Tesla stock had its price target set by Morgan Stanley. This is a ‘WACC’ problem.

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Morgan Stanley has cut analyst Adam Jonas

Tesla

Price target is Wednesday afternoon. He’s still bull, buy-rating. And their target price just dropped $ 100, moving from $ 1,300 to $ 1,200.

It does not seem to be such a big business. Still, his report helps investors understand how Wall Street analysts’ minds work. The price drop is entirely caused by an increase in the weighted average cost of capital – the cost that companies pay to finance their business. How many cars have nothing to do with this

Tesla

Is being sold – or not selling.

The report updated key numbers before Tesla reported it. Tesla (ticker: TSLA) should report Q2 delivery figures next week — about July 2. A few weeks later, Q2 earnings are pending.

The second quarter was wild, with production delayed due to devastation over Kovid-19 operations. Jonas slashed its second-quarter delivery estimate from 316,000 units to 270,000 units.

Fewer distributions lead to lower total dividends. Jonas now plans margins other than regulatory credits, coming in at 24.6% instead of his previous estimate of 25.8%.

None of those cuts could affect the price target. This is driven by the reduction in the weighted average cost of capital.

“Increase in WACC from $ 1,300 to $ 1,200 to target 9.0% [versus] 8.5% ago, ”Jonas wrote. 0.5% “Increase in WACC …. Accounts for approximately 100% of the price target decline.”

WACC sounds like a business school word. It is. Basically, WACC takes into account the cost of debt and equity of the company. WACC is used in matters such as discounted cash flow to help analysts and investors evaluate shares.

The cost of the loan is easy enough to understand. Companies pay bonds and interest rates to lenders. Rate is cost. The cost of equity is a little more difficult to understand. This is basically the return shareholders consider any stock acceptable. The cost of equity is influenced by such things as stock volatility and government bond yields.

Government bond yields represent risk-free returns. Investors can buy treasures and know they will get their money back. (The government can print dollars.) A risky stock should always earn a good spread on US Treasury bonds.

Jonas wrote that the WACC increased because of the “high risk-free rate.” Government bonds tend to yield more, so stocks have to return higher. And good income means paying lower prices for the same business.

All of this is very educational. But how analysts set models for things like rising rates and unusual scenarios.

Tesla stock is not much affected by the mid-day price target cut. Shares have been down nearly $ 12 since the report was published, but weakened until the market closed.

Tesla stock fell 0.4% on the day and ended at $ 708.26 a share. The

The S&P 500
And

The Dow Jones Industrial Average
The green fell more than 0.1% and 0.2% after spending most of Wednesday.

The average analyst price target for Tesla stock has dropped to about $ 910. Shortly after the first quarter results were released, the target reached $ 1,000 a share in April.

Write to Al Root at [email protected]