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  (Noah Berger/Reuters)
  (Noah Berger/Reuters)

STRATEGY LAB

Red-hot Tesla shares: Why they're still a buy, even now Add to ...

Chris Umiastowski is the growth investor for Globe Investor’s Strategy Lab. Follow his contributions here and view his model portfolio here.

Last November I added shares of Tesla Motors to my Strategy Lab growth portfolio. The stock had taken a nosedive from its highs of about $190 (U.S.) down to $120, and I wanted to take advantage of the volatility to diversify my portfolio. Today, Tesla trades closer to $240 per share, which means my virtual investment has doubled in only three short months.

I get a lot of e-mail inquiries about the stocks I’ve picked. Readers often want to know if I still like a particular stock after watching it rise so much in value. My answer is always the same: I see no difference between holding a stock versus buying that same stock today. In other words, if I hold a stock, I have to feel comfortable that I’d also buy that same stock today if my broker accidentally sold my shares leaving me with the cash instead. Getting your head around this, in my opinion, is really important because it teaches you to be unemotional about investing.

As a long-term investor, I generally don’t trade stocks. I mostly ignore short-term price movement, with two obvious exceptions. First, if I’m considering buying new stock and it rapidly declines, I’ll often jump on that opportunity as I did with Tesla in November. Second, if a stock’s valuation no longer makes sense, I’ll sell it because I’m interested in situations where long-term upside potential is more than the risk I’m taking as a shareholder.

Admittedly, Tesla at $240 has less upside than Tesla at $120. It sports a market capitalization of over $30-billion and the company expect to sell about 35,000 cars this year whereas Ford and GM, who sell millions of cars per year, are worth about double Tesla. There is no possible way to justify Tesla’s market value on any current or near term financial metrics. But if you’re willing to look toward the next decade, as I am, you might still see tremendously exciting growth that’s worth sticking around for.

What keeps me interested, and what I think is responsible for the recent share price appreciation, is how the company’s plans are coming together so that Tesla can become a significant player in the global automotive market.

The company’s biggest challenge is getting enough batteries to meet customer demand for its Model S electric sedan. Tesla was only able to deliver about 22,000 cars last year. By my math, this consumed 5 per cent of all rechargeable batteries made that year. Put another way, if Tesla used the entire world’s production of rechargeable batteries for its Model S sedan, it could make enough cars to hit 0.4 per cent market share. Clearly, the world needs more battery-manufacturing plants, and fast.

Last week, Tesla announced a $1.6-billion capital raise along with plans to build a massive battery factory that would be larger than the world’s current total battery production. By 2020, Tesla expects the factory to support production of 500,000 third generation electric cars per year. Depending on the assumptions you make, it’s easy to see how Tesla could do $30-billion in annual sales within six years. That assumes everything goes well with vehicle design and factory construction.

But it’s also important to look at the big picture. Tesla is the only car company building its own battery factory to support much larger scale production. It’s the only car company building a network of superchargers across North America, Europe, and likely Asia in the next couple of years. Tesla has also differentiated itself in how it sells cars (no dealerships) and services them (the company’s own mechanics, “Tesla Rangers,” can come to you for most repairs). Tesla is taking control of the most critical part of the supply chain as well as the entire customer experience, just as Apple has done for mobile devices. For all the size and scale advantages that traditional car companies should have, they just don’t seem to be very interested in moving quickly to neutralize the moat that Tesla is building.

For those interested in digging deeper, Tesla is also starting to sell battery packs and associated control systems for use in solar-energy storage systems, giving residential and commercial building owners a way to reduce energy costs and have a backup source of power when the grid goes down. The idea is clever, the market is potentially enormous, and this underscores the importance of investing billions of dollars into battery manufacturing plants.

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