Billionaire Ron Baron is the founder and CEO of Baron Capital Group, an investment advisor and fund manager. He recently told CNBC Tesla(NASDAQ: TSLA) could be a $5 trillion company within a decade. That prediction implies 400% upside from its present market value of $1 trillion.
Baron is undoubtedly one of the biggest Tesla bulls on Wall Street. The stock accounts for 33% of the Baron Partners Fund, which has returned 195% during the last five years, beating the S&P 500(SNPINDEX: ^GSPC) by more than 100 percentage points.
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Here's what investors should know about Tesla, an electric carmaker slowly evolving into an artificial intelligence and robotics company.
Tesla gave investors some good news with its third quarter financial report
Tesla struggled against macroeconomic headwinds following the pandemic, but its third-quarter report set Wall Street at ease. Revenue increased 8% to $25 billion, gross margin expanded 195 basis points to 19.8%, and non-GAAP net income jumped 9% to $0.72 per diluted share. Analysts expected earnings to decline 12%.
Tesla cut vehicle prices multiple times in the last two years to compensate for decreased consumer demand brought on by inflation and high interest rates. That strategy made Wall Street nervous because it cut deeply into margins and profitability. So, margin expansion in the third quarter suggests better days ahead for Tesla.
Indeed, Cannacord Genuity analyst George Gianarikas recently told CNCB, "They continue to show time and time again that they are able to lower the costs of production and be one of the only companies in the world that can make money in electric vehicles." Likewise, Ron Baron told CNBC Tesla is the only U.S. company (and one of just two companies worldwide) currently capable of building electric cars at a profit.
Importantly, while Tesla has seen its market share decline by a percentage point this year, the company still accounted for an industry-leading 17% of electric vehicle sales through September. And that figure could trend higher next year when it launches a more affordable model in the first half of 2025. In short, Tesla is well positioned to benefit as electric vehilce adoption increases, and Grand View Research expects the market to grow at 34% annually through 2030.
AI software and services could supercharge Tesla's earnings
Tesla sees a big opportunity to increase revenue and improve profitability with full self-driving (FSD) software and autonomous ride-hailing services. Admittedly, CEO Elon Musk has said on several occasions that full autonomy was right around the corner, but Tesla recently provided concreted numbers and dates that may actually stick.
Vice President of AI software Ashok Elluswamy said on the third-quarter earnings call that FSD miles per critical intervention had improved 100-fold since the beginning of 2024. He also said FSD version 13 (the next major update) will up that figure by an order of magnitude, bringing year-to-date improvements to 1,000-fold.
That sets the stage for the release of unsupervised FSD next year, meaning a truly autonomous version of the software. Additionally, Musk says Tesla will roll out ride-hailing services in California and Texas in 2025, and potentially other states too. That push into software and services will alter the company's profitability profile. Musk in the past has estimated autonomous driving technology could bump Tesla's gross margin to "70% or more."
Importantly, while Alphabet's Waymo has been offering robotaxi services in select markets for several years, its vehicles cost more to make because they include an array of lidar and ultrasonic sensors, whereas Tesla relies entirely on computer vision. That also means Tesla should be able to scale its robotaxi service faster. Waymo needs to map its environment in detail, but Tesla's strategy makes that unnecessary.
Grand View Research estimates autonomous vehicle sales will increase at 22% annually through 2030, and Global Market Insights expects autonomous ride-sharing revenue to grow at 64% annually through 2032. That could lead to rapid earnings growth for Tesla given that software and services earn higher margins than electric vehicles.
Image source: Getty Images.
Tesla stock looks very expensive at its current valuation
Importantly, Tesla also has a long-term opportunity in autonomous humanoid robots. Elon Musk on several occasions has predicted the Optimus robot would eventually be Tesla's biggest business. And Goldman Sachs expects the market to grow quickly. The investment bank says humanoid robot shipments could increase at 76% annually over the next decade.
Looking ahead, Wall Street expects Tesla's adjusted earnings to increase at 24% annually through 2027. That makes the current valuation of 140 times earnings look absurdly expensive. But the problem with Tesla is so much of its long-term opportunity (and present valuation) hinges on nascent and nonexistent AI and robotics products.
That doesn't mean Tesla is a bad investment, but it is certainly a risky one. If FSD fails to become a sensation with consumers or Tesla never launches an autonomous ride-hailing platform, the stock would probably lose most of its value. Alternatively, if everything goes right for Tesla, I believe it could be a $5 trillion company within a decade.
Investors comfortable with those stakes can consider buying a few shares, though it may be more prudent to wait for a pullback. Tesla stock has gained 35% this month, as of Nov 26.
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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Trevor Jennewine has positions in Tesla. The Motley Fool has positions in and recommends Alphabet, Goldman Sachs Group, and Tesla. The Motley Fool has a disclosure policy.
