piker – compared to Tesla’s cash burn of roughly 50 cents for every dollar in sales, SCTY burns an appalling (and obviously unsustainable) $6.00 for every $1.00 in sales. SCTY lost $283 million in the first quarter of 2016 as costs rose and competition intensified. The solar industry is facing headwinds from utilities that are stepping up their challenges and reduced tax credits for solar power in some states. Investors should remember what happened to bankrupt alternative energy company SunEdison Inc. (SUNE) in analyzing how tough it is to build a profitable solar energy company.
So Tesla, which is already bleeding cash and going to need billions of dollars of new capital to succeed, needs the added burden of SCTY like it needs a hole in the head. To place the deal in context, SCTY burned $2.6 billion in cash last year. Add that to the $2.2 billion of cash that Tesla burned on its own and you have a combined company bleeding billions of dollars a year. The combined company will also have significantly more debt with the addition of SCTY’s debt. How in the world does buying SCTY help Tesla?
One more thing: Solar City’s bonds are trading at distressed levels (a 20% yield), suggesting that the company’s equity may have no value and Tesla is not only buying a problem but grossly overpaying for it.
Mr. Musk is recusing himself from voting on this proposed TSLA/SCTY merger, but he clearly supports it since he initiated it and benefits directly from a bailout of SCTY. Whether TSLA shareholders will allow themselves to be led like lambs to slaughter and approve the deal remains to be seen.
Investors voted with their feet upon hearing the news – the stock dropped by 8% but is still trading at the ridiculous price of nearly $200 per share as I write this.
My readers should use this as an opportunity to add to their shorts in Tesla stock. This deal, if approved, would increase Tesla’s losses and hasten its need to raise more capital most likely in stock sales that will dilute existing shareholders.
Mr. Musk is a Pied Piper – but that doesn’t mean you have to be dumb enough to follow him and his Wall Street sycophants over the cliff.
Instead, hang on to your TSLA January 2017 $100 puts (TSLA170120P00100000). There’s an even bigger payday coming.