Coyote Blog

Today after the market closed was Tesla's analyst conference call to review  fourth quarter earnings.  TL:DR It was as weird as ever, maybe weirder.  Even before the call, Elon Musk said that the numbers released today would be un-audited, and the call ended by saying -- in a sort of "oh by the way" over the shoulder parting shot -- that their CFO was leaving and being replaced by a 36-year-old with only Tesla experience and no prior CFO role (not unlike the random young dude that the Arizona Cardinals just hired as their coach, but that is another story).  Neither Musk statement was a big confidence boost given the myriad questions swirling around the legitimacy of Tesla's reported financials.  But the REALLY weird stuff was in between.

The LA Times, which really has had some of the best Tesla coverage, has the best summary I have found so far of the call.  Before I get into some things we learned that helped support my article I wrote the other day, I want to share some of the priceless other highlights of the call.  All from the LAT article:

Tesla faces questions about whether enough new Model 3 sedans can be sold to generate substantial profits.

“The demand for the Model 3 is insanely high. The inhibitor is that people don’t have the money to buy one,” Tesla Chief Executive Elon Musk told analysts on the call.

Yes, I am like an addict on Tesla but I find the company absolutely fascinating.  Books and HBS case studies will be written on this saga some day (a couple are being written right now but seem to be headed for Musk hagiography rather than a real accounting ala business classics like Barbarians at the Gate or Bad Blood).

I still stand by my past thoughts here, where I predicted in advance of results that 3Q2018 was probably going to be Tesla's high water mark, and explained the reasons why.  I won't go into them all.  There are more than one.  But I do want to give an update on one of them, which is the growth and investment story.

First, I want to explain that I have nothing against electric vehicles.  I actually have solar panels on my roof and a deposit down on an EV, though it is months away from being available.  What Tesla bulls don't really understand about the short position on Tesla is that most of us don't hate on the concept -- I respect them for really bootstrapping the mass EV market into existence.  If they were valued in the market at five or even ten billion dollars, you would not hear a peep out of me.  But they are valued (depending on the day, it is a volatile stock) between $55 to $65 billion.

The difference in valuation is entirely due to the charisma and relentless promotion by the 21st century's PT Barnum -- Elon Musk.  I used to get super excited by Musk as well, until two things happened.  One, he committed what I consider outright fraud in bailing out friends and family by getting Tesla to buy out SolarCity when SolarCity was days or weeks from falling apart.  And two, he started talking about things I know about and I realized he was totally full of sh*t.  That is a common reaction from people I read about Musk -- "I found him totally spellbinding until he was discussing something I am an expert in, and I then realized he was a fraud."

Elon Musk spins great technology visions.  Like Popular Mechanics magazine covers from the sixties and seventies (e.g. a flying RV! a mile long blimp will change logging!) he spins exciting visions that geeky males in particular resonate with.  Long time readers will know I identify as one of this tribe -- my most lamented two lost products in the marketplace are Omni Magazine and the Firefly TV series.  So I see his appeal, but I have also seen his BS -- something I think a lot more people have caught on to after his embarrassing Boring Company tunnel reveal.

Anyway, after a couple thousand words of introduction, here is the update:  In my last post linked above, I argued that Tesla is a growth company that is not investing in growth.  Sure, it is seeing growth in current quarters due to investments made over the last decade, but there is little evidence it is actually spending money to do anything new.  It stopped managing itself like a growth company trying to maintain its first-mover advantage.

Tesla has explicitly chosen to pursue a strategy that needs a TON of capital.  Everyone understands, I think, that building a new major automobile franchise takes a ton of investment -- that's why they are not popping up all the time.  But Tesla actually has made choices that increase the capital needed even beyond these huge numbers.  Specifically, they chose not just to manufacture cars, but to also own the sales and service network and to own the fueling network.  Kia was the last major new brand in the US that I can remember, but when it started it relied on 3rd parties to build and operate the dealer/service network and relied on Exxon and Shell to build out and operate the fueling network.  So Tesla has pursued a strategy that they need all the capital of Kia and of the Penske auto group and of Exxon.  Eek.

And for years, they were valiantly trying to pull it off.  They created showrooms in malls and created a new online selling process.  They built some service locations but as has been proven of late, not enough.  They built a supercharger network.  It was a gutsy call that seemed to be paying off.

And then something weird happened.  Somewhere in late 2017 or early 2018 they stopped raising capital and greatly slowed down both R&D and capital investment.

• They slowed expanding the service network at the very time that their installed base of cars was going up exponentially and they were getting bad press for slow service.  Elon Musk promised that Tesla would create its own body shops but nothing has been done on this promise.
• They slowed the Supercharger network expansion at the same time their installed base has dramatically increased and at the same time new competitive networks were begun by major players like Volkswagen.
• They stopped expanding the Model 3 production line at the same time it was clear the current factory could produce only about 5,000 cars per day (with some quality tradeoffs at that) and Musk continued to promise 10,000 a day
• They promised production in China by the end of this year but so far the only investment has been a groundbreaking ceremony in a still muddy field
• They promised huge European sales but only just now got European regulatory approval for sales, dragging their feet for some reason on this approval despite lots of new EV competition starting to hit the European market.
• They pumped up excitement with new product concepts like the semi and the coupe and the pickup truck but there is no evidence they have a place to build them or even have started to tool up.
• Everyone thinks of Tesla as having leadership in battery technology but that is the one area they have actually outsourced, to Panasonic.
• Through all of this, through all these huge needs for capital and despite Tesla's souring stock price and fanboy shareholders begging to throw money at the company, they have not raised any capital for a year.

Since my initial post, we have seen a few new pieces of news

1. Tesla still has not raised capital and in fact faces a $1 billion bond repayment in just over 30 days
2. Tesla admitted that it has not even started working on a refreshed design for the aging Model S and X, despite increasing EV competition coming at this high end from Audi, Porche, and others.  These refreshes should have been started years ago.
3. In fact, Tesla announced it was cutting back on production of the S and X.  Ostensibly this was to focus on the Model 3.  Most skeptics think this is BS, and the real reason is falling demand.  But it doesn't matter -- growth companies with great access to the capital markets don't make these kinds of tradeoffs.  This is further proof that Tesla is no longer managing itself like a growth company.  These cuts are particularly troubling because the S and X are where Tesla gets most of its gross margins -- the Model 3 margins are much worse.
4. Tesla laid off 7% of its work force.  Again, this is not the act of a company that is behind in implementing its growth initiatives, growth initiatives that perhaps 80% of its stock market valuation depends on.

Tesla has always had an execution problem, or more rightly an over-promising problem.  But it was still actually investing and doing stuff, even if it was disorganized and behind in doing so.  Now, however, it is a company valued as an exponential growth company that is no longer managing itself like a growth company.  It has billions of investments that are overdue -- in new products, in product refreshes, in the service network, in a second generation supercharger -- that should have been started 2-3 years ago and for which there isn't any major activity even today.

As a disclosure, Tesla stock is one of the most dangerous in the world to trade, either way.  You really need to understand it before you trade it and no one really understands it.  I have a couple of long-dated put options on Tesla that I consider more of a bar bet than anything else.  I also have a couple of cheap short-dated calls as I usually do in the runup to the quarterly Tesla earnings call.  Musk is great at the last minute stock pump during earnings call week, and the stock often pops only to fall soon afterwards as people dig into the numbers.  But again, these are "investments" that are less than 0.1% of my portfolio.

Postrcript:  When I wrote "Tesla is a growth company that is not investing in growth" I was picturing the Jim Cramer cameo in Ironman -- "That's a weapons company that doesn't make any weapons!"  Of course it took a work of fiction to see Jim Cramer advocate for the short side.  Doubly ironic given Musk sometimes styles himself as the real life Tony Stark.

I have written in the context of both the new marijuana stocks (e.g. Tilray or Canopy) and Tesla in EV's that the market is putting a whole lot of value -- in some cases 90+% of their current market value -- on these companies being first movers in potentially large and lucrative new industries.

It is hard to predict early on where in an industry's value chain the profits will be, or if the industry will be profitable at all.  Who will make money in marijuana -- the growers?  the retailers?  the folks that package the raw material into consumer products?  The early marijuana entrants are focusing on cultivation, but in tobacco do the cultivators or the cigarette makers who buy from them make the most money?  And as anyone at Myspace could tell you, being first is not always a guarantee of success, and in some ways can be a disadvantage.  Second movers can avoid all the first-movers costly mistakes.

I though of all this seeing the infographic below on changing leaders in the Internet world.  Almost all the top 20 companies in the first year are largely irrelevant today -- AOL and Yahoo are technically still in business but only because they have been bought up by Verizon in a group of other dogs they seem intent on collecting.

I have a confession -- at Harvard Business School (HBS), I loved business strategy cases.   This is a confession because most ex-HBS students have at best a love-hate relationship with cases in the same way that the Band of Brothers, or the 506th PIR, had with Curahee Mountain.  The first 8, 10, 12 cases were fine and you could handle them. But the problem is that they kept coming and coming, two or three a day, like a North Korean human wave attack.

There is a pretty well defined template for B-school cases, at least in my day (I love being old enough to say that).  A typical example begins with the CEO-on-the-Gulfstream-jet trope, e.g.

Jessica Stevens, CEO of Acme Enterprises, leaned back in her seat on Acme's brand new Gulfstream VI corporate jet, thinking about the meeting that lay ahead of her.  She was flying back to her Pittsburgh headquarters for the quarterly board of directors meeting, and the board was expecting real answers and a specific plan for how she intended to deal with Acme's mounting problems.

Over the last 3 years Acme's growth had plateaued at the same time a slew of new companies had entered its industry, putting pressure on Acme's traditionally strong margins.  In addition, Acme had just lost the bidding on two critical government contracts, its largest plant had just burned down, its CFO was under SEC investigation, a strong unionization drive was in the works supported by Antifa protests outside her house, and she had damaged her favorite Chanel purse when she launched it into the face of her lying mancy VP of manufacturing who she had just caught in bed with her husband.

OK, that last sentence is probably an exaggeration (cases were not quite THAT interesting).  But for me, strategy cases were like who-done-its or locked-room Agatha Christie mysteries.  Would the CEO extricate herself, and if so, how?  What would I do?  If someone were to write business strategy mysteries I would eat them up (the closest I can think of is Clavell's Nobel House -- how would the Nobel House extricate itself -- and even despite the absolutely unrealistic Dallas and Dynasty-like portrayals of business, I love that book).  It is telling that the only novel I have written (OK, more accurately, the only novel I have finished) has heavy doses of business strategy in the plot.

A lot of people write me and say, "Coyote, why the fixation on your blog and Twitter with Tesla?"  Unlike what Tesla fanboys guess about me, I actually like electric cars (though I am not thrilled with my having to subsidize them, but that is not a narrow Tesla problem).  I am riveted to the Tesla story because it totally feels like a great HBS case study of the future.

Long-time readers know I think that there is fraud here -- the SolarCity buyout, to my eye, was totally corrupt.  But if I found fraud fascinating, I would write constantly about Enron and Theranos (heck, I worked for Jeff Skilling at McKinsey on the Enron study so I could even be quasi-insider).  But fraud is only fleetingly interesting.  I can think of 5 companies that I am shorting today that I think are engaged in fraud, and I can't remember mentioning one of them on Twitter or this blog.   I find Theranos mildly interesting, but only because my wife is borderline diabetic and really was enthusiastic for Elizabeth Holmes's vision.

But here is the situation a couple of years ago at Tesla.  Think of this as the case study introduction:

• Tesla has introduced a real, desirable EV in an industry where EV's were basically crap cars no one wanted produced for PR and some regulatory reasons.
• For the first time ever, Tesla has demonstrated there was a large market for luxury EV's
• With the model S, Tesla had what has proved to be at least a 7 year lead over competitors (introduced in 2012 and similar products from several companies coming out in 2019)
• Tesla had the Model 3 ready to be introduced, with projections of topping 10,000 per week shortly, which could be one of the largest selling sedans in the world, EV or no.  Tesla had as many as 400,000 reservations already in hand for this car.
• Tesla had a founder (sort of, Musk is credited as founder but really isn't) with the Midas touch, sometimes called the real world Tony Stark, with a huge legion of followers who believe that he is the smartest and most ethical (given his green vision) engineer in the world and can do no wrong.
• Tesla had shareholders almost literally throwing money at the company, giving it a higher total market value than GM or Ford and with valuation metrics orders of magnitude higher than traditional car companies, based in part on visions of world-leading self-driving capabilities and comparisons to Apple.  The closest thing I have ever seen to the Simpson's take my money meme.

I can imagine the case study now -- should Tesla focus on the high-end of the market now and seek an immediate profit and a potentially sustainable long-term niche?  Or should it go all-out to do nothing less than become the major player in the entire worldwide automotive market, taking advantage of its high valuation to raise billions of capital to fund years of cash burn?  These are super interesting questions that I will not address today.  Tesla's apparent choice in this question is ... neither.  It has clearly gone all in, at least in rhetoric, on dominating the automotive market and Elon Musk has announced (at least on Twitter) future new products in nearly every automotive niche.  But at the same time Tesla has refused to leverage its high stock price to raise capital and actually has been cutting back on capital spending and slow-rolling expansion plans. I frankly cannot explain it, and won' try here.

What I want to discuss is the frequent comparison to Apple.   Elon Musk likes to compare himself to Steve Jobs and Tesla to Apple, but I don't think the comparison is very apt.  A big part of this is the differences in their in-source and out-source decisions.

As background, my thinking is shaped by several aspects of my HBS education.  The first is a business strategy curriculum crafted from the very first class to make one skeptical of flashy, sexy businesses.  Our first two cases in first year business strategy were an incredibly sexy electronics company, followed by a dull-as-dirt water meter company.  But it turned out that the water meter company minted money, with little technology change and huge moats against competition, while the electronics company was having to invest billions every few years just to stay in the game and never really earned a return on capital.

Another factor that shapes a lot of my thinking was that in-source / out-source decisions were very much in the spotlight at HBS at the time.  It was a time when the very nature of the industrial conglomerate was in question, and we were constantly made to ask whether a company really had to own function X to be profitable and successful.  Over and over and over, in company after company, we were asked to think about what were the critical success factor for a business, as well as what the most profitable elements of the vertical value-delivery chain were, and to think about structuring companies solely around these key elements, and outsource everything else.

To a large extent, this has been a key to Apple's success.  As I observed in comparing Tesla to Apple:

But as far as the iPhone is concerned, Apple is a design and software house.  It does not build the phones, it has a partner do it for them.  It does not write most of the applications, third parties do that.  And (at least in the early days) it did not [sell] through its own stores, it sold through 3rd parties.  An Apple-like Tesla would NOT be trying to build its own manufacturing, service, and fueling capacity -- it would leverage its designs as its unique value-add and seek others to do these other lower-margin, capital-intensive tasks.

Yes, we have Apple stores now, but this was NOT part of the initial strategy and success.  The initial Apple iPod and iPhone strategy basically had Apple outsourcing everything from manufacturing to sales as non-strategic, and keeping in-house the design and software functions.   As it turned out, they were right, because they certainly made much better margins than anyone else in the vertical value chain.

But for all Tesla compares itself to Apple, it has take a totally different approach.  Like most manufacturers, it designs its products (which it is pretty good at).  It also manufactures them (which it is not so good at).  But unlike other auto makers it also owns its own sales and service network (instead of third party dealers) and it is not very good at this and this activity consumes a lot of capital.  Also unlike other auto makers, it also is building out its own fueling network, something GM and Ford can rely on Exxon for. AND, Elon Musk at various times has said we would in-source building of car carrier trailers, car transportation trucking firms, and body shops.  I have argued for years that one of the things that Tesla fanboys love about Tesla -- that it is so integrated vertically -- is an Achilles heel because it greatly increases the capital it needs to grow, takes it into low-margin business segments, and forces it to do highly-technical functions like auto manufacturing it does not have the skills for.  If Tesla really were like Apple, it would have developed a 3rd party dealer network, it would have partnered with someone else to do the charging stations (as VW has) and it would have farmed out the actual manufacturing to an auto-equivalent of Apple's Foxcon (maybe Kia?)

I wish I had the guys name but the person in this blog said it far better than I have been able to say it to date.  From "Credit Bubble Stocks"

The test of whether you are an electric vehicle “disrupter” is: how many manufacturers are licensing your battery? If you’d actually invented a better electric battery or other EV technology (battery is the only technology that matters though), you could license them and have a 10x book business. Tesla not only did not do a battery licensing model, but they effectively did the opposite. Consider the parts of the vehicle industry that they have decided to in-source versus the ones they have decided to outsource. As we know, they decided to in-source and compete head-to-head on manufacturing. The results have shown that they are worse than their more experienced competition. They decided to in-source the automotive retail, which had not been done before and was not legal in most states. (And still is not legal in eight states). This had been a huge distraction from the manufacturing side and has resulted in abysmal customer service. But of all things to outsource, they outsourced the battery production to a joint venture with Panasonic. What should be the entire premise of an electric vehicle company is not even enough of a competitive advantage to do in house.

I am not totally sure I agree -- I think Tesla would argue the key is in design and software, just like Apple.  But even if that is true, why are they doing all this other stuff that they don't do very well and is a total distraction and sucks up needed capital?

From a fascinating article on Amazon and its automation vision:

After a customer places an order, a robot carrying the desired item scoots over to a worker, who reads on a screen what item to pick and what cubby it’s located in, scans a bar code and places the item in a bright-yellow bin that travels by conveyor belt to a packing station. AI suggests an appropriate box size; a worker places the item in the box, which a robot tapes shut and, after applying a shipping label, sends on its way. Humans are needed mostly for grasping and placing, tasks that robots haven’t mastered yet.

Amazon’s robots signal a sea change in how the things we buy will be aggregated, stored and delivered. The company requires one minute of human labor to get a package onto a truck, but that number is headed to zero. Autonomous warehouses will merge with autonomous manufacturing and delivery to form a fully automated supply chain.

I got some cr*p on twitter a while back about writing this, but I think it is pretty much vindicated by the "one minute" factoid above:

Amazon likely is being pressured by the tightening labor market to raise wages anyway.  But its call for a general $15 minimum wage is strategically brilliant.  The largest employers of labor below $15 are Amazon's retail competitors.  If Amazon is successful in getting a $15 minimum wage passed, all retailers will see their costs rise but Amazon's competition will be hit much harder.

Just to save everyone from sending this to me, Elon Musk has been sued by the SEC.  The details are here, I will not go over all this old ground.  Of course this is just an accusation, and has no immediate effect (except to trash the stock price) until it is settled or proven in court.

I have such mixed feelings for Musk. On one level, it is awesome to see an entrepreneur trying to do build real stuff like rockets and cars. He has all the geeky charm of a 1970's edition of Popular Mechanics, breathlessly hyping captivating but sometimes impractical ideas.  I rode with an acquaintance in his $100,000 Tesla the other day and he loved it. Totally drank the Kool Aid.  Despite my extreme skepticism, he was sure that Elon was going to have same-day body shop repairs for Teslas and could make it work because they only had 3 models of cars with lots of shared parts.  It's the same sort of enthusiasm you see from people who still stand in line first day for the new iPhones. I envy being able to create that as a company.

On the other hand, Musk is just so unsuited to running a public company, is awful at operations, and will end up having cheated a lot of people.  He fails to meet commitments and makes public statements that are transparently absurd.  Just as one example, the other day in response to many delivery problems Tesla has (delivery problems that may actually be due more to efforts to shift 4Q sales into 3Q), Musk said there was a shortage of car delivery trucks and Tesla was starting to build them.  Seriously??? There is zero evidence of a delivery truck shortage and it is absurd to think Tesla had the time or the resources or the skills or knowledge to bang out large truck trailers (that require a variety of DOT inspections and approvals).  Honestly, I can't tell if Musk is the pointy-haired boss from Dilbert who promises absurd things because he is utterly clueless, or if Musk is totally corrupt -- it could be both.  I think his body shop insourcing idea was likely clueless but his SolarCity acquisition was corrupt.

New entries from Jaguar, Audi, and others demonstrate both that Tesla faces a lot of new competition but also that Tesla's original Model S and X still have a lead over competitors.  When the book on the electric car industry is written, I think it will be said that Tesla greatly accelerated the transition to electric cars.  But it is a fact of business history that the pioneer and innovator seldom is the ultimate victor (Lycos, Netscape, Altair, Yahoo, etc).  Tesla has not lost yet, but it still has a huge hill to climb.  Unfortunately, Musk's decisions to do so many things in-house -- own the dealer network, own the fueling network, own the manufacturing, own the body shops, etc. -- is going to require too much capital.

It is pretty clear that Musk is often using Apple as one of his models for what he wants to do with Tesla, and he has successfully created the same kind of almost cultish loyalty as has Apple.  But he ignored a lot of what Apple did.  Apple is a research, software, and design house.  It farms out manufacturing to a partner and sold most of its ipods and iphones initially through third party retailers.  If Tesla had done the same: taking advantage of rich third parties who already know how to sell cars as dealers; working with a consortium to create the fueling network; and going to someone like Kia to do private label manufacturing of the cars -- they might have lost something of the customer magic in the process but they also might be in a much better position to survive.

Update:  Apparently Musk was offered a very, very attractive settlement by the SEC which involved Musk stepping down as Chairman but NOT as CEO, adding a couple new directors, and paying a fine.  It is hard to read this as much more than a slap on the wrist, especially in the context of the SEC now seeking a full bar of Musk from any position at any publicly traded company (hell hath no fury like a government agency scorned).  Frankly, I find this nearly as impossible to understand as the fact that Tesla never raised any equity funding this year when its stock and story were so strong.  Tesla skeptics are arguing that both of these hard-to-explain events stem from the same cause -- that Tesla has some deep dark secret that Musk can't afford for either a new executive or a public offering document to disclose, the same secret (the story goes) that has driven away a number of senior accounting and finance officers in the last several months.  I agree that the existence of such a secret would explain the facts, but I can't imagine what could be much worse than the bad balance sheet and operational data that already is publicly known.

I promised I would not post any more Tesla for a while, and to some extent I am keeping that promise -- no updates here on the SEC investigation or the 420 tweet.  But since I have been critical of Tesla in the past, I thought I would acknowledge that there are good things in Tesla that could and should be saved.  The problem is that Tesla is saddled with a bunch of problems that are NOT going to be solved by going private.  In fact, going private could only make things worse -- given that Tesla already has too much debt and its debt is rated barely above junk bonds, piling on more debt just to save Elon Musk from short sellers is not a good plan.  Here is what I would suggest:

1. Find the right role for Elon Musk.  Musk HAS to be part of the company, without him its stock would go to about zero tomorrow.  But right now he is CEO, effective head of media relations, factory manager, and chief engineer.  Get him out of day to day management (and off Twitter) and hire real operating people who know what they are doing
2. Get rid of the dealerships.  Tesla tried to do something different, which is own all the dealerships rather than franchise them out.  This is fine if one has some sort of vision for doing sales and service differently, but Tesla really doesn't.  It does the same things as other car dealerships but just slower since it has not been able to build out capacity fast enough.  And this decision has cost them a tons of growth capital they desperately need, because they have had to build out dealerships most car companies get for "free" because the capital for the dealerships is provided by third-party entrepreneurs.  Also, the third-party entrepreneurs bring other things to the table, for example many of them tend to have experience in the car sales business and a high profile in their local markets with government and media.
3. If possible, find a partner for the charging network.  All traditional car companies get their fueling networks for free because the network is already built out by the oil companies.  Tesla is building its own, and again this is sucking up a lot of capital.  It is also dangerous, because Tesla has chosen to pursue a charging standard that may not become the industry standard (this is already happening in Europe) and Tesla risks being stuck with the betamax network.  Tesla should see if it can shift this to a third party, perhaps even in joint venture with other EV companies.
4. Do an equity raise.  To my mind, it is absolute madness Tesla did not do this earlier in the year.   Their stock was trading at $350 and at a $50+ billion valuation at the same time they were burning cash cash at a rate of $3 billion or so a year.  Musk says he can skate through without more capital but he has said this before and it was not true.  Given the enthusiasm for his stock, there is just no reason to run cash poor when there are millions of Tesla fanboys just waiting to throw money at the company.  Even a $5 billion raise would have been only 10% dilution.  Musk says he wants to burn the shorts but ask any Tesla short out there what they would most fear, and I think they would all say an equity capital raise.  $3-5 billion would get Tesla at least through 2019 no matter how bad the cash burn remained and give the company space to solve its operational problems.
5. Get someone who knows how to build cars building the cars.  I have written about this before -- it is always hard when you are trying to be a disruptor of an industry to decide what to disrupt and what industry knowledge to incorporate.  In retrospect, Musk's plan to ignore how cars are built and do it a different way is not working.  Not only are the cost issues and throughput issues, but there are growing reports of real quality issues in model 3's.  This has to be fixed ASAP.
6. Bring some sanity to the long-term product roadmap.  This may be a bit cynical, but Tesla seems to introduce a new product every time Musk needs to divert the public's attention, his equivalent of yelling "Squirrel!"  There is the semi, a pickup truck, a roadster and probably something else I have forgotten about.  Even the model 3 lineup is confusing, with no one really knowing what Tesla is going to focus on, and whether the promised $35,000 model 3 will ever actually be built.  This confusion doesn't work well with investors at all, but Tesla has been able to make it work with customers, increasing the buzz around the company because no one ever seems to know what it will do next.  But once real competitors start coming out from GM, Volvo, Jaguar, BMW and others, this is not going to work.  Customers that are currently captive to Tesla will have other options.    Let's start with the semi.  The demo was a beautiful product, but frankly there is no way Tesla is going to have the time or the money to actually produce this thing.   Someone like Volvo is going to beat them to the punch.   They need to find a JV partner who can actually build it.

Update:  If I had a #7, it would be: Invent a time machine and go back and undo the corrupt SolarCity buyout, in which Tesla bailed out Musk's friends and family and promptly proceeded to essentially shut down the company.  Tesla shareholders got nothing from the purchase except a lot of debt.

I had dinner last night with my old college roommate Brink Lindsey and he even sort of rolled his eyes about my recent Tesla obsession, so I really really will try to make this the last post for a while.  However, I have to count coup on a few accurate predictions I made last week here and here.

First, I said, in reference to how Musk can bail himself out of his "funding secured" tweet when it has become clear this is not the case:

So what can Musk do?  Well, the first defense might be to release a statement like "when I said funding secured, I was referring to recent conversations with ______ [fill in blank, maybe with Saudis or the Chinese, call them X] and they told me that if we ever were looking for funds they would have my back."  This is probably the best he could do, and Tesla would try to chalk it up to naivete of Mr. Musk to accept barroom conversation as a firm commitment.  Naivite, but not fraud.   I don't have any experience with the Feds on this kind of thing but my guess is that the SEC would expect that the CEO of a $50 billion public company should know the rules and legally wasn't allowed to be naive, but who knows, the defense worked for Hillary Clinton with her email servers.

Today Musk writes:

Recently, after the Saudi fund bought almost 5% of Tesla stock through the public markets, they reached out to ask for another meeting. That meeting took place on July 31st. During the meeting, the Managing Director of the fund expressed regret that I had not moved forward previously on a going private transaction with them, and he strongly expressed his support for funding a going private transaction for Tesla at this time. I understood from him that no other decision makers were needed and that they were eager to proceed....

I left the July 31st meeting with no question that a deal with the Saudi sovereign fund could be closed, and that it was just a matter of getting the process moving. This is why I referred to “funding secured” in the August 7th announcement.

Of course the Feds probably expect "funding secured" to mean a signed term sheet (which does not exist) accompanied by an 8-K (which STILL has not been issued).  I then said in my prediction:

But this defense is MUCH MUCH better if, in the next day or so, Tesla can announce a deal with X on paper with signatures.  Then Musk can use the same defense as above but it has much more weight because he can say, see, they promised funding and I believed them when they said they had my back and here they have delivered.

And today we learn:

But was the funding really secured? Apparently not, because in the very next paragraph Musk writes that "following the August 7th announcement, I have continued to communicate with the Managing Director of the Saudi fund. He has expressed support for proceeding subject to financial and other due diligence and their internal review process for obtaining approvals. He has also asked for additional details on how the company would be taken private, including any required percentages and any regulatory requirements."

Hmmm.  So basically Musk had a chat with the Saudis that did not include any due diligence, any percentages, or anything about the structure of the transaction and nothing has been submitted formally to the Saudis for the required review and approval.  The Feds would never accept this BS from an unpopular CEO like, say, Jeff Skilling.  It remains to be seen whether they will really go after cultural icon Musk.

Finally, I predicted the odd and relatively unprecedented transaction that Musk likely envisioned:

Here is what I think Musk wants -- he wants an LBO without any actual change in ownership. Basically he wants to create Tesla New, which will be private and not trade on the markets. He is hoping that all his current fanboy shareholders will exchange a share of Tesla for a share of Tesla New. Musk has already said he will do this with his 20%. In the extreme case, if every current shareholder wants in on the new private company, then no capital at all is needed for the LBO. Musk might admit that perhaps a billion or two are needed to buy out the few recalcitrants at $420, and then all the Tesla fanboys can enjoy short-seller-free illiquidity

There was no way that Musk could expect to raise $70-$80 billion ($420 times the float) or to run an already cash-starved business with that much debt.  The only way to imagine this is if the buyout was only of a small percentage of owners.  And sure enough, here is Musk this morning:

Therefore, reports that more than $70B would be needed to take Tesla private dramatically overstate the actual capital raise needed. The $420 buyout price would only be used for Tesla shareholders who do not remain with our company if it is private. My best estimate right now is that approximately two-thirds of shares owned by all current investors would roll over into a private Tesla.

I won't comment on whether this is possible because I don't know enough about security laws.  I have been told that the SEC would likely frown on a private company with no public disclosures that has thousands or even millions of individual shareholders, but again, I don't know.

I find it amazing that anyone would want to stay in on this basis, but like Musk, the Tesla fan-boys seem to care more about burning the shorts than the quality of their own long investment in Tesla.  How can moving your small (percentage-wise) investment in Tesla from being exchange-traded to being locked up in a private company possibly be an improvement?  Today your investment has total liquidity (you can sell any time), it has massive 3rd party scrutiny and accountability, and it has real-time price discovery.  You would lose all of that in a private company.  You can only sell when Musk lets you sell and at the price he chooses to give you based on whatever company information he chooses to release.  Choosing the private option as a minority shareholder is like saying that you would rather hold non-refundable airline tickets than fully refundable ones.

Postscript:  I am new to the world of short-selling fights, as I am not really an active investor and just got sucked into watching Tesla because I found it interesting.  But wow, the tribalism of politics sure has leaked into the investment world!  In tribal politics, we see people more motivated by hatred of the other tribe than by making progress on their own tribe's goals.  This same kind of "reasoning" seems to dominate a lot of the Tesla long-short battle.

Update:  Here is a new prediction.  For a while Elon Musk has claimed he will not have to raise capital this year.  Everyone basically looks at his numbers and thinks he is nuts.  What's more, given his $50 billion equity valuation currently, he SHOULD be raising capital now while his stock is high and thus his cost of capital is low.

But one way to look at this is if he raises $20 billion in equity to buy out the 1/3 he thinks will want the cash rather than the new stock, he could easily just make that $22 billion so the company has an extra $2 billion in operating cash and thus raise capital this year without it looking like he violated his promise not to raise capital.

Matt Levine of Bloomberg has many of the same guesses I made the other day (here on the transaction Musk likely wants, and here on how might paper over his lie about "funding secured").  Levine writes:

The intermediate possibility is that there is some sort of deep misunderstanding, that when Musk tweeted about “taking Tesla private at $420” and having “funding secured,” he didn’t mean what you and I and the SEC normally interpret those words to mean, which is that he would make a binding offer to buy any Tesla shares not owned by Musk and his financing partners for $420 a share in cash.He meant something more like: He would like to not be subject to the obligations of being a public company anymore, and it would be nice if there was a way to do that. After all Musk immediately followed up by tweeting about letting shareholders continue to own their shares in a “private” Tesla, which is not how going-private transactions normally work. There has been a lot of speculation about how that could be done, and I remain a bit skeptical, but the important point here is that if Musk believes that (1) there is actually a way to “go private” while keeping all of his existing shareholders and (2) most of his existing shareholders love him and would prefer to stay private with him, then he could rationally believe that he doesn’t need much financing. If no one will take the cash, then you don’t need any cash. Both of those things are kind of weird things to believe, but neither of them seems impossible for Musk to believe.

If I were Musk’s lawyer, and if he doesn’t actually have $80 billion of financing locked up, I’d be working on a termsheet for the board that (1) offers Tesla shareholders the choice between (A) $420 in cash or (B) shares in a new special-purpose-vehicle that will hold shares in a private Tesla (or whatever your plan is to let people hold on to their shares); (2) limits the cash consideration to, like, $5 billion, or whatever Musk can actually raise; and (3) has some sort of proration mechanism in case more people choose the cash than he can afford. Does this fit with the spirit of the going-private transaction that Musk tweeted about? No, absolutely not, not even a little bit. But it is … something. And then let the special committee reject it, and then quietly walk away and say “well no we were serious about the buyout proposal but it just didn’t work out.” Which is a much better position to be in than walking away saying “oh yeah sorry we were kidding about that.”

So the last couple of days I was bored and I logged into Twitter for the first time in a while and spent a few hours trying to convince myself that if I really wanted to, I could build a presence on Twitter.   Increased my follower count from about 1000 to about 1300 and got some notice and retweets.  And pretty much zero satisfaction, so I think we are going to declare that experiment over for a while.  But, this time, unlike the last effort, I managed to pretty much remain a nice guy and not become a hateful troll, so that is a step forward.

Anyway, weirdly, I managed in the process to create my single most -- by far -- liked and retweeted post, and it is really random.  It was just a toss-off reply to @popehat when he asked rhetorically if dentists all hire awful lawyers.  So I wrote this (which is an entirely true experience)

When I was at Harvard B-School, in an investment analysis class, if the investment sucked the professor would say, "who do we sell this to?" and the class would scream "doctors!" If the investment really, really sucked, we all screamed "dentists!" https://t.co/20TwcgXgga

— Coyoteblog (@Coyoteblog) August 8, 2018

@Elonmusk is facing real blowback for his management buyout by tweet the other day, in particular for two words:  "funding secured."  Many, including myself, doubt he really had tens of billions of dollars of funding secured at the time, particularly since all bankers and likely sources of funding as well as most large Tesla shareholders had never heard of any such transaction when contacted by the media.  The SEC is now looking into this and other Musk corporate communication practices.  If he lied in the tweet, perhaps to get revenge on the short-sellers he hates with an irrational passion, he could be in deep, deep legal poop, up to and including jail.

Let's play a game.  Let's assume he did NOT have funding secured at the time he tweeted this, and now is running scared.  What can he do?  One ace he has is that the board is in his pocket and (I hate to be so cynical about this) will likely lie their asses off to cover Musk.  We already saw the dubious letter the other day, from "members of the board" rather than officially from the board, attempting to provide cover for Musk's tweets.  This is not just a crony thing -- it is entirely rational for the company to defend Musk.  He is, in my opinion, a terrible executive but he is the avatar that drives the fan boys and the stock price.  The day that Musk leaves is the day that the company can really get its operational house in order but it is also the day the stock trades under $75.

So what can Musk do?  Well, the first defense might be to release a statement like "when I said funding secured, I was referring to recent conversations with ______ [fill in blank, maybe with Saudis or the Chinese, call them X] and they told me that if we ever were looking for funds they would have my back."  This is probably the best he could do, and Tesla would try to chalk it up to naivete of Mr. Musk to accept barroom conversation as a firm commitment.  Naivite, but not fraud.   I don't have any experience with the Feds on this kind of thing but my guess is that the SEC would expect that the CEO of a $50 billion public company should know the rules and legally wasn't allowed to be naive, but who knows, the defense worked for Hillary Clinton with her email servers.

But this defense is MUCH MUCH better if, in the next day or so, Tesla can announce a deal with X on paper with signatures.  Then Musk can use the same defense as above but it has much more weight because he can say, see, they promised funding and I believed them when they said they had my back and here they have delivered.

The problem with this is it would be really a deal being crafted for tens of billions of dollars on a very short timeframe and with limited negotiating leverage (X will know that Musk NEEDS this deal).  As a result, the deal is not likely to be a very good one.  X will demand all sorts of extraordinary provisions, perhaps, for example, a first lien on all Tesla IP and a high breakup fee.  I picture this more like the negotiation for bankruptcy financing, and in fact the IP lien was part of the financing deal Theranos made when it was going down the drain.  But put yourself in Musk's shoes -- jail or bad deal?

And likely his conscience would be clear because this deal would be killed quickly by shareholders.  That would be fine, because the purpose of the exercise would be to keep Musk out of jail, not to actually buy the company.  Tesla shareholders will still get hosed, probably having to pay some kind of break-up fee which any sane investor X would insert as the price for participating in this farce.  And we will go back to the starting point of all this, which is Tesla being public and focusing on operational improvement in what may be the most important operational quarter in its history.

Disclosure:  I have in the past been short Tesla but have no position in it now (I did short when trading reopened the other day after Musk's announcement but covered this afternoon).  I am not in any way, shape, or form giving any financial advice you should spend actual money backing.

I am going to a trade show in a month or two.  I bought one of the standard backdrop things and needed some art for it.  I was quickly told that all my attempts looked like bad powerpoint slides transferred to the backdrop.  So I tried a site called 99designs.  They have a whole pool of freelance designers that compete for simple jobs - logos, wordpress templates, backdrop art, etc.  I committed $250 to a design contest for my backdrop (the site takes some cut of that and the rest is a prize for the winner).  That was 2 days ago.  At this moment I have 35 different designs sitting there for me to comment on and choose from.  Almost any one would be acceptable, and many are fabulous.

This strikes me as a classic victory for the division of labor. I am getting what seems like a crazy amount of good work for $250, work I could not duplicate myself for 100x that.  I suspect that some of this stuff is super-derivative and is banged out using simple tools in just a few minutes, but so what?  They can do something fast that I can't do at all and we all benefit.

Readers know I am in the campground business.   Years ago there was a trend towards building super-luxury campgrounds for as much as $30,000 a camp site.  I never understood how anyone could get a return from this.  Finally I had a guy from a large campground and RV park REIT tell me, "You know how you make money on a $30,000 a site campground?  You wait for it to go bankrupt and buy it for $5,000 a site."

This is what I think the end game for Tesla may be.  I just don't think there is enough available capital in the world, and enough operational focus in Elon Musk, to see their way through to bootstrapping an entirely new worldwide automotive firm, including new dealerships, manufacturing plants, charging networks, etc.  Remember, Tesla does not just need capital for R&D and manufacturing, they also need it for the whole sales / service / fueling network.  Kia, for example, can grow with less capital because it can get independent business people to invest in the service and dealer networks and rely on existing gas stations for the fueling network.  Tesla must build all of this from scratch because of choices they made early in their development.

Even without an LBO, I think they were going to fail at this (despite having some good products) and others disagree with me.  But given the amount of debt that an LBO at $420 might take, and the subsequent rejection of the largest public capital markets, I don't think there is any way Tesla could head off a failure.  People who want to lionize Elon Musk forget that SolarCity was headed for exactly this same kind of cash crunch, only to be bailed out by a crony insider transaction with Tesla (much to the detriment of Tesla shareholders).

Right now, GM, Ford, Daimler .. pretty much any of the auto majors, would do well by buying Tesla.  It would help them with an instant presence in the BEV market and it would help Tesla by solving some of the sales and service investment and manufacturing operations problems they have.  But Tesla is just too damn expensive.  Right now the company is worth more than either GM or Ford.

I see the future after at $420 LBO as a failure in 24 months followed by a purchase by an auto major thereafter.

Today, following his usual practice of ignoring all the securities laws that other CEO's have legions of lawyers to educate them on, Musk teased a possible Tesla LBO in a series of tweets.  In case you are wondering, it is not generally considered best practice in legal compliance to issue such information in cryptic tweets, and it is definitely not usual to do so while the stock is actively trading.  You can read the whole story here, though it continues to evolve as the market has finally halted trading in Tesla.

Here is the part I found funny watching this in real time:

Mr. Musk’s account tweeted at 12:48 p.m. ET: “Am considering taking Tesla private at $420. Funding secured.” It isn’t clear what prompted the tweet. Mr. Musk has a history of joking on Twitter and sending erratic tweets.

About 30 minutes later, the account tweeted “420” in response to a reporter’s tweet asking what price buyers might pay.

When this came out, I honestly thought "420" was an admission by Musk of a drug-induced mental state when the previous tweet went out, but in fact it appears to be his target price for the LBO.  Some quick thoughts

• This would fit Musk's personality, as he seems unable to ignore those shorting Tesla stock and would get the twin satisfactions in such a deal of a) burning a lot of current shorts and b) making shorts irrelevant in the future as going private ends the active market for the company.
• The implied valuation would be insane, something like $75 billion in equity (compared to GM and Ford which are both around $50 billion) plus $9 billion or so of assumed debt.  Tesla is already at the breaking point on debt so it is unclear where the funding would come from -- LBO's generally increase leverage and Tesla needs to decrease it, and needs a lot more capital for operations and growth going forward.  But Musk claims he has the deal funded already.
• Part of the clue to the capital availability may be the Saudis.  It was revealed today that the Saudi's own just under 5% of Tesla' stock.
• Here is what I think Musk wants -- he wants an LBO without any actual change in ownership.  Basically he wants to create Tesla New, which will be private and not trade on the markets.  He is hoping that all his current fanboy shareholders will exchange a share of Tesla for a share of Tesla New.  Musk has already said he will do this with his 20%.  In the extreme case, if every current shareholder wants in on the new private company, then no capital at all is needed for the LBO.  Musk might admit that perhaps a billion or two are needed to buy out the few recalcitrants at $420, and then all the Tesla fanboys can enjoy short-seller-free illiquidity.

This is great for those who want out, but for those who are in for the long haul, it seems like a lot of capital just to remove short sellers from the picture.  This is a company that does not have anywhere near enough capital to do the things it has already promised to do (China plant, model 3 ramp, $35,000 model 3 car, semi, pickup truck, two-seater, battery storage projects, revive SolarCity, etc.).  For those who think that the capital will always be there for Musk, just remember SolarCity, which was close to bankruptcy and in steep decline when Musk engineered the insider deal with Tesla.

Update:  This statement from a Morningstar analyst makes no sense to me:

Taking it private would allow the billionaire “to not constantly worry about going to the public markets for more money,” Mr. Whiston said. “He can do what he needs to do behind closed doors and keep growing the company without all that extra scrutiny.”

I get the second part -- Musk would love to avoid the extra scrutiny -- Theranos probably survived years longer as a private company than it ever would have as a public company.  But I don't understand how it stops the need to go to the public markets for more money.  Cash needs are driven by Tesla growth plans and they still need a LOT more.  Going private does not make this easier, it makes it harder by cutting off one huge source of capital (public markets) and potentially loading up the company with extra debt from the privatization transaction.

I was reading the Tesla shareholder letter and I found this funny.  Tesla began by celebrating that it produced 5,000 Model 3 cars  in the last week of Q2.  And also

Highlights from the company’s letter to shareholders included the promise to produce 6,000 Model 3 sedans a week by late August, and to produce 50,000 to 55,000 of the sedans in the third quarter.

So we began the quarter at 5,000 per week and will hit 6,000 a week about two thirds of the way in so that we will on average produce around 4,000 a week for the quarter.  Right.

The last few days I have written of my frustration at trying to get local business bank accounts, the sole purpose of which is to accept deposits of cash from my local campgrounds and then transfer that money to my main account.  This is a major hassle as opening a bank account as a corporation is not a simple task and, as I have found out, some banks won't even accept this sort of business.

Here is what I need:  I need a national network of offices, many in rural locations, that will take my cash and ACH (a cheap form of wire transfer) the money to my bank account.  So naturally, I think of Walmart.  Walmart already is used to handling a lot of cash and Walmart is already starting to offer a number of consumer banking services.  One reader told me about the Bluebird service, a joint effort between Amex and Walmart to create a sort of virtual consumer bank.  I love the idea, but it has rules limiting it to consumer accounts.

So here is my business for you Walmart

• I bring my cash to you at any store.  You zip it through a counter.  We agree on the amount.
• You wire my main account with the money.  I will give you three days so you can use the cheapest transfer and have time to get the cash into your own account.
• I will pay you 100 bp (1%) of the cash value for the service

Currently I pay merchant processors 270-300bp for those transactions and I have to wait 3-5 days for the money to hit my accounts.  So 100bp on cash would be fair for me, and I would guess fair for Walmart.

I asked this question to an accountant friend you runs a web site on accounting technical issues:

Tesla gets Zero Emission Vehicle (ZEV) credits from about 10 states for selling EV's.  These have a LOT of value and can be sold to other car makers who need them to compete in these states.  In the past Tesla has sold batches of them for upwards of a billion dollars, so they are material.  Tesla tends to horde them for several quarters and then sell them in a big batch to juice a particular quarter.  However, they do not appear on the balance sheet.  Anywhere.  It is a public company but no one in the outside world knows how many of the ZEV credits Tesla has until they show up on the income statement as having been sold and having generated a huge profit.

How is it possible that Tesla is gaining these valuable assets with each sale of a car in certain states but they are not getting put on the balance sheet in any way?

UPDATE:  I had the wrong link.  The call is Wednesday but at 2:30 Pacific after the market closes, which makes more sense.  Like many companies, Tesla likes to dump the quarterly financials, dozens of pages in 8 point font, just seconds before the conference call.

If you are sitting in your office this week and need to be entertained in a way that looks like you are working, consider the Tesla investor conference call Wednesday at 2:30 PDT.  I can't guarantee anything but past conference calls have been a circus.  Normally I would expect the Tesla Board or the corporate counsel (who is Musk's divorce lawyer, lol) to bring adult supervision to the party, but so far that has not happened in any Tesla communications to date.  Expect potential discussion around:

• Tesla's immediate external capital needs, given that they are burning cash faster than you could actually physically burn it (Musk claims zero is needed but everyone else in the free world thinks its >$2 billion, with a huge part of Tesla's existing debt also expiring and needing to be rolled over soon)
• Model 3 order blacklog (this was the question in the last call that caused Musk to tell the experienced Wall Street analyst to shut up and then he switched to taking questions from a Youtube fanboy
• Model 3 production rates and quality issues
• Gross margins.  They HAVE to get higher for survival.  Particularly since Telsa has chosen to eschew traditional dealer networks so corporate bears all the cost of service and support.  This demands Tesla not only get its gross margins as high as other auto makers, they need to be higher.
• Expiration of tax subsidies -- the $6500 government tax credit for Tesla customers slowly disappears once their 200,000th EV has been sold in the US, which has happened.
• The disappearance of the $35,000 Model 3 from the web site (this is the promised car that generated a lot of the Telsa hype in the first place)
• Disappearance of all those other teased products (coupe, semi) that were released to great fanfare and have not ever been mentioned again
• ZEV credits (these are credits it gets from states like CA that other car makers have to buy to do business in those states with gasoline vehicles).  These are odd ducks as they have a lot of value but for some reasons do not show up anywhere on the balance sheet, so one doesn't know they even exist until Tesla chooses to sell them for a LOT of money.   They can flip a single quarter positive by saving these and exercising them at the same time.  Most folks see this happening in a bid to make Q3 profitable.  (By the way, anyone out there that understands by what accounting rules these valuable assets don't get put on the balance sheet are encouraged to email me the answer).
• Introduction of competitive products (Jaguar, Volvo, and pretty much everyone else soon)
• Pending lawsuits from both shareholders and whistle-blowing employees
• Implosion of SolarCity (now part of Telsa) such that new installations are on a trend line towards zero
• (unlikely but someone should really ask) Musk's silencing of critics
• (unlikely but someone should really ask) Musk's social media demeanor, including calling the Thai rescue hero a pedophile because he did not use Musk's goofy submarine

Tesla is a train wreck I cannot take my eyes off.  Unlike Theranos, which combined a product that didn't work with a screwed up management, and which operated in the dark, Tesla combines what has been a really good product with a screwed-up management, and operates in an absolute blaze of publicity.  I have never seen any stock where sentiment was so polarized between bears and fan-boy bulls (Herbalife, maybe?)

I have a personal metric of sentiment and volatility I invented but I am pretty sure has been used since before I was born.  Anyway, I look at the sum of the price of an at-the-market put and at-the-market call for the stock about 6 months out.  I then divide this combined price by the share price.  For Tesla January options, this comes to 31%.    This is really a huge number.  Take ExxonMobil, which has a lot of split sentiment right now (a historically fabulous company that keeps screwing up its quarters recently) this metric sits at 9%.

Disclosure:  I am in and out of short positions on TSLA, typically selling around 350+ (usually after Musk has honeytrapped the fan boys) and covering in the 290-300 range (usually after real news or a Musk meltdown).  This strategy has been profitable for 2 years but I think that is coming to an end.  TSLA is either going to fall more or stay high based on what it does in the 3rd quarter.

Frequent readers will know that I have expressed both admiration and skepticism for Elon Musk's various business ventures.   SpaceX is cool.  I am extremely skeptical of the hyperloop, which looks like the technological equivalent of the emperor's new clothes.  I thought Tesla's acquisition of nearly-bankrupt SolarCity was corrupt insider self-dealing.  I think the initial Tesla cars were terrific products but that Musk's management is likely to kill the company.

Lately, I have tried to avoid discussing Tesla and Musk much because I don't want to turn this into a dedicated blog on those two subjects.  Also, with all the press (positive and negative) that it gets, another article on Tesla is about as necessary as another article on Stormy Daniels.  I even resisted the urge to comment on Musk's childish need to insert himself into the Thai cave rescue story and his subsequent rant on Twitter petulantly calling one member of the rescue team a pedophile because he did not use Musk's submarine.  Lol, a submarine for a rescue where one passage was so narrow a diver wearing tanks could not even squeeze through.

My will to avoid Musk and Tesla on this blog collapsed the other day when Musk personally called the employer of one of Tesla's harshest (and I would add most intelligent) critics pseudonymed Montana Skeptic, and threatened to sue the critic and get him fired unless he shut down his criticism.  He succeeded, as Montana Skeptic was forced to shut down and issue this statement:

Yesterday, July 23, I decided to cease writing about Tesla (TSLA) here at Seeking Alpha web site. I also deactivated my Twitter account, where I was @MontanaSkeptic1. Here is what prompted those decisions.

Yesterday afternoon, the principal of the family office in which I am employed received a communication from someone purporting to be Elon Musk. Doubtful that Elon Musk could actually be attempting to contact him, my employer asked one of my colleagues to investigate and respond.

My colleague then spoke by phone with Elon Musk (it was indeed him). Mr. Musk complained to my colleague about my writing at Seeking Alpha and on Twitter. Mr. Musk said if I continued to write, he would engage counsel and sue me.

My colleague then spoke with me about the phone call. We both agreed that Mr. Musk’s phone call and threatened lawsuit were actions that would tend to involve our employer in matters in which he has had no part. To avoid such a consequence, I offered to immediately cease writing at Seeking Alpha and to deactivate my Twitter account.

How did Mr. Musk learn my identity, and that of my employer? It appears to me his information came thanks to the doxing efforts of some of his followers on Twitter.

Neither Mr. Musk nor Tesla has ever attempted, at any time, to contact me. Instead, Mr. Musk determined to go directly to my employer.

I do not know what Mr. Musk’s precise complaints are about me. I do not believe he has any valid legal claim, and I would have no trepidation in defending myself vigorously were he to bring such a claim. My response to his threats were simply to protect my employer and preserve my employment.

And so, you might say, Elon Musk has won this round. He has silenced a critic. But he has many, many critics, and he cannot silence them all, and the truth will out.

Folks who have read the book "Bad Blood" about Theranos will recognize this behavior immediately.  Musk took advantage of the work of some of his fanboys who bravely doxxed Montana Skeptic and allowed Musk to determine his true identity.   Musk is certainly a child (emphasis on "child") of his age, preferring to force critics to shut up rather than respond to them in a reasoned manner.  And by the way, where the hell is his board of directors?  Just like at Uber, it is time for the grown-ups to come in and take over the visionary but flawed company started by their founder.

If you have a chance, you really should look at at least some of Montana Skeptic's work.  He was fact-based and analytical -- this is not some wild crazy social media guy going off on biased rants.  I would take Musk's action as a ringing endorsement of Montana Skeptic's analysis, most of which you can find here but require a Seeking Alpha membership.  However, if you have time to listen, the Quoth the Raven podcast has two good episodes with Montana Skeptic on Telsa (#23 and #28).

By the way, Elon.  If you wish, you may contact my employer here.

I write on this blog a lot on those days in my job that get me down.  That only makes sense because I write about government regulatory policy vis a vis business and it is government interventions that often cause me the most heartache.

But there are good days too.  I have been putting together a new division and really need someone with b2b sales and marketing experience to run it and get it going.  I was just trying to figure out how I wanted to do a search when a resume came to me unsolicited from a current employee who has done a great job for us.  Basically they were applying for our manager training program (all our campground managers start in front-line service jobs).   Well, it turns out this guy who is currently cleaning bathrooms and doing landscaping for us in a campground is recently retired from over 10 years running a sales force for a $80 million industrial company and more recently running the whole division for that company for 2 years.  Talk about just finding a $100 bill lying on the sidewalk!

This is yet another in a series of posts on the value of branding (previous iterations include here and here).  Socialists and anti-capitalists often deride branding as, at best, a complete waste of resources and at worst a huge value destruction in that the marketing associated with branding tricks consumers into buying products they don't want or need.  This argument that consumers effectively lack agency in the face of corporate marketing is characteristic of a broader class of capitalist critiques that assume the powerlessness of individuals to make good choices.

I don't buy into these critiques because I think individuals are hugely powerful in a capitalist system, far more powerful in fact than they are in any more authoritarian system  (just ask Toys R Us and Pontiac).  Brands are obviously useful to producers as they help create barriers to entry and a potential basis for obtaining a price premium.  But they also have benefits to consumers.  I ran into one this morning.

My 21-year-old daughter is in another city and called to say that she thought she had a bad tire on her car and was not sure what to do.  Every dad worries about his daughter when she is on her own (I know, patriarchy, but I am not apologizing) and this is particularly true in car repair because women have historically been taken advantage of in many car repair situations.  But I sent her without hesitation to the local Discount Tire store.  That's because I knew from past experience with several of the stores in this chain that the stores were clean and safe and the people who worked there were fair -- they have never tried to charge us for something we don't need.  My wife goes there all the time because she is kind of panicky about her tires and most of the time they tell her the tires are fine and fill them with a bit of air and send her on her way with no charge.  They easily could have sold her a crapload of tires she didn't need but have never done so.  So it was with relief that I saw Discount Tire had a store near her.  Sure enough, she just needed air (is this sort of tire-related behavior genetic?) and they were very nice to her and filled up the tire and told her she was fine.

This is the power of branding.  From a distance, without any chance to inspect or check out the establishment, I knew exactly what the store would look like and was pretty confident how their employees would treat my daughter.  That has real value.

When my company screws up, one of the steps we take to try to make customers happy is to give them a refund or some free future services.  For example, last weekend we had a customer who reserved a boat and apparently our staff in the rush of the holiday weekend lost the reservation, so that when the customer showed up there was no boat ready for him.  He was understandably angry and we offered him a free boat rental any time in the future and he felt that we had done our best to make things right.

Unfortunately, we have one campground were word has gotten around that if you make up complaints and threaten bad reviews, you can get free camping.  It started a few years ago when I offered a customer there a couple days free camping to ameliorate a complaint that frankly I don't even remember.  Apparently, this person told all their friends that complaining was a path to free goodies.  This morning, I had a call that one customer from this friend group was not even pretending any more.  They were fine with their stay but were essentially holding us hostage by saying that she wanted free days of camping or she and her friends would cover Trip Advisor with bad reviews.  Obviously we had to bring a halt to this whole thing so we told her to bring it on.  Now we have a policy that no one in that campground gets free camping for any reason, and thus in this one location, at least for a while, I have lost one of my best tools for resolving customer satisfaction problems.

This is obviously frustrating, since the folks involved clearly have no personal honor in the matter, and they are taking advantage of my sense of honor in wanting customers to leave satisfied when they have paid me money.

I have written the cover story for the Summer 2018 issue of Regulation magazine, titled "How Labor Regulation Harms Unskilled Workers."  The link to the Summer 2018 issue is here and the article can be downloaded as a pdf here.  I meant to be a bit more prepared for this but it was originally slated for the Spring issue and it (rightly) got kicked to the later issue to add a more timely article on tariffs and trade.  The summer publication date sort of snuck up on me until I saw that Walter Olson linked it.

FAQ  (I will keep adding to this as I get questions)

How did a random non-academic dude get published in a magazine for policy wonks? This piece started well over  a year ago, back when my friend Brink Lindsey was still at Cato (he has since moved to the Niskanen Center).   I had told him once that I was spending so much of my personal time responding to regulatory changes affecting my company that I had little time to actually focus on improving my business.  I joked that we were approaching the regulatory singularity when regulations were added faster than I could comply with them.

Brink asked that I write something on small business and regulation.  After about 10 minutes staring at a blank document in Word, I realized that was way too broad a topic.  I decided that the one area I knew well, at least in terms of compliance costs, was labor regulation.  After some work, I eventually narrowed that to the final topic, the effect (from a business owner's perspective who had to manage compliance) of labor regulation on unskilled labor.

Once I finished, I was ready to just give up and publish the piece on my blog.  I sent it to Brink but told him I thought it was way too rough for publication.  He told me that he had seen many good published pieces that looked far worse in their early drafts, so I buckled down and cleaned it up.  My editor at Regulation took on the heroic task of getting the original monstrosity tightened down to something about half the length.  As with most good editing processes, the piece was much better with half the words gone.

The real turning point for me was advice I got from Walter Olson of Cato.  I "know" Walter purely from blogging but I love his work and had been a substitute blogger at Overlawyered in its early years.  At one point, I was really struggling with this article because I kept feeling the need to address the broader viability of the minimum wage and the academic literature that surrounds it.  But I am not an academic, and I have not done the research and I was not even familiar with the full body of literature on the subject.  Walter's advice boiled down to the age-old adage of "write what you know."  He encouraged me to focus narrowly on how a business has to respond to labor regulation, and how these responses might effect the employment and advancement prospects of unskilled workers.  As such, then, the paper evolved away from a comprehensive evaluation of minimum wages as a policy choice (a topic I have opinions about but I don't have the skills to publish on) into a (useful, I think) review of one aspect of minimum wage policy, a contribution to the discussion, so to speak.

Update:  Eek, I forgot since I started this so long ago.  I also owe a debt of gratitude to about 8 of our blog readers who own businesses and volunteered to be interviewed for this article so I could make sure I was being comprehensive.

There are many positive (or negative) aspects of labor regulation you have excluded!  Yes, as discussed above this paper is aimed narrowly at one aspect of labor regulations -- understanding how businesses that employ unskilled workers respond to these regulations and how those responses affect workers and their employment and advancement prospects

Everyone knows employer monopsony power means there are no employment or price effects to minimum wage increases.  Some studies claim to have proved this, others dispute this.  I would say that this statement has always seemed insane from my perspective as a small business owner.  It sure doesn't feel like I have a power imbalance in my favor with my workers.   I address this with a real example in the article but also address it in much more depth here.  The short answer is that for minimum wages to have no employment or price effects, a company has to have both monopsony power in the labor market AND monopoly power in its customer markets.  Without the latter, all gains from "underpaying" a worker due to monopsony power get competed away and benefit consumers (in the form of lower prices) rather than increase a company's profit.

The costs of these regulations are supposed to come out of your bloated profits.  Perhaps that is what happens at Google, where compliance costs are a tiny percentage of what their highly-compensated employees earn and where the company enjoys monopoly profits in its core businesses.  For those of us in highly-competitive businesses that employ unskilled workers, our profit margins are really thin (as explained in more depth here).  When profits are close to the minimum that supports further investment and participation in the business, then labor regulatory costs are going to get paid by consumers and workers.

Then maybe the best thing for workers is to create monopolies.  Funny enough, this idea was actually one of the centerpieces of Mussolini's corporatist economic model, a model that was copied approvingly by FDR in the centerpiece New Deal legislation the National Industrial Recovery Act (NRA).  The NRA sought to create cartels in major industries that would fix prices, wages, and working conditions, among other things.   The Supreme Court struck the legislation down, a good thing since it would have been a disaster for consumers and for innovation and probably for most workers too.  As a bit of trivia, this year's Superbowl winner the Philadelphia Eagles was named in honor of this law.  More here.

So do you think minimum wages are a good policy overall or not?  Hmm, mostly not.  For a variety of reasons, minimum wages are a very inefficient way to tackle poverty (and also here), and tend to have cronyist effects that help one class of worker at the expense of other classes (this latter should be unsurprising since many original supporters of the first federal minimum wages were explicitly hoping to disadvantage black workers competing with whites).

Why are you opposed to all these worker protections?  Or, more directly, why do you hate workers?  This is silly -- I am not and I don't.  However, this sort of critique, which you can find in the comments below, is typical of how public policy discussion is broken nowadays.  When I grew up, public policy discussion meant projecting the benefits of a policy and balancing them against the costs and unintended consequences.  In this context, I am merely attempting to air some of the costs of these regulations for unskilled workers that are not often discussed.  Nowadays, however, public policy is judged solely on its intentions.  If a law is intended to help workers (whether or not it will every reasonably achieve its objectives), then it is good, and anyone who opposed this law has bad intentions.  This is what you see in public policy debates all the time -- not arguments about the logic of a law itself but arguments that the opposition are bad people with bad intentions.  For example, just look in the comments of this and other posts I have linked -- because Coyote points out underappreciated costs to laws that are intended to help workers, his intentions must be to harm workers.  It is grossly illogical but characteristic of our post-modernistic age.

I will retell a story about Obamacare or the PPACA.  Most of my employees are over 60 and qualify for Medicare.  As such, no private insurer will write a policy for them -- why should they?  Well, along comes Obamacare, and it says that my business has to pay a $2000-$3000 penalty for every employee who is not offered health insurance, and Medicare does not count!  I was in a position of paying nearly a million dollars in fines (many times my annual profits) for not providing insurance coverage to my over-60 employees that was impossible to obtain -- we were facing bankruptcy and the loss of everything I own.  The only way out we had was that this penalty only applied to full-time workers, so we were forced to reduce everyone's hours to make them all part-time.  It is a real flaw in the PPACA that caused real harm to our workers.  Do I hate workers and hope they all get sick and die just because I point out this flaw with the PPACA and its unintended consequence?

I've heard that raising the minimum wage increases worker productivity so much that businesses are better off.    I know there is academic literature on this and I am frankly just not that familiar with it.  I can say that I have never, ever seen workers suddenly and sustainably work harder after getting a wage increase.  What I see instead is employers doing things like cutting back employee hours and demanding the same amount of work gets done.  This could result in more productivity if there was fat in the system beforehand but it also can result in things like lower service levels (e.g. the bathrooms get cleaned less frequently).   Without careful measurement, these changes could appear to an outsider to be productivity gains.  In addition, as discussed in the article, with higher minimum wages employers can substitute more skilled for less skilled workers, which can result in productivity gains but leave unskilled workers without a job.

Workers are human beings.  It is wrong to think of them as "costs" or "resources".  The most surprised I think I have ever been on my blog is when I got so much negative feedback for writing that the best thing that could happen to unskilled workers is for someone to figure out how to make a fortune hiring them.  I thought this was absolutely obvious, but the statement was criticized as being heartless and exploitative.  My workers are my friends and are sometimes like family.  I hire hundreds of people over 60 years of age, people that the rest of society casts aside as no longer useful.  They take pride in their ability to continue to be productive.   You don't have to tell me they are human beings.  Just this week I have helped modify an employee's job responsibilities to help them manage their newly diagnosed MS, found temporary coverage for a manager who needs to get to a relative's funeral, found a replacement for a manager that wants to take a sabbatical, and loaned two different employees money to help them through some tough financial times.  From a self-interested point of view, I need my employees to be happy and satisfied in their work or they will provide bad, grumpy service.  But at the end of the day I can only keep these people employed if customers are willing to pay more for the services they provide than the employees cost me.  If the cost of employing people goes up, then either customers have to pay more or I can hire fewer employees.

You probably support child labor too.   Child labor laws are an entirely reasonable zone of government regulation.  The reason this is true stems from the definition of a child -- a child is someone considered under the law to lack agency or the ability to make adult decisions due to their age.   We generally give parents, rightly, a lot of the responsibility for protecting their children from bad decisions, but I am fine with the government backstopping this with modest regulations.  In other words, I have no problem with the law treating children like children.  Instead, I have a problem with the law treating adults like children.

Aren't you just begging to get audited?  Hah!  That's what my wife says.  To me, the logical response of a regulator should be, "wow, this guy knows the law way better than most of the business folks we deal with, so he probably is not a compliance risk" -- but you never know.  Actually, we have been audited many times on many of these laws.  So much so that practically the first series of posts I did on this blog, way back in the blog pleistocene era of 2004, was 3 part series on surviving a Department of Labor audit.  Looking back on the series, everything in it (which included experience from a number of different audits) still seems valid and timely.

You guys know me, I am not calling for some new law or government program.  But I would like to see the telephone companies exercise a little bit of basic professionalism.  The last several spam marketing calls (50/50 it is either for toner or credit card processing) have had legitimate-looking caller IDs that have caused me to actually pick up the phone when I would have normally let it ring through.  This morning's call from a credit card processor showed up as "Pediatric Urology" in Phoenix.  Really?  I guess they are pissing on my time, but other than that I think this is BS.  I don't think it is too much to ask that the caller ID match the business name or individual who is paying for the phone line.  I have this problem even more on calls to my cell phone where spam businesses have somehow obtained caller IDs that are just for individual's names.

Postscript:  It is amazing to me, given the sheer volume of calls I get for merchant (credit card processing) services that there actually seems to be an expectation someone might actually say, "wow, I never ever thought of accepting credit cards, tell me how it works?"  I find this super hard to believe but it must happen or else people wouldn't be paying a lot of real money to make these calls.  So PLEASE, all you business people out there, do not buy things from cold callers.  I promise you can just google whatever they are selling and likely find a better deal online.

Also, if you are starting your own business, do not -- whatever you do -- put any personal phone in your state business registration files.  These are the files all these spammers mine for prospects.  I finally had to change my home phone number because I made this mistake and we could not stop getting 5 phone calls a day from toner and credit card processing sales people.

Over the weekend I read John Carreyrou's book Bad Blood, which is a narrative of the fraud at blood analyzer startup Theranos that Mr. Carrreyrou broke in the WSJ.  To save me summarizing the story, here is the Amazon description:

 In Bad Blood, the Wall Street Journal’s John Carreyrou takes us through the step-by-step history of Theranos, a Silicon Valley startup that became almost mythical, in no small part due to its young, charismatic founder Elizabeth Holmes. In fact, Theranos was mythical for a different reason, because the technological promise it was founded upon—that vital health information could be gleaned from a small drop of blood using handheld devices—was a lie. Carreyrou tracks the experiences of former employees to craft the fascinating story of a company run under a strict code of secrecy, a place where leadership was constantly throwing up smoke screens and making promises that it could not keep. Meanwhile, investors kept pouring in money, turning Elizabeth Holmes into a temporary billionaire. As companies like Walgreens and Safeway strike deals with Theranos, and as even the army tries to get in on the Theranos promise (there’s a brief cameo by James “Mad Dog” Mattis), the plot thickens and the proverbial noose grows tighter. Although I knew how the story ended, I found myself reading this book compulsively

In short, I really enjoyed the book and found it hard to put down.  Carreyrou has made it an interesting narrative, that gets bogged down only slightly by the fact that there are just so many people's names that pass through the narrative, an unavoidable problem given the huge employee turnover at Theranos.  There is a meta-narrative that repeats over and over:  new employee shows up full of passion, new employee starts seeing bad stuff, new employee reports bad stuff to visionary founder, visionary founder fires employee on the spot, employee gets harassed for months and years by Theranos lawyers.

I will warn you that a book like this was always going to be catnip for me.  I love business craziness and disaster stories (e.g. Barbarians at the Gate and the Devil's Candy).  Possibly this is just schadenfreude, or possibly it was from my personal brush with another one (I worked for Jeff Skilling briefly at McKinsey & Co. on the Enron study).  But I think many will enjoy it, if for no other reasons that while Skilling at Enron or Johnson at RJR were not well known to the average person, Elizabeth Holmes was a household name, almost a pop culture figure.  She was  on the cover of every magazine and on every talk show.  She was both admired and envied, both as a young female billionaire and as someone who had a real vision to help humanity.  How did she go so far off the rails?

I followed this story originally in the pages of Carreyrou's WSJ articles, and as it unfolded I was asking, like most everyone, could this be true?  As he continued to report, it became steadily clearer that there was real fraud involved.  So I wanted to read the book and see where the fraud started.  I assumed that the central mystery of the book would be when that fateful step over the line occured.

But it turned out that Holmes was going over the line almost from the very beginning.  The real mystery became:  when and how is someone finally going to blow the whistle on this?  And also, given that I knew the whole thing doesn't start to unravel until 2016 or so, how is it going to take that long for this to come out?  Part of the answer is the insane security and non-disclosures put in place in addition to borderline-unethical legal pressure brought on potential whistleblowers by lawyers like David Boies.  But there are other causes as well, including:

• People wanted her vision to be true.  My wife is a borderline diabetic who has to give a lot of blood -- she was very passionate about this technology.
• Companies like Walgreens operated from a fear of missing out.  They had a lot of clues there were problems, but if they didn't pursue it, what if it really did work and their competitors did the deal instead?
• The oddest cause of all (and one Carreyrou does not really dwell on) was that rich older men fell for Holmes hard.  Hardened, seasoned business people time and again fell under her sway and followed her almost like a cult leader and helped protect her from accountability.  The list is like a who's who:  Larry Ellison, Steven Burd (CEO of Safeway), Rupert Murdoch, David Bois, James Mattis, George Schultz, Henry Kissinger -- the list goes on and on.  She had the highest power board I have ever seen at any company ever and she completely dominated them.  On the other hand, I don't think there is a single young female in the story who fell for her BS for more than a few months.

One other note that I think is worth mentioning:  Rupert Murdoch gets a lot of cr*p for being the poster child of destructive corporatization of media.  In this story, he was the single largest investor in Theranos with $125 million of his money in the company.  He was one of the older men who fell totally for Holmes.  But when Holmes came to him several times asking him to shut down an out of control reporter at Murdoch-owned WSJ, Murdoch said no, despite the fact that this reporting would eventually make Murdoch's $125 million investment worthless.