Primary Market

Before delving into the secondary market, the primary market should be covered first because a company gets established during this phase. A Primary market has many multifunctional components, but it is ultimately the market where securities first get created. Whether a corporation is private or public, it will issue stock and undergo underwriting (a middleman who purchases shares for an IPO or a private placement offering).

Private companies have their own regulations and can only be purchased by accredited investors or venture capital funds. Private companies aim to become public at a point in the future due to losing footing in research and development or a shortage in capital. Public companies have investors take a share in the company; in return, the business has more money to work with, creating enriched opportunities.

When a company is going public and issuing shares as a form of equity to an investor, it must register with the SEC and get an S-1 statement approval. When the S-1 is approved, the company ready to go public can look for institutional investors or venture capital firms to buy up stock from the underwriter.

 The Secondary Market 

Once the first pair of investors, giant corporations, or professional investors are found, the company can be listed on an exchange like the New York Stock Exchange. Then, friends, family, employees, etc., can invest in the public company. In the secondary market, derivatives like futures and options can be traded, contracts that allow investors to trade with each other, or an exchange, to predict a price of an underlying stock in the future. The contract’s winner pockets the difference, and the loser loses money.

Other instruments traded on the secondary market or an exchange consist of ETFs, bonds, short-term debt, mortgage-backed securities, collateralized investments, dividend payments, and more. Although each investment class has its own vital rules and unique characteristics, investors will pick the option they see fit in the current market economy.

The Third Market

The over-the-counter market, also known as the third market, is a marketplace that houses securities or debt that do not trade on a regular exchange. Instead of trading on an exchange, all trades are decentralized and exchanged on a peer-to-peer base. Penny stocks are traded on the third market because they didn’t meet the requirements to be traded on a large exchange. Other investments, like most bonds, are traded on the third market between large broker-dealers and lenders like investment banks or pension funds. The third market is often overlooked, but it’s typically the marketplace where some of the most significant trades occur.

Other investment options that trade on the third market are the foreign exchange market and foreign stocks listed outside of the United States. An essential characteristic of the third market is the privacy that the traders receive. For example, massive institutions can trade in what’s known as a dark pool, a private trade between two investors in an off-exchange venue. In a dark pool, giant corporations will not know who they’re trading with, and everything will stay anonymous, including the transaction itself, which isn’t available to the public. This way of trading lets corporations trade large blocks of stock without the public seeing these trades and reacting by making the underlying security price more volatile.

Fourth Market

These markets are secretive and, for the most part, are only traded with the largest corporations. Unlike a dark pool, where the investors don’t know who they’re trading with, fourth markets let two corporations trade with each other privately. As a result, there is little known to the public on how fourth markets operate except that they trade amongst corporate institutions.

Highlights

• Free Cash flow of 3.297 billion 
• EBITDA of 4.968 billion 
• Income of operations of 3.688 billion
• Gross Profit of 5.382 billion
• Debt to equity ratio of .81
• P/E (Price to Earnings) Ratio of 204.2
• EPS (Earnings per Share) of 1.05
• Total Debt to Current Assets is 2.688 billion surplus in assets 
• P/S ratio of 37.78 
• Enterprise Value of 646.412 billion
• Enterprise Multiple of 133.9
• Working Capital of 11.379 billion 
• Altman Z Score of 12.3139 

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Tesla is known for their famous electric cars and there have been ambivalent opinions throughout the market of whether Tesla is overbought, oversold or even heading into bankruptcy. Tesla flaunted its achievements for Q3, highlighting on the first section of their financial statement a new record of 3.297 billion dollars in free cash flow profit. Tesla was able to achieve this by paying off all of their operating expenses and bringing in 5.1 billion dollars in operating activities. Free cash flow compared to last quarter increased by 431% and there was a 89.7% increase when comparing the average of all free cash flows for the year. Likewise, from the increase in free cash flow also came Tesla’s record revenue quarter of 21.45 billion dollars.

EBITDA stands for earnings before interest, taxes, depreciation and amortization, it’s used as an alternate measurement for net income. EBITDA is also similar to free cash flow where the formula exemplifies profit from a companies operations, the only difference is it doesn’t factor in taxes or capital expenditures (money invested back into the company). Tesla has an EBITDA of 4.968 billion dollars from its operations alone, when compared from on average for the past year, there was a 17.86% increase this quarter. The company is seeing steady growth and a healthy EBITDA margin of 23.2%.

What’s impressive about Tesla is the company doesn’t take nearly as much debt as other EV manufacturing companies or automobile companies. If the total debt were to be compared to all its liquid assets on hand, Tesla would be able to pay off all of its debt and still have 2.68 billion dollars left in liquid. Furthermore, Tesla has a very healthy debt to equity ratio of .81, indicating that there’s 81 cents of debt for every dollar of equity.

The downside of Tesla that most investors are worrying about is just how highly overbought the stock is as a whole. It’s important to have confluence between multiple financial ratios to tell whether Tesla is overpriced. For one, Tesla has a P/E ratio of 204.2 which is excessively high considering most companies have an average P/E of 20-25 and investors are warry about companies with high P/E ratios. Another indicator is the P/S ratio, Tesla has a P/S of 37.78. This means that for every dollar of sales the company makes, the investor is technically paying $37.78, indicating how overvalued the stock is and whether individuals are willing to pay that much in the future. A third indicator which is considered a more reliable way to compare whether a company is overvalued to other competitors is the Enterprise Multiple. The enterprise multiple is the enterprise value (which is the sum of market cap and all debt) divided by EBITDA. Typically an enterprise multiple is seen as value and is healthy if its lower than 10, Tesla’s is 133.9.

Is Tesla going to go bankrupt? Definitely not anytime soon, Tesla right now is able to comfortably pay off its debts and create consistent free cash flow every quarter. The Altman Z score is a powerful indicator that checks whether a company is close to bankruptcy. This financial ratio is a multitude of many parts of the financial statement and tells how many standard deviations a company is in, in terms of its financials. Most companies typically go bankrupt if they have a z score below 1.8, while other companies are in good shape if they have a z score above 3. Tesla has a z score of 12.31, indicating it’s in amazing shape overall.

Even with just how good Tesla looks from its financial statements the price is significantly volatile due to nervous investors that aren’t willing to pay for Tesla at such a high price and market capitalization. Other investors are also warry about the recent news of Tesla dropping costs of their vehicles in China, furthering implications that demand is shrinking in some parts of the world because of interest rates going up. Tesla continues to prove why it’s the top EV company, but can they keep this consistency like in Q3, or will they succumb to supply or demand issues.

This event is being compared to what happened in the US for the 2008 housing crisis where the Lehman Brothers investment bank filed for bankruptcy which was the catalyst for the whole crash in the first place. In this case, pension funds were nearing bankruptcy which caused many peoples retirement funds to be at risk, if not for the government stepping in, there could have been a worse event that may have materialized.

Pension funds need to pay their customers a fixed amount of money no matter what economic situation the country is going through. Because of this fixed amount, pension funds usually buy bonds in order to offset their liabilities of paying the fixed amount to their pensioners, so they’re able to have enough assets to cover this payment. The problem started with continuous low interest rates after the coming of COVID-19, these low interest rates made it so pension funds couldn’t pay back their customers a fixed amount because they weren’t generating enough interest themselves from bonds. To pay this fixed amount, pension funds got desperate and invested in young companies that had a lot of potential so they can sell at a profit and be able to pay their customers back using derivatives. The pension funds tried to hedge their bet using leveraged investments (borrowed money from banks) which are subjected to margin calls, telling the investor that they could get liquidated and lose all their money because the banks themselves don’t want to lose money from their investment.

These pension funds were forced to sell off a lot of their gilts in order to not get liquidated and add on to their derivatives gamble which caused the gilt market to take a huge stumble down. If the pension funds were to let their derivative trades get liquidated they could face insolvency and go bankrupt so there wasn’t much room that these funds had to work with. With no one buying gilts, the government was forced to intervene and buy up 65 billion pounds worth of gilts that were being sold to stop the crash of the economy.

Instead of the government continuing with quantitative tightening which is the process of the governments selling gilts on the open market and getting rid of money circulating from the public in order to battle inflation, its hand was forced to require quantitative easing. With the buying of gilts to ease the economy comes bad and hefty long term implications for the economy. For one, this will only continue the rise of inflation and give banks a tougher time to catch up on interest rates to lower inflation down.

The Bank of England declared that it expects the UK to be in a recession (the situation with the pension funds only sped this process). UK’s prime minister Liz Truss announced that the government would freeze energy prices for households for about two years, costing the government 89 billion pounds. The energy will be funded through government bonds which at a time like isn’t the best option, this is because borrowing gilts while trying to bring inflation down will increase debt due to companies losing money from interest rates. More borrowing at a time of burgeoning debt isn’t good for an economy in the long run.

It also didn’t help that the government announced that they would cut taxes for the rich in order to stimulate the economy and then last minute reverse their decision to do so. Decreasing taxes for the rich may restore prices in the economy but it isn’t a popular option among the people, therefore this caused for a reversal in decision. It seems as if the government doesn’t know what the correct course of action should be leaving citizens in distress and uncertainty.

ASML went public on the New York stock exchange in 1995 and was seen by big tech companies as the future of science and technology. In 2012, ASML wasn’t able to create EUV machines that it had its eyes on because of monetary deficiencies so the company was able to give away a quarter of its shares to the big 3 chip manufacturers, Intel, Samsung and Taiwan Semiconductor Manufacturing Company (TSMC). Now, with the creation of EUV, there are supply issues because only one company is creating these machines. Chip creators like TSMC and Intel have Semiconductor fabrication (fabs), these are the factories that use ASML’s machines to create the semiconductor chips. The problem with this whole system is that there is a huge monopoly that makes it so no new businesses are able to join in on the profit by virtue of the machines themselves, costing up to 300 million dollars and the factories, that can take billions of dollars to not just build but manage. TSMC is the biggest player right now with over 40% of ASML’s supply in EUV machines, big companies like Intel and Samsung are even falling behind to ASML’s reining monopoly.

Apple gets all their chips from TSMC, making up 25% of TSMC’s revenue which is a staggering number. If this didn’t make things worse, TSMC is branching out into the US to build fabs in Arizona where the production will start in 2024. This is possible because of the bipartisan CHIPS and Science Act of 2022 that President Biden announced, providing 52 billion dollars in subsidies to the semiconductor industry. While all the pressure of competing with demand from fabs is stuck with ASML, a conglomerate company named SEMI predicts there will be about 72 new fab machines built around the world by 2024; this creates further pressure for ASML and chip manufactures. So what are the implications for everyday people? Having fabs can be a good thing for a country because it increases revenue and trade, but the catch is that every fab needs about 4.7 million gallons of water a day to support its operation. Water is a necessity because it cools down equipment and cleans silicon wafers that makes production of chips possible. The amount of water for one fab is equivalent to nearly what 25,000 residents in Arizona will use in a day.

Taiwan itself is already seeing the worst droughts its had in 50 years, they now rely on getting water to keep their fabs running by going to the south-side of the island with trucks. If droughts like these were to hit other countries because of the current chip war, it can have negative effects on agriculture. Prices of food will most likely skyrocket because there isn’t enough water to grow specific amount of crops due to allocating most of the water supply to chip production. Furthermore, the growing demand of fabs can lead ASML to capitulate from the inside and slow down their research on building new machines because they’re stuck supplying so many other machines to countries around the world. There are both positives and negatives to the semiconductor industry and while it’s seen mostly in a positive light, there are growing concerns on what this CHIPS act has entailed for the future of not just the US, but the world.

Sources

https://www.asml.com/en/products/euv-lithography-systems#:~:text=EUV%20stands%20for%20’extreme%20ultraviolet,a%20wavelength%20of%2013.5%20nm.

https://www.theverge.com/22628925/water-semiconductor-shortage-arizona-drought

https://static.seekingalpha.com/uploads/sa_presentations/919/84919/original.pdf

https://www.washingtonpost.com/us-policy/2022/06/28/tsmc-arizona-construction-subsidies/

Looking at the company’s balance sheet, the first thing to be noticed is that MicroStrategy’s has lost 1 billion dollars in total assets in just two quarters while total liabilities have gone up 6.5%, meaning they own less and they owe more. Furthermore, the company has a debt to equity ratio of 14.7, this shows for every dollar invested in the company about 93 cents came from debt while 7 cents came from the company’s equity; definitely not a number you want your company to see. Moving on to the income statement, MicroStrategy took a staggering loss of over a billion dollars for the combined two quarters, making a gross profit of 96 million dollars. If this wasn’t bad enough, the free cash flow of MicroStrategy was negative 786 million dollars, this shows that there’s an inability to generate enough cash to support the business itself. If MicroStrategy continues on this path they can soon see more trouble ahead including bankruptcy possibly.  

MicroStrategy is known to hold a good portion of crypto, its average purchase price per bitcoin is at 25800. Currently, bitcoin is priced at 18800 and can presumably go lower looking at the economic stance of the world economy. Michael Saylors company holds about 130,000 bitcoins and has taken an impairment loss on these investments of almost two billion dollars. The way they were able to fund their ‘crypto spending’ was either by the profits they got from issuing their stock known as additional paid in capital, or by taking unsecured debt with no collateral being put down. They owe these debts spanning from 2025 to 2028 and if they don’t pay these senior notes off, they could possibly go insolvent.

For more information on what the balance sheet, income statement and cash flow is visit the links below

https://www.investopedia.com/investing/what-is-a-cash-flow-statement/

https://www.investopedia.com/terms/i/incomestatement.asp

https://www.investopedia.com/investing/what-is-a-cash-flow-statement/

Below is MicroStrategy’s financial results

https://www.microstrategy.com/content/dam/website-assets/collateral/financial-documents/press-release-archive/microstrategy-announces-separation-of-chairman-and-ceo-roles-and-second-quarter-2022-financial-results.pdf