Updated on July 28th, 2020 by Bob Ciura
The appeal of growth stocks is that they have the potential for huge returns. Consider the massive rally by Tesla, Inc. (TSLA) in just the past few months. After finishing 2019 with a share price of $418, shares have more than tripled just since the beginning of 2020.
The downside of growth stocks of course, is that volatility can work both ways. Tesla is not consistently profitable, and the company faces a mounting debt load. Growth stocks can generate strong returns, but also carry the burden of high expectations due to their sky-high valuations.
Plus, Tesla does not pay a dividend to shareholders, which is also an important factor for income investors to consider. As a result, we believe income investors looking for lower volatility should consider high-quality dividend growth stocks, such as the Dividend Aristocrats.
The Dividend Aristocrats are a group of 65 stocks in the S&P 500 Index with 25+ consecutive years of dividend growth. You can download an Excel spreadsheet of all 65 (with metrics that matter such as dividend yield and P/E ratios) by clicking the link below:
Over time, any company – even Tesla – could make the decision to start paying dividends to shareholders, if it becomes profitable enough. In the past decade, other technology companies such as Apple, Inc. (AAPL) and Cisco Systems (CSCO) have initiated quarterly dividends.
However, the ability for a company to pay a dividend depends on its business model, growth prospects, and financial position. Even with Tesla’s huge run-up in share price to start 2020, whether a company can pay a dividend depends on the underlying fundamentals. While many growth stocks have made the transition to dividend stocks in recent years, it is doubtful Tesla will join the ranks of dividend-paying stocks any time soon.
Tesla was founded in 2003 by Elon Musk. The company started out as a fledgling electric car maker but has grown at a high rate in the past several years. Tesla has a current ~$274 billion market capitalization. Amazingly, Tesla’s current market capitalization is more than four times the combined market caps of auto industry peers Ford Motor (F) and General Motors (GM).
Tesla has a growing lineup of different models and price points and is looking into expanding that lineup further to become a full-line automaker. Since going public in 2010 at just $17 per share, Tesla has produced outstanding returns for shareholders on hopes of massive future growth. Since then, it has grown into the leader in electric vehicles, and it also has business operations in renewable energy. Tesla generated revenue of $25 billion in 2019.
Tesla reported second-quarter earnings on July 22nd, with results beating expectations on the top and bottom lines, impressing the investment community during a global pandemic. Total revenue was down -5% year-over-year to $6 billion, but beat estimates by nearly $500 million.
Source: Investor Update
Automotive gross margin improved markedly year-over-year as well, rising from 18.9% in the year-ago period to 25.4% of revenue. This was essentially in line with Q1’s automotive gross margin value of 25.5% of revenue.
Tesla said it expects to deliver 500,000 vehicles this year, as it continues to ramp up capacity to meet rising demand. It also said it expects its new semi-truck to begin deliveries in 2021.Tesla posted its fourth consecutive quarter of profit, earning $2.18 per share on an adjusted basis in Q2.
Tesla’s primary growth catalyst is to expand sales of its core product line, as well as generate growth from new vehicles. In addition to the flagship Model S sedan, it has broadened its portfolio. Tesla is now looking to larger models such as SUVs like the Model X, and also its Cybertruck for growth.
Tesla is investing heavily in strategic growth, through acquisitions as well as internal investment in new initiatives. First, Tesla acquired SolarCity in 2016 for $2.6 billion. Tesla is also ramping up vehicle production. Last year, it started production of battery cells for energy storage products at its Gigafactory 1 facility. Tesla also operates the Gigafactory 2 solar power facility.
In December 2019, Tesla’s Gigafactory 3 in Shanghai made its first car deliveries. There will even be a Gigafactory 4 and a Gigafactory 5 in the not-too-distant-future. Tesla’s growth and success is part of the growth story for lithium stocks.
Tesla’s growth in revenue per share has been nothing short of outstanding. It produced about a hundred times more revenue per share last year than 2010, the year it came public. That level of growth is difficult to find anywhere, and it is why Tesla’s shares have performed so well. Whether Tesla can continue to maintain its high rate of growth is another question.
Will Tesla Pay A Dividend?
Tesla has experienced rapid growth of shipment volumes and revenue in the past several years. But ultimately, a company’s ability to pay dividends to shareholders requires success on the bottom line as well. While Tesla has been the epitome of a growth stock through its top-line growth and huge share price gains, it has still not become a consistently profitable company.
Without reaching steady profitability, a company simply cannot afford to pay a dividend to shareholders. In fact, consistently losing money means a company will have trouble keeping its doors open, if losses persist over time.
Tesla has generated losses in multiple quarters, going back several years, despite rising deliveries in that time.
Source: Investor Update
Looking back further, Tesla has lost money each year for the past decade. It goes without saying that a money-losing company has to raise capital to continue to fund operations. To that end, Tesla has sold shares and issued debt to cover losses and fund expansion in recent years, both of which make paying a dividend even more difficult.
Tesla ended the 2020 second quarter with diluted shares outstanding of 207 million, up 17% from 177 million for the same quarter last year. Further shareholder dilution is in store, as the company frequently needs to raise external capital to fund its various growth initiatives.
Tesla’s debt load is also rising at a concerning rate. Total debt increased to $26.75 billion at the end of the most recent quarter, up from $24.72 billion at the same point last year. By comparison, at the end of the 2020 second quarter Tesla had total assets of $38.14 billion, including $8.62 billion of cash and cash equivalents.
Rising debt means rising cost of debt, in the form of interest expense. Interest expense totaled $170 million in the most recent quarter, which took up over 50% of the company’s operating income for the period. Issuing debt is very costly for Tesla, as it has a non-investment grade credit rating. As of last year, Tesla had a credit rating of B- from Standard & Poor’s, which falls into speculative territory. With a non-investment grade credit rating, further debt issuances mean interest expense will continue to eat into profits.
Tesla has been among the market’s hottest stocks to start 2020, more than tripling in share price just since the beginning of the year. Shareholders who had the foresight to buy Tesla near the 2019 lows have been rewarded with huge returns, through a soaring share price.
However, investors looking for dividends and safety over the long run should probably take a pass on Tesla stock. The company needs to use all the cash flow at its disposal to bring its operations to profitability, invest in growth initiatives, and pay down debt. While there is always a possibility that Tesla’s massive share price rally could continue, it is also possible the stock could fall. Investors should remember that volatility can work both ways.
More defensive investors such as retirees, who are primarily concerned with protection of principal and dividend income, should instead focus on high-quality dividend growth stocks such as the Dividend Aristocrats. It is unlikely Tesla will ever pay a dividend, at least not for many years.