Thought Leadership

To Bond or Not to Bond? Tesla's Financing Strategy

By Roni Ofer and Art Raviv

In August 2017, Tesla Inc. issued a $1.8 billion high yield bond. The issue, which carries a 5.3 percent coupon, matures on August 15, 2025, and is callable after August 15, 2020, at 103.

This issue follows a March 2017 offering to sell $250 million of common stock and $850 million in aggregate principal amount of convertible senior notes due in 2022. The notes in this offering are convertible into cash and/or shares of Tesla's common stock at Tesla's election. The notes bear interest at a rate of 2.375 percent per year and have a conversion price of approximately $327/share. This conversion price represented a premium of 25 percent above the then prevailing stock price.

Also of note is that after a significant stock price appreciation, the market value of Tesla’s equity is about $60 billion, the book value of equity is about $5 billion and the total debt is about $10 billion. Tesla stock price was about $50 a share in 2013, $220 in 2014 and recently traded around $355. In recent history, it was as low as $180 (November 2016). However, Tesla has negative net income and negative cash flow from operations.

The interesting question is why a corporation such as Tesla would decide to issue debt and convertible debt as the optimal financial policy. Consider the following. Tesla:

• Operates in a very competitive environment,
• Competes in industries where technological innovations occur quickly and, consequently, is subject to significant technological risk
• Has high capital expenditures and high R&D costs needs in the near future
• Requires significant capital for acquisitions of new technology and/or manufacturing capacity

With that in mind, why did Tesla issue debt and convertible debt? Why not issue equity? To answer that properly, financial experts first must ask themselves some important questions:

• What factors should be taken into account when determining the optimal financing policy?
• How does the financing policy affect the firm’s cost of capital?
• How does the financing policy affect the firm’s investment policy?

We will discuss these questions and other important financial considerations during our program, Corporate Finance: Strategies for Creating Shareholder Value at Kellogg Executive Education. Join us to learn more.

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Roni Ofer has been a visiting Professor of Finance at Kellogg since 1983 and is a full professor in the Graduate School of Business at Tel Aviv University. His research interests include corporate finance and investments. He has received grants for research from the Bradley Foundation, Kellogg's Banking Research Center, the Israel Institute of Business Research and the Pinhas Sapir Center for Development.

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Art Raviv is the Alan E. Peterson Distinguished Professor of Finance. He has been a member of the Kellogg faculty since 1981, and served as the chairman of the Finance Department during the years 1986-1989. Prior to joining Kellogg Raviv taught at Carnegie Mellon University and Tel Aviv University. His research interests include corporate finance, agency theory, information economics and industrial organization.

Photo credit: Tesla, Inc.

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