In the past, we have dismissed the idea of a business combination between Apple (AAPL) and Tesla (TSLA) on the basis that each company was better off on its own. We also have doubts that Tesla's Founder, CEO and main shareholder Elon Musk would have indulged.

But things have changed to the point where Apple buying Tesla could make all the sense in the world.

And with Elon looking to escape the short-term scrutiny of public markets and shareholders advocating for some operational support, he may be willing to consent.

We are very familiar with both companies, having been shareholders through the IW Portfolio for years.

In this article, we argue that a combined entity would be more valuable than the sum of the parts, given numerous synergies and that each company has exactly what the other most needs.

While there isn't the minimum evidence about a deal in the making and we think chances are slim, we hope shareholders in either name will find value in the article, since by highlighting what each company needs most, we will also be pointing to their main vulnerabilities.

Before moving on: we have been first to advocate for #AppleBuyTesla after Tesla's go-private intentions were made public. We are happy to see that in the meantime, Gerber Kawasaki and others have joined our voice.

Our original #AppleBuyTesla tweet, an idea that came to mind after envisioning Tim Cook as Tesla's ideal operational counterweight (source: Twitter @invworks)

The rationale

Apple is trading at all-time highs, its market capitalization exceeding $1 trillion. Its consumer ecosystem is the most valuable in the world. It is easy to picture a festive atmosphere in beautiful Apple Park.

But the company should not rest on its laurels. Apple is a $1 trillion+ company thanks to decisions taken a decade ago—the acquisition of PA Semi in 2008 comes to mind—, and much, much earlier than that. 

Competition is coming strong too: Alphabet's (GOOG) (GOOGL) and Amazon's (AMZN) ambitions are increasingly entering into Apple's core smart device and content turf. Chinese device makers Xiaomi (XI), Huawei, Lenovo (LNVGY) (LNVGF) and ZTE are getting smarter every year.

In autonomous transportation, the progress of Apple's in-house Project Titan is uncertain. Meanwhile, competitors are moving fast. Google's Waymo is going to be first-to-market with a geofenced robotaxi fleet. In China, the BAT —Baidu (BIDU), Alibaba (BABA) and Tencent (TCEHY) (TCTZF)—  are all testing self-driving cars, with Baidu's Apollo, officially supported by the Chinese Government, ahead of the pack.

And it doesn't end in autonomous systems. Tencent has taken equity stakes in electric vehicle makers Tesla and Chinese NIO. Alibaba, in start-up Xiaopeng Motors. Baidu, in WM Motor Technology and NIO.

They envision a future in which autonomous electrical transportation, logistics, retail, finance, entertainment and social are seamlessly combined into a whole. They want their tech ecosystems to cover all links in that future and are willing to take the necessary steps.

Now, we don't know much about the scope and progress of Apple's automotive project. Rumor has it that they will not be ready to go to market before 2023 at the earliest. That is 5 years later than Google's Waymo and likely 3 years later than Tesla. If they are really doing meaningful progress and are confident to come out with a differentiated solution, then there would not be a case for Apple buying Tesla.

But if that is not the case, Apple beware. One or two decades from now, Apple's mighty ecosystem, despite its strengths in smart devices, content and payments may appear inadequate, unable to close the loop with the physical world. For a company that has made of seamless integration one of its core strengths, filling the autonomous transportation void with partnerships would be underwhelming.

Apple skills are unmatched in what regards operational excellence and incremental innovation, the drivers of near to mid-term value. But looking farther than that, Apple may not be doing nearly enough, especially in comparison to the Chinese tech giants.

Buying Tesla, of course, would help put those worries to rest.

Photo: RenewEconomy

Business synergies

The list of business synergies has increased over the years and is quite extensive today. We note that both companies:

• Derive the lion share of revenues from the sale of manufactured products with seamlessly integrated proprietary software.
• Rely on Li-ion batteries to power those products.
• Have autonomous system aspirations —a transportation-as-a-service platform based on Tesla vehicles and Apple's customer base and interface strengths would be hard to top.
• Design chips in-house, in fact tapping into a common pool of talent.
• Increasingly rely on artificial intelligence for their products and services.
• Operate their own high-street retail network.
• Focus on high-end market segments entered through premium brand identities.
• Cater to a similar consumer base.
• View environmental concerns as a corporate priority.
• Are headquartered 13 miles away.

Financials

Following the acquisition, Tesla could become a private subsidiary of Apple, with Elon Musk and other employees and major shareholders retaining their ownership stakes in Tesla, if desired.

For Apple, the purchase price would represent about one year of FCF, which the company could pay using its $210+ stock, up more than 2x in the last 2 years.

The profitability of the Tesla's core business is driven by manufacturing scale and operating leverage. At a production rate of 7,000 to 10,000 cars a week, and with the ongoing level of operating expenses, we view Tesla as break-even to marginally profitable.

Following an acquisition, certain business functions —e.g. management of retail stores and supply chain— would be merged, eliminating redundant costs soon after the closing. Hence, except for non-cash amortization of goodwill created by the acquisition, the initial financial impact on Apple would be slightly positive.

Subsequently, every increase in production without a commensurate growth in operating expenses (operating leverage) would result in increased amounts of cash generation. For-pay over-the-air SW upgrades (autonomous and entertainment functionalities) and transportation-as-a-service fees would remain wildcard sources of additional income, with a potential value in the hundreds of billions of dollars —incidentally, Elon Musk has announced that Tesla owners will be able to stream videos from the likes of Netflix and YouTube while the car is parked starting with SW version 10.

Lack of capital is the factor limiting Tesla growth. With Apple's deep pockets, Tesla would accelerate the construction of manufacturing capacity in China and Europe, and extend North American capacity, to bring its product pipeline  —Model Y, pick-up track, Roadster, Tesla Semi, mass-market solar and storage solutions— earlier to market. This would increase the net present value of Tesla's product pipeline.

Management

Gene Munster is among those who have suggested that Elon Musk needs a COO. And we couldn't agree more. Elon needs an operational stalwart at his side, to alleviate his workload and help structure the company's processes, stretched after many years of 50%+ growth.

If it is to improve the company, the COO will need to be first-class. He will need to implement operational excellence without slowing down Tesla's pace. Such individual may exist in a relatively young non-public figure, possibly among Tesla ranks. But among well-known faces, it is Tim Cook that invariably comes to mind.

Now, Tim Cook is not going to leave Apple for Tesla, neither as COO nor CEO. But Tesla and Elon Musk could join Apple. Tim would be the CEO of the combined entity with Elon retaining the leadership of the automotive branch. Apple operational practices would be adopted by Tesla.

In the past, Elon would have resisted such concessions of power. But he is in a weaker position now, as evidenced by his recent interview at the NYT in which he appears open to changes in management. Apple should seize the opportunity and extract a compromise.

As for Apple, they would be adding key visionary leaders to their management team, including Elon Musk, JB Straubel and lead designer Franz von Holzhausen, the latter of whom, quite frankly, seems born to work for Apple.

Corporate culture

Moving beyond the top management layer, it is no secret that Tesla teams are working at a different speed. The caricature would have talent in search for stability, good compensation and work-life balance go work for Apple, while those prioritizing meaningfulness, changing the world —and not minding to put the extra hour, go work for Tesla.

Tesla has no-doubt benefited enormously from that willingness since its start-up days. Furthermore, meaning and purpose are key to attract and retain top talent. In a study conducted in 2016, only SpaceX (SPACE) topped Tesla in the category of job meaningfulness. So clearly, Apple's corporate culture would benefit from being a bit more like Tesla's.

On the other hand, it is also no secret that things run more smoothly in Cupertino. Tesla could use some order. And as the company matures, it will need to start offering a more predictable environment with better work-life balance. Bringing Tesla and Apple teams together would ease that transition. 

Moreover, Tesla's long-term vision is "to accelerate the transition to sustainable energy". A core mission at Apple is to leave the planet better. Now, being completely powered by clean energy is one thing. Driving the world adoption of sustainable energy technologies first-hand, is another. By acquiring Tesla, Apple would be putting words into transformative action.

Finally, quite frankly, Steve Job's "think different" and "change the world" maxims resonate much better with Tesla than with today's Apple. Bringing Tesla onboard would make Apple keynotes worth watching again.

Apple is still milking the formidable equity brand built by Steve, but twenty years from now, the cow will be running dry without another infusion of authenticity.

Video Length: 00:07:00

The values Steve Jobs wanted Apple to be known for resonate today better with Tesla than with Apple

Long-term focus

Elon Musk's rationale to take Tesla private relies on two tenets:

• That the Tesla team can remain focused on the long-term vision
• That certain external parties (the short-sellers) do no longer have a perverse incentive to try to harm Tesla

Taking Tesla private is a road to that aim. Being acquired by Apple would be another.

While Apple is a publicly traded company and reports earnings on a quarterly basis, the volatility of Tesla's operations would be masked by the scale of Apple's device business.

Moreover, Tesla would represent less than 7% of Apple's market cap, so there would no longer be a short case, even among those who don't believe on the future of Tesla. Others who may have sold Tesla short to induce reflexivity  —a vicious cycle of lower stock price increasing cost of capital breaking confidence leading to yet lower stock price— would also be compelled to close their short positions, for the combined entity would no longer rely on external equity capital.

Finally, after the ramp-up of Model 3, Tesla operations have reached a scale and level of maturity at which the risk of Apple —or any other potential acquirer— eventually shutting down its operations, thereby negating Tesla's long-term vision, appears minor.

Investor takeaways

The process is ongoing for Tesla to find funding for a change of ownership structure, and a go-private transaction backed by the Saudi's Kingdom Public Investment Fund has been put forward as the default option. Elon Musk's recent interview at the NYT suggests that strengthening the management team is becoming urgent.

Meanwhile, things couldn't look better at Cupertino. A mere 13 miles away from Tesla's headquarters, Apple is enjoying record-high sales, earnings and market value.

But today's spectacular success wouldn't have been possible without teams, processes and technologies put in place decades ago —by Steve Jobs, Jony Eve, Tim Cook and others. And success 10 or 20 years from now will hinge on decisions taken today.

Radical initiatives may seem unnecessary in light of today's glory. Through its smart devices and software platforms, Apple operates what we believe is the most valuable consumer ecosystem in the world —hence our large long position, acquired at below $100/share a mere three years ago.

But the consumer landscape is changing rapidly in the Western World, and much, much more rapidly in China. Colossal ecosystems, going well in scope beyond today's Apple platforms, are being erected. And if Apple is to continue playing a shaping role in that future, it better takes decisive action today from a position of strength than in ten years, from a position of urgency.

We have argued that Tesla could be exactly what Apple needs to expand into autonomous transportation. And that Tesla board, management, shareholders and employees, would also benefit from the acquisition, provided it closes at $400+/share.

Even if the Saudi Fund was the highest bidder, we think that Tesla management would have a hard time rationalizing a Saudi majority-stake in Tesla. Personally, we wouldn't remain invested in a Tesla majority-owned by the Saudis, as it could lead to a number of conflicts of interest.

To shareholders in Apple and Tesla: neither stock is particularly cheap today, but they are not at sell levels either. We don't have plans to divest our Apple stake for the time being.

If Tesla remains a public company at today's price, we will remain invested too. If it was to go private at $400+, we would sell partially or totally, depending on the identity of the backers and the structure of the deal.

Our preferred outcome would be a business combination. We would celebrate the marriage both as Apple and Tesla shareholders, and remain fully invested in the combined entity, which we would see as more valuable than the sum of the parts.