Will the Magnificent Seven go down to six?

Some wags have suggested that Apple’s (US: APPL) place within the so-called 'Magnificent Seven' might be imperilled by antitrust charges brought by the US Department of Justice. It’s interesting to note that the US is following the line of European Union regulators on this front, although it’s difficult to gauge whether antitrust legislation presents a growing threat to the leading tech companies. About the only verifiable statement is that it provides fertile ground for the legal fraternity.

The place of Tesla (US:TSLA) within the top-tier tech club has also been brought into question. But in the case of the electric vehicle (EV) giant the problem is not legislative but is bound-up in secular market trends. Another challenge for the company may be the Biden administration's new vehicle emissions rules, which allow for hybrid sales well into the 2030s.

Ostensibly, numbers have been heading in the right direction, at least up until Q4. Tesla produced around 495,000 vehicles and delivered more than 484,000 vehicles in the quarter, while generating revenues of $25.2bn, implying a solid book-to-bill ratio. Vehicle deliveries grew by 38 per cent last year, a pleasing enough outcome in view of residual supply chain issues, although the group also indicated that growth would be “notably lower” in 2024. That’s a problem given that the growth narrative has supported the group trading at tech multiples rather than a far lower carmaker valuation. Indeed, the group still trades at a heady 54 times consensus earnings with an accompanying price/earnings growth (PEG) ratio of 4.8, suggesting that a little too much growth has been baked into the share price.

Another problem for Tesla is that it has been forced to maintain its market share through heavy discounting. Last year, the group accounted for three out of every five electric vehicles (EVs) sold in the US, but the question is whether the EV pioneer is equipped to win a price war over the long haul. The fact that its market valuation has dropped by nearly a third in the year to date suggests that the market is not altogether optimistic on this score, although it’s worth noting that Tesla easily outperformed the broader S&P 500 index in 2023.

The price cuts have continued into 2024. Prices for the Model Y have been pared back in many European countries, while further discounts have been applied to vehicles on sale in the Chinese market. Understandably, concerns over the proliferation of low-cost EVs from the People’s Republic have concentrated minds across the industry. It’s telling that two of Japan’s biggest carmakers, Nissan (JP:7201) and Honda (JP:7267), have just announced that they will work together to develop affordable EVs to mitigate the threat posed by budget cars from China. The move came after executives from Germany’s Volkswagen (DE:VOW) and French automaker Renault (FR:RNO) made similar noises. Korea, home to some of the world's top manufacturers, finds itself stuck in the middle between China and the US given it sells to the latter's carmakers (including Tesla) with raw materials largely from the former country. 

Tesla has an inherent advantage over its western rivals because of its integrated production model, yet this does not always apply where China’s automakers are concerned because of their access to critical industrial inputs. It is no surprise, therefore, that Elon Musk has placed the emphasis on market share at the expense of the gross margin, which has fallen by anything up to a third over the past year. It should be noted, however, that China’s EV manufacturers were also forced to slash domestic prices in the face of a stuttering economy.

It's an election year in the US, the outcome of which will influence the fortunes of Tesla and other carmakers. The Biden administration has just introduced tailpipe rules for passenger and light commercial vehicles. These have been designed to accelerate the transition towards electric motoring. The new framework aims to achieve a 56 per cent reduction in fleet-wide average carbon emissions by 2032. But in what amounts to a tacit acknowledgement of the slowing take-up of EVs in the US market, the new rules will enable hybrids – vehicles that combine petrol or diesel engines and lithium-ion batteries – to play a decisive role in the electric transition. It’s essentially a sop to the United Auto Workers union to ward off further industrial action, as well as acknowledging that drivers will be unlikely to stampede towards EVs at a quick enough pace to meet previous goals.

If the election goes the way of the Republican Party, Donald Trump has signalled that he will remove, or at least relax, any related mandates linked to EV adoption, and would place heavy duties on any Chinese EVs that were produced without the participation of US labour. 

The political uncertainty ahead of November adds to the disruption in the wider automotive sector.

Industry chiefs are being asked to undertake major capital allocations against an unstable market backdrop with an imperfect view as to the future shape of the industry. It’s doubtful if Musk is prioritising market share over profitability as part of a “last man standing” strategy, but it’s not inconceivable that – short of a major consolidation round and/or new trade barriers – some long-established automakers could fall by the wayside. Oddly enough, Apple has abandoned its programme to build an EV given the highly competitive nature of the industry.