I'll take a few minutes and bring this discussion back to Tesla, since I brought up Uber because I care about Tesla (as a TSLA investor).
As an investor I care about finding the next 10x investment opportunity. That's why I invested heavily when Tesla was at $30/share. After much research, I thought it had a very good chance of reaching $300 within 4-5 years (from 2012 when I first invested).
After TSLA jumped to over $200/share quickly, I had a decision to make of whether to sell my shares since my investment thesis worked out or to find a new investment thesis that would justify me holding on to TSLA for longer. For me, I spent over a year (full-time in 2013) working on this question. And I came up with my own answers. I concluded TSLA had potential to do another 10x (ie., reaching $300-500 billion market cap) within 5-10 years. The reasoning was that if Gen3 was a massive success, then that could propel TSLA into becoming one of the largest auto manufacturers in the world while maintaining an industry-leading gross margin. In other words, Gen3 success would enable TSLA to go further downstream and tackle the Camry/Corolla markets with an even cheaper/economical model, the Gen4.
I also thought Tesla's future addressable market was safe and that the worldwide car demand would grow due to China/India/etc.
However, the advent of the ride-sharing phenomena, and the eventual autonomous car, changes all of this. I was following Uber since 2012 but I didn't think Uber had much impact on TSLA or Tesla's future. I thought Uber was operating in an entirely different market than Tesla.
I knew that Uber was tempting people in urban areas to ditch their cars in favor of ride-sharing, but I figured that the decreased demand for cars caused by Uber would be offset by the increase in demand by China/India's growing middle class.
But a few things happened. First, Uber and the ride-sharing networks grew much faster and larger than I had anticipated, and it is having a much bigger impact on car ownership paradigms that I had originally anticipated. In fact the bigger Uber/Didi grow, the more impact their have on car ownership paradigms (ie., people will want to own their car less). (note: that's one reason why it's important to keep up with what's going on in the ride-sharing industry because it has a direct impact on the addressable market for car ownership).
Second, the timeline for autonomous cars kept getting pushed up, and the day where we'd see a fully autonomous car is becoming increasingly imminent.
Ride-sharing impacts car ownership in limited ways. But when ride-sharing is paired with autonomous cars, then this has a tidal-wave of impact on car ownership, since it basically drops the cost of ride-sharing by probably 80% or so, thus making it that much more appealing to people.
So, what does this all mean to Tesla?
First, Tesla's (and other car makers) total addressable market will shrink substantially (70-80% over next 10-15 years?). This means Tesla and other auto makers will be competing in a smaller overall market than previously. It makes it that much more difficult and brutal.
I thought the transition to EVs would be brutal for traditional auto makers, but this transition to autonomous ride-sharing will be multiple times more brutal than the transition to EVs. For transition to EVs, you're still dealing with the same overall market size. But with the transition to autonomous ride-sharing, you're dealing with less cars needed and a smaller overall market. If the transition to EVs was going to be a slow-motion train wreck (those were the words I used), I don't know what to call this transition to autonomous ride-sharing. Maybe I'll just say it'll be a bloodbath for most auto makers.
Second, Tesla's advantage with electric powertrain won't be enough. In other words, here are the priorities for the new world order of cars:
1. Autonomous driving
2. Ride-sharing network
3. Electric vehicles
Ideally, the market leader will be the leader win all three of these areas. Autonomous driving isn't enough. You need an effective ride-sharing network to pair with the autonomous driving cars for the cars to reach their full disruptive potential.
For Tesla, they currently have two of the three: namely, development of autonomous driving efforts and electric cars.
The question is how difficult will it be for Tesla to launch their own ride-sharing network, or if they don't then what happens?
Well let's take the question if Tesla doesn't release their own ride-sharing network. In that case, Tesla owners could probably just lend their autonomous cars to Uber or other ride-sharing networks. But in this case, Tesla is just the auto maker and doesn't participate in the ongoing revenue generation of the ride-sharing network. And what Uber/Didi is proving is that ongoing revenue of transporting people from point A to point B will be substantially larger than the revenue from making cars.
If Tesla can't successfully debut a ride-sharing network, then the valuation as a company will suffer unless they can sell a ton of autonomous cars (ie., 10M cars/year by 2030?).
As the vehicle market shrinks due to autonomous ride-sharing, investors will give a lower multiple for companies in the auto industry since it will be a shrinking industry. Currently, the auto industry already has a low P/E multiple because it's not a very good business sector. Low margins, high costs, ongoing liability, etc. You might give a company a 7 P/E or so. As the industry shrinks, that multiple will probably go lower as well. This can make valuation for TSLA even more difficult.
Scenario #1: Here's what some people might consider a "decently good" scenario for Tesla, but I think it would be a poor scenario for TSLA as a stock. We'll call it "3 million cars by 2025".
In this "3 million cars by 2025" scenario, let's lay things out. Tesla is set to produce 3 million cars/trucks by the year 2025. Let's see how much TSLA will be valued.
At 3 million cars/trucks, let's say each sells for an average of $40k. That's would be $120 billion. Let's add another $10 billion (100k Model S/X). So total revenue is $130 in 2025.
Let's say gross margin in 22%.
And profit margin is 10%.
So their profit would be $13 billion.
The overall car industry is shrinking and Tesla is growing that fast, so investors give TSLA a 5X multiple.
TSLA's valuation in 2025 is $65 billion. (note: TSLA's current valuation is $33 billion). So you might say, ok that's fine TSLA doubles in 9 years. Not terrible. But that's not including dilution. Tesla will likely have to raise more money in the future, and also they give out stock incentives. So, TSLA might only go up 50% in value over the next 9 years. So, if the stock is at $220 right now, then you might see TSLA at $310 in 2025.
Of course this is assuming that Tesla Energy doesn't work out or contribute much to TSLA's bottom line. And it's assuming Model S/X demand stay stagnant. But it's also assuming that Tesla can sell 3 million Model 3/Y/truck... and that's not an easy task either.
Another twist to this scenario is that investors could give a higher multiple, maybe 7 P/E... and that would make TSLA's valuation at $91 billion. But with dilution and all, maybe that's a 100% gain from today. So about a 8% appreciate per year. Not bad. But not what most people are looking for when investing in a high-beta and high-risk company like Tesla.
So, the question is what does Tesla need to do to "break out" of this scenario #1?
Well, for one Tesla Energy could take off and become bigger than their car portion of their company. I think Tesla Energy has the potential, but I also have my doubts as well. And I'm not about to have a high degree in confidence in Tesla Energy until I can see more evidence of solid execution and market uptake.
Anyway, for sake of discussion let's call the scenario I just described as Scenario #2: "3 million cars and Tesla Energy huge by 2025"
Another scenario, we'll call it Scenario #3, is for TSLA to have another part of the business take off. It could be semi trucks or even something completely new. But I think one possibility is that Tesla could be a battery supplier to other EV companies. But I'm not sure if this would increase the valuation of TSLA that much, because with worldwide vehicle production/demand decreasing there probably will be fierce competition in the battery sector (i.e., Samsung, LG, Panasonic, BYD, etc) and it's likely to be a low margin business. Unless, of course, Tesla discovers a true battery breakthrough that significantly reduces cost beyond what any of their competitors can compete with. This has potential for Tesla to grow a very big business from. But at this moment, it's not something I see as likely. Possible, but not likely.
Scenario #4 would be Tesla making a lot more than 3 million cars/year by 2025. Let's say they make 5-7 million cars/year by 2025. In this scenario, Tesla's growth would be much faster and would justify a higher P/E multiple. This would make TSLA worth significantly more than Scenario #1. Let's work out some rough numbers. At 6 million cars/year at $40k/car, we're looking at $240 billion. 10% profit margin would leave us with $24 billion profit. Let's give them a 10X P/E multiple. That would make TSLA's market cap $240 billion... almost 7x from today's valuation but then you'd need to discount dilution. So maybe 5x from today's valuation. Not bad over 9 years. (Note: a 12X P/E multiple would value TSLA at $288 billion).
Scenario #5 would be Tesla successfully launched an autonomous ride-sharing network that successfully competes against Uber and the likes of Uber.
In this scenario, let's try to calculate what TSLA might be worth in 2025.
Now Uber's already shown us that ride-sharing is a massive market (they're already at a $20 billion/year revenue run rate and it's still very early as they're still experiencing 2-3x growth per year). My rough guesstimate would be that the ride-sharing market could be at $200+ billion by 2020 and $400+ billion by 2025. The cost of autonomous rides would be much cheaper to the passenger but there would be a massively more amount of rides given.
If Tesla by 2025, can reach $50 billion of that $400+ billion market of autonomous ride-sharing and also show that they have momentum to eventually become the market leader, that would justify a very high P/E multiple.
At $50 billion revenue, we'll give 10% profit margin, so $5 billion profit/year for Tesla's autonomous ride-sharing network. Since it's still growing and the market is still growing by then, investors might give them a 30-40X multiple on this. So let's say it's a 35 P/E multiple on $5 billion profit. That would give Tesla's autonomous ride-sharing network a valuation of $175 billion. Let's add that market cap valuation to Tesla's car division (ie., Scenario #1 of 3M cars/year by 2025) of $65 billion, and you have a $240 billion market cap company.
Of course there's always the scenario of everything Tesla touches doing super well (ie., combine Scenarios 2, 3, 4 and 5) and you'll have a company that could be the largest market cap company in the world. But the rationale investor in me chooses not to entertain that as a realistic scenario because almost-always... not everything works out like we expect it to.
So, where does this all take us?
If autonomous ride-sharing truly does shrink auto production worldwide in significant ways, then it's going to be important for TSLA to have a plan to overcome this. 3 million cars/year by 2025 would be a disappointment to most TSLA investors (as shown in scenario #1).
I think the most strategic way forward would be to try to produce 6 million cars/year by 2025 (basically more cars than people expect) and somehow find a way to successfully launch a ride-sharing network that can out-compete Uber and Didi.
But both of those tasks/goals aren't going to be easy to accomplish.
But maybe I'll end this post with some thoughts on why I'm still a TSLA investor.
I think Tesla has a decent shot at producing at least 5 million cars/year by 2025. A lot of it will depend on how well Tesla executes the Model 3. And Tesla might even need to go downstream a bit (after Model Y and the pickup truck) to release a car tailored for autonomous ride-sharing (something that isn't geared for performance but geared to be cheaper yet comfortable).
I also think Tesla has a decent shot to make a difference with Tesla Energy. I like their focus on energy innovation and I think their investments will pay off. I think there's a pretty good chance Elon and his team will find a way to make a good business out of Tesla Energy.
Personally, I think the ride-sharing (ie., transporting people from point A to point B) is going to be much, much larger than the auto manufacturing industry and I'm really rooting for Tesla to be able to pull off a ride-sharing network that outcompetes Uber's network. The "only" problem is that Tesla would need to out-execute Uber, and Uber is very good at executing. At this moment, I'm hopeful but not totally optimistic. I think Tesla's best opportunity here is if they can truly come out as the undisputed leader in autonomous driving and that will help their efforts in launching a ride-sharing network.
I also think Tesla has the opportunity to disrupt the trucking industry and if done right it could add at least $500 billion to Tesla's market cap. The trucking industry is massive. It's 5% of the U.S. GDP and employees roughly 9 million people in the U.S. And that's just the U.S.! The trucking industry is ripe for disruption.
The challenge for Tesla in the trucking industry is that Tesla needs to be super-aggressive and also near-flawless in their execution. And recently Tesla has had challenges in the way they execute. The Model X launch has been a disaster. And Tesla keeps missing on quarterly guidance. These aren't good signs when you're thinking about Tesla's chances of disrupting the entire trucking industry. Especially since Uber and others are aggressively moving into that sector as well.
Anyway, overall I think TSLA still presents solid opportunity for the future... even in a future with decreased car ownership. But at the same time, Tesla has got it's work cut out for them. Tesla needs to be sharp in strategy and precise in execution. Because competition is heating up.