Despite selling fewer cars than most of its competitors, Tesla managed to outpace competitors in terms of market capitalization (i.e., price/share multiplied by the number of shares outstanding). It shows how investors value a company – not necessarily for what it is today, but for what it can be tomorrow.
Valuation Principles in the Stock Market
Any business is not valued in relation to its present value, but to the future value of its cash flows. Discounted cash flow models are one of the most complex models to value a company, and even in such cases, the accuracy of the model depends on how well the analyst estimates future cash flows.
The auto industry today reflects the battle between generations and how the traditional automakers are caught on the wrong foot by being forced to meet green regulations in developed markets. On the one hand, millennials, and other younger generations (i.e., X, Z), favor electric cars and the promise of a green future. On the other hand, new regulations like the Green Deal in Europe and similar incentives in other parts of the world changed the way investors value a company.
A quick look at the image above, and it makes no sense that a company like Nikola, an electric truck automaker, to be valued at $25 billion, almost as Ford at $26 billion. The difference between the two? Ford sold millions of cars in the last fiscal year – Nikola is yet to sell a truck! Yes, the company did not sell even one truck, yet it almost equaled Ford in market capitalization.
Are investors wrong? Perhaps.
However, such a huge discrepancy between an automaker that produces and sells cars globally, and one that did not even produce and sell one car, helps us explain how Tesla became the most valuable automaker in the world.
It outpaces Toyota or Daimler and has a market cap bigger than Honda, Ferrari, BMW, and GM combined – all of these while selling fewer cars. Once again, it is all about valuation.
A quick look into an electric car automaker’s financial statement reveals incomes from selling green certificates. In other words, because traditional automakers were caught on the wrong food and cannot meet the new green emission standards, they are forced to buy green certificates from electric companies.
In other words, one company’s liability (any traditional automaker) becomes another company’s asset (electric companies). Unless the traditional automakers catch up with Tesla’s progress, the gap is likely to widen.