Tesla’s Inclusion in the S&P 500

In early September 2020, Tesla fell short of what was thought by many to be a done deal: inclusion into the S&P 500 Index. This Index is supposed to reflect the total investable market culture. A reflection on whether or not the market is healthy. Inclusion would help Tesla’s stock boost since investors can see that it is one of the most valuable companies on the market. This index did not include Tesla, the largest automotive maker by market capitalization. Also, by market capital, Tesla is the eighth largest publicly traded company on the market (Elmerraji, 2020), beating companies such as Johnson & Johnson and Proctor & Gamble (Randewich, 2020). Both of which have been included in the S&P 500 for many years. 

To be eligible for S&P 500 Index inclusion, a company needs to be a U.S. based company, and highly liquid. They must also have a public float of at least 50% of its shares outstanding, have a market capitalization of at least $8.2 billion, and its most recent quarter’s earnings and the total of its trailing four consecutive quarters’ earnings must be positive. Tesla meets all of these requirements; however, the S&P 500 Index Committee indicated that they had some substantial concerns with the firm.

At the time the S&P 500 Committee decided to exclude Tesla from the Index, they had a market capitalization of $370 billion (Randewich, 2020). Showing that Tesla has more market capital than over 95% of the companies currently included in the S&P 500 Index. At the time of Tesla’s rejection from the index, three smaller companies were included: Catalent Inc., Teradyne Inc., and Etsy. These companies have a combined market capitalization of $40 billion, which is only a fraction of the $370 billion that Tesla holds independently. However, the requirement to be included in the S&P 500 is only a market capital of $8.2 billion. There were no questions of liquidity, profitability, or leverage with any one of these companies. They were added for their stability and ability to maintain their standards. 

There have been many speculations about why Tesla could have possibly been excluded from the latest additions to the Index. However, the committee indicated that they had concerns about the profitability portion of Tesla. It is required that the included company have four consecutive profitable quarters. The S&P 500 is an indicator of the overall stock market and economy. When something as big as profitability is questioned, it turns into a big deal for the index and stakeholders very quickly. The current Tesla Price to Earnings Ratio is 810.46. A rule of thumb used by most professionals is that a good ratio is between 17 and 25. However, they realize that the P/E Ratio is by no means an absolute. The P/E Ratio is an indication of the value of the stock. Tesla’s P/E Ratio indicates that they are highly overvalued which led the committee to concern with future profitability. The question remains on whether or not Tesla will be able to maintain their profit and the trends that they’ve shown this year. 

Is excluding Tesla, a top 10 equity company, a good and true reflection of the U.S. Stock Market? Jonas Elmerraji from “The Street”, states that “the S&P 500 would be almost 4% higher right now if Tesla were part of the index at the start of the year.” He believes that the longer that Tesla is excluded from the Index, the less relevant the Index will become in relation to measuring the market. Tesla’s inclusion to the S&P 500 would increase it by 4%, which is a large margin for the index. Tesla still needs to show that they can remain profitable and work on their debt leveraging. Jonas thinks that " there are certainly good reasons for the S&P committee to be wary about adding a name as large as Tesla to their index right now. The sheer weight of the position would be almost unprecedented, but the risks of not adding Tesla might be bigger” (Elmerraji, 2020).

After a long wait, Tesla will finally be included in the S&P 500 on December 21st, 2020. At the time of their inclusion, they will have five consecutive profitable quarters under their belt. The committee is not as concerned as they were before, now that Tesla has sustained its profitability longer than expected. Questions of the S&P 500 being irrelevant are being washed away with the manufacturing giant’s inclusion. Tesla’s market capitalization at the time they were chosen to be included in the index was around $420 Billion. A growth from around $80 Billion at the start of 2020. Tesla looks very healthy moving forward with their sales this year being very profitable. They are on track to hitting their goal of delivering 500,000 cars in 2020. Morningstar is estimating that Tesla will sell 950,000 cars in 2021 and 1.6 million in 2022. Outside of their car manufacturing, stakeholders are also bullish on the other products Tesla sells, such as their solar products (Tepper, 2020). 

Only time will tell if the S&P 500 will benefit from Tesla’s inclusion. If Tesla can maintain its future profitability it will greatly affect the Index positively. However, if they fail to maintain their future profitability it will hurt both stakeholders and the Index. 

Sources

Elmerraji, J. (2020, September 21). Did Tesla Just Make The S&P 500 Irrelevant? The Street. www.thestreet.com/trends/news/did-tesla-just-make-the-s-p-500-irrelevant

Randewich, N. (2020, September 15). Etsy Gets into S&P 500, Tesla Does Not. Thomson Reuters. www.reuters.com/article/tesla-index/etsy-gets-into-sp-500-tesla-does-not-idUSKBN25W05F 

Tepper, T. (2020, November 19). Tesla Is Joining the S&P 500. Here's What That Means For You. Forbes Magazine. www.forbes.com/advisor/investing/tesla-sp-500-elon-musk/.