S&P Slaps A 'Junk' Credit Rating On Tesla

Tesla model s supercharger stationWilliam Wei, Business InsiderTesla’s Model S sedan

S&P has assigned an “unsolicited” ‘B-‘ corporate credit rating to Tesla Motors. The outlook is stable.

S&P said its rating on Tesla’s bonds is “unsolicited” because the firm does not have a rating agreement with Tesla. S&P said it believes, “there is sufficient market interest in the company’s obligations to initiate analytical coverage.”

Corporate bonds rated ‘BB’ or lower by S&P are referred to as non-investment grade, or “junk.” These bonds typically offer investors higher yields in exchange for increased risk.

In its report on Tesla, S&P said its “vulnerable” business risk profile assessment incorporates Tesla’s, “narrow product focus, concentrated production footprint, small scale relative to its larger automotive peers, limited visibility on the long-term demand for its products, and limited track record in handling execution risks that could arise in managing high volume parallel production.”

Yesterday, we profiled the challenges Tesla is facing in its plans to build its first gigafactory. The gigafactory is a facility that would allow Tesla to make lithium ion batteries to be used both in its electric vehicles and as power storage units sold by SolarCity.

Tesla is issuing $US1.6 billion worth of debt to help pay for the gigafactory.

In morning trade, Tesla is down more than 2.5%.

From S&P:

NEW YORK (Standard & Poor’s) May 27, 2014–Standard & Poor’s Ratings Services

said today that it assigned its unsolicited ‘B-‘ corporate credit rating to

Tesla Motors Inc. The outlook is stable.

We also assigned our unsolicited ‘B-‘ issue-level and ‘4’ unsolicited recovery

ratings to the company’s $US920 million 0.25% unsecured convertible notes due

2019, $US1.38 billion 1.25% unsecured convertible notes due 2021, and $US660

million unsecured convertible due 2018. The ‘4’ recovery rating indicates our

expectation for average recovery (30%-50%) for the noteholders in the event of

a payment default.

Our “vulnerable” business risk profile assessment incorporates Tesla’s narrow

product focus, concentrated production footprint, small scale relative to its

larger automotive peers, limited visibility on the long-term demand for its

products, and limited track record in handling execution risks that could

arise in managing high volume parallel production.

The business risk profile is also constrained by Tesla’s niche and independent

market position, compared to its significantly larger and stronger peers, and

its very limited product range and operating diversity. We expect global

competition for alternative fuel vehicles to intensify over the next few years

as competitors penetrate this market through improved products. We believe

there is considerable uncertainty in Tesla’s long-term prospects and believe

that the company is less likely (compared to larger, more established

automakers) to successfully adapt to competitive and technological

displacement risks over the medium to long term.

Mitigating factors include improving brand recognition, ongoing cost structure

improvements with higher unit sales leading to better absorption of fixed

costs and lower logistics costs, as well as Tesla’s ability to command a price

premium through its Model S product, design, and technology.

“The stable outlook reflects our view that Tesla will continue its recent

improvement in gross margins and generate positive cash flow from operations

in 2014 while maintaining sufficient liquidity despite its large

growth-related cash investments,” said Standard & Poor’s credit analyst Nishit

Madlani.

We could lower the rating if it appears likely that the projected long-term

demand for Tesla’s vehicles will fall meaningfully below our estimates,

leading to overcapacity, or if FOCF will likely remain significantly negative

for the foreseeable future, causing liquidity to become insufficient. A

downgrade may also occur if additional debt funding needs arise or significant

execution risks and cost overruns materialise related to the company’s

expansion of Model S into Europe and Asia this year or the launch of its Model

X in early 2015.

Though unlikely over the next 12 months, we could raise the rating if a

combination of higher demand for Tesla’s product and operational cost

reductions leads to a credible pathway for positive free operating cash flow

(FOCF to debt approaching 5%), with leverage falling well below 6.5x and

liquidity remains “adequate.” We would also need to believe that the company’s

improved market position is sustainable.

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