Cox: Apple and Tesla really need each other now

By Rob Cox
September 20, 2016

The author is a Reuters Breakingviews columnist. The opinions expressed are his own. 

Great partnerships are often forged when each party enjoys a surplus of something the other needs and there’s little conflict in their ambitions. By that logic, two of Silicon Valley’s best known firms, Apple and Tesla Motors, really need each other right now. An investment in Tesla by Apple in return for some of the carmaker’s innovation dust might be just the ticket.

Apple Chief Executive Tim Cook is revamping the company’s approach to self-driving cars and the gadget maker’s broader role in the future of transportation. He just fired some of the company’s autonomous car team, according to the New York Times.

Along the highway at Tesla, founder Elon Musk needs billions of dollars of capital as he ramps the company up toward making a targeted 500,000 vehicles a year by 2018. He could also use an injection of corporate credibility as his proposed deal to buy his solar-panel venture SolarCity, also publicly traded, appears to be running into unanticipated headwinds.

The idea of Apple acquiring Tesla in its entirety isn’t new. It surfaced even before Cook poached some of Musk’s engineers a year ago. That move prompted Musk to tell a German newspaper: “If you don’t make it at Tesla, you go work at Apple.” But it might not require a full purchase to address the two companies’ strategic challenges – which, arguably, are each becoming most prominent in areas where the other could fairly easily help.

Musk’s hurdles are the most obvious. The entrepreneur who runs the $30 billion-odd Tesla is struggling to persuade investors of the merits of his plan for Tesla to acquire SolarCity. The deal, worth $2.6 billion when announced in early August, is supposed to create a “vertically integrated sustainable energy company.” Last week the deal was publicly panned by Jim Chanos, a prominent hedge-fund manager. By the math of the all-share deal, its market-implied chances of success have been falling, too. Shares of the solar-panel installer closed on Monday nearly 25 percent below Tesla’s offer price.

The acquisition and the potential ownership and family conflicts it throws up are a distraction for Musk from Tesla’s carmaking ambitions, not to mention the task of proving the safety of the company’s Autopilot feature after a fatal crash in May. Even if investors decide to back him in buying SolarCity, any slippage in either company’s plan could hurt their ability to hit up investors for additional funding. Both need regular cash injections – over $2 billion each last year – to fund operating and capital investment outflows.

Apple could easily address Tesla’s capital problem by buying, say, a 20 percent stake. While dilutive to existing owners – including Musk, who owns around 21 percent – that would bring in nearly $8 billion at $215 a share, just under a 5 percent premium to Monday’s market closing price.

That would take the question of capital off the table at Tesla for years to come. It would more than cover the negative free-cash flow estimated at $4 billion through 2020 by researchers at Auburn University, in a report entitled “Driving off a cliff: The case against Tesla,” plus any extra needed for the accelerated production targets the company has since announced.

For Apple, with more than $230 billion of idle cash, the investment would be close to a rounding error. Its shareholders would probably rejoice at converting a sliver of money in the bank for a placeholder in an emerging leader in self-driving cars. Unlike a full purchase, buying a minority stake won’t dilute Apple’s profitability either. The company has projected gross margins of around 38 percent in its next fiscal quarter.

Meanwhile, what could Tesla do for Apple? With a market capitalization north of $600 billion, Cook’s business is doing fine at the moment. Shares of the company have gained some 5 percent since unveiling the iPhone 7 earlier this month. Pre-orders for the new handset have been robust despite reviews that largely called it an incremental advance on its predecessor. Features like wireless ear buds are novel, but hardly game-changing.

But many analysts, investors and observers want Apple to develop more new products. Its last big launch, of watches, was a relative dud. Since they went on sale in April 2015, shares of Google parent Alphabet have rallied by nearly 50 percent and Apple’s are down 8 percent, in part because investors fret the company is running short of new ideas.

One obvious potential area, where Alphabet appears to be further ahead, is in self-driving vehicles. Apple doesn’t talk publicly about its plans in the car business. But earlier this month it fired dozens of staffers and closed down parts of its so-called Titan project, focused on autonomous cars.

Ideas are something Musk has in abundance. In addition to running Tesla and creating SolarCity, he’s trying to make a going concern of intergalactic travel and freight through Space Exploration Technologies, or SpaceX. In his spare time, he also hatched the Hyperloop, an idea to use air pressure to speed human beings through tubes at extraordinary speeds.

In that respect, he resembles Steve Jobs. Even when Apple was in its relative infancy in 1986, its co-founder bankrolled the creation of Pixar, the animation studio. For two decades, that side project put him in conflict with some of the media companies whose content would become a key attraction for iPhone users. In 2006, a year before launching the handset that changed the world, Jobs sold Pixar to Disney for $7.4 billion in stock. Disney put him on its board.

With competition no longer an issue, Jobs became a consigliere to Disney boss Bob Iger, who told Fortune after the Apple founder died that “we would stand in front of a white board and talk about ideas. And every once in a while he’d come to me thinking the sky’s falling apart and that our business was screwed. And I’d say, ‘tell me how.’”

That sort of relationship would probably be hard to develop between a chief executive and a subordinate – one argument against Apple swallowing Tesla whole. But as a collaboration, with shared goals and running businesses that work together rather than competing for talent and customers, a functional Cook-Musk partnership might serve both companies’ shareholders.

As part of the deal, Apple could fold its wobbly car operations into a joint venture with Tesla, add a couple of directors to Tesla’s board – helping to handle deals with the likes of SolarCity – and bring Musk onto its own. Of course, the two executives would have to be capable of playing nice. Musk might have to walk back his crack last year that Apple is the “Tesla graveyard.”

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