Tesla's 'full self-driving' feature could put Elon Musk on the path Tim Cook followed to make Apple the world's most valuable company

    • Apple has become the world's most valuable company in part by building a network of services that allows the tech giant to keep making money from customers after they buy their iPhone or MacBook.
    • Morgan Stanley said Tesla is poised to follow a similar strategy.
    • "Tesla is on the verge of a profound model shift from selling cars (volume x price) to generating high-margin, recurring software and services revenue," the bank said in a November 18 research note.
    • After adding digital services to its financial model for Tesla, Morgan Stanley raised its share-price target from $360 to $540.
    • Are you a current or former Tesla employee? Do you have an opinion about what it's like to work there? Contact this reporter at [email protected], on Signal at 646-768-4712, or via his encrypted email address [email protected]
    • Visit Business Insider's homepage for more stories.

    Apple has become the world's most valuable company in part by building a network of software-based services, from the app store to Apple TV+, that allows the tech giant to keep making money from customers after they buy their iPhone or MacBook.

    Growing the percentage of Apple's revenues that come from services has become a key element of CEO Tim Cook's strategy. Under his watch, Apple has launched Apple Music, Apple TV+, and iCloud.

    Morgan Stanley analyst Adam Jonas thinks Tesla will follow a similar path in the coming years.

    "Tesla is on the verge of a profound model shift from selling cars (volume x price) to generating high-margin, recurring software and services revenue," Jonas wrote in a November 18 research note, co-authored by research associates Billy Kovanis, Evan Silverberg, and Eram Zaghi. 

    Software-based products tend to be more profitable than the devices that run them because they have lower variable costs, the costs a company incurs every time it sells a new product or service. To sell a new iPhone, Apple has to pay for the phone's parts, their assembly, and shipping to deliver the device to a store or customer's home. When someone subscribes to Apple TV, Apple doesn't have to build a new streaming service, it just gives the subscriber access to existing software and takes their money.

    Building a compelling array of services has the added benefit of making a company's devices more compelling, which can attract new customers and increase the loyalty of existing ones.

    Though around 80% of Apple's revenue still comes from hardware, its growing services business has made investors more optimistic about its future, Jonas said. Since Tim Cook became Apple's CEO in August 2011, its stock price has increased by more than 700%.

    "Services transformed the narrative on Apple from a stock that used to be perceived as a cyclical hardware stock fully valued at 15x earnings to one where target multiples increasingly approach 30x+ today," Jonas said in the November 18 note.

    The bank thinks Tesla could undergo a similar transformation.

    "It is becoming clearer that, like many other technology firms, Tesla is using its growing fleet of hardware in services to 'turn on' new revenue opportunities…services that are far-reaching, high-margin, regularly recurring, and services that ultimately improve the user experience and stickiness of the platform," the note said.

    Tesla's biggest digital service is the so-called Full Self-Driving (FSD) upgrade to its Autopilot driver-assistance system. While FSD does not make Autopilot fully autonomous — Autopilot still requires constant driver supervision, with or without FSD — it does add features like the ability to make lane changes and park. The upgrade costs $10,000, about 20% of the price of the Model 3 sedan's mid-priced trim, and, according to Morgan Stanley's estimate, earns close to a 100% profit margin. Based on conversations with Tesla executives, the bank estimated around 27% of Tesla's customers were buying FSD at the end of 2019. Tesla also sells over-the-air performance and infotainment upgrades.

    Morgan Stanley estimates that digital services account for less than 3% of Tesla's revenue today and projects that share will grow to more than 6% by 2030. Collecting a greater percentage of its revenue from software-based services would boost Tesla's profit margins and increase customer loyalty, the bank said.

    According to Morgan Stanley, Tesla's position today resembles Apple's in 2010, when the iPhone was three years old and the potential for high-margin services to drive the tech firm's business was not fully understood. Though Tesla's stock price has soared over the past year, Morgan Stanley sees room for further growth. After adding digital services, along with Tesla's energy and insurance businesses, to its financial model for Tesla, Morgan Stanley raised its share-price target from $360 to $540.

    "To only value Tesla on car sales alone ignores the multiple businesses embedded within the company, and ignores the long-term value creation arising from monetizing Tesla's core strengths, driven by best-in-class software and ancillary services," Jonas wrote.

    Are you a current or former Tesla employee? Do you have an opinion about what it's like to work there? Contact this reporter at [email protected], on Signal at 646-768-4712, or via his encrypted email address [email protected]

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