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A skeptic’s take on Tesla’s rapid acceleration

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Is electric-car maker Tesla Motors, Inc. the new Amazon.com Inc. – or the new Ballard Power Systems Inc.? Like Amazon and Ballard in the late 1990s, Tesla's stock has rocketed to senseless levels by conventional financial yardsticks, based on wildly optimistic promises of great rewards to come many years from now. Amazon.com, of course, became a game-changing e-commerce retailer, eventually exceeding its initial hype. Ballard's promise to deliver commercially viable fuel cell technology fizzled and its stock collapsed. Palo Alto, Calif.-based Tesla, whose stock popped last week on better-than-expected second quarter results, is at least selling vehicles and generating revenue – but investors must be sniffing gas to be convinced this is a sure-fire winner.

Tesla does have an exciting product – snazzy, expensive electric cars – a charismatic, visionary founder, Elon Musk and no end of fans, including billionaire social entrepreneur and backer Jeff Skoll. Add in projections of $2-billion (U.S.) in revenue for this year and two better-than-expected quarters in a row and even short-sellers have gotten out of the way of a runaway momentum stock .

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But there are many reasons to be pessimistic. For starters, unlike Musk's previous company, PayPal Inc., Tesla is not an Internet venture, with fast, vast scalability, but a manufacturing business. That requires excellence in engineering, tooling plants, sourcing, manufacturing, selling, distribution, plus building out recharging stations, retail outlets and service centres. Those things are expensive, and the costs are all going up: Research and development as well as selling, general and administrative costs are set to skyrocket for the second half of the year, up from $214-million (U.S.) in the first six months, and the company is set for another $150-million in capital expenditures, much of that to gear up for expanded production.

Meanwhile, Tesla admits it is contending with production issues. About 10 per cent of its suppliers are struggling to meet its needs to produce 20,000 cars this year, while Mr. Musk himself acknowledged on a conference call with analysts last week that the company is "slightly dumb" when it comes to making cars. That's down from "extremely dumb" at the end of last year. For now he's only promising by year's end, "we will at least not be dumb." It's a cute answer from an Internet firm, but not from a production company – especially one whose gross margins are just 13 per cent when you remove the subsidies it now receives through government incentives. Getting lean and efficient will be vital to Tesla's future. For now, the company seems to have a lot of priorities, including global expansion and designing new models, including an "affordable" $35,000 car, just over half the cost of its base Model S.

Back to those subsidies: Tesla has gotten an awful lot of help from government. There is the $7,500 federal tax credit for buyers, as well as the zero emission vehicle mandated credits in California and other states that contributed 12.6 per cent of its second-quarter GAAP revenues of $405-million, and which accounted for all of its revenue growth over the previous quarter. Then there was the $18-million revenue boost Tesla got from selling its emissions credits to other automakers. The real test remains whether consumers will buy these cars on their own merits. Electric cars still have a reputation for range and performance limitations as well as high costs, and whether or not that reputation is deserved, Mr. Musk himself acknowledges "there's a pretty long way to go" for mainstream buyers to "really see a lot of cars on the road for a long time to really…feel comfortably buying it."

For now the company has little trouble attracting capital – it raised more than $1-billion in the quarter – but if the buyers don't follow in great numbers, Tesla investors may wonder why they ever backed a company named after a brilliant inventor who was a failure as a capitalist.

Sean Silcoff is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here for more of his Insights , and follow Sean on Twitter at @seansilcoff .

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About the Author

Sean Silcoff joined The Globe and Mail in January, 2012, following an 18-year-career in journalism and communications. He previously worked as a columnist and Montreal correspondent for the National Post and as a staff writer at Canadian Business Magazine, where he was project co-ordinator of the magazine's inaugural Rich 100 list. More

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