Tesla stock has 40% upside as a 'top pick' as it corners the EV-credit market, Morgan Stanley says

• Tesla stock will soar 40% as it dominates the zero-emission vehicle-credit market, according to Morgan Stanley.

• The bank named Tesla a 'Top Pick' in the US auto sector, replacing Ford.

• Tesla's cost-cutting initiatives and energy business growth are key drivers of the firm's bullish outlook.

Tesla stock is going to soar 40% over the next year as it corners the zero-emission vehicle-credit market, according to a Monday note from Morgan Stanley.

The bank named the EV company a "Top Pick" in the US auto sector, replacing Ford on the list. In support of his $310 price target, analyst Adam Jonas cited "more managed expectations on autos and powerful emerging drivers of firm value."

Shares of Tesla rose as much as 7% on Monday, far outpacing the roughly flat performance of the Nasdaq 100 and S&P 500.

Jonas' bullish outlook on Tesla stock is partly thanks to the company's significant cost-cutting measures implemented over the past few months as it grappled with slowing EV sales and lowered its headcount.

"The over $0.6 billion of restructuring charges recognized by Tesla in the quarter, combined with other actions, has helped lower the breakeven point to levels where Tesla can still generate positive cash flow at an enterprise level, even with EV capacity utilization at 69% last quarter," Jonas said.

While Tesla's cost cutting measures should help protect the stock from potential downside, its "cornering" of the ZEV-market will help drive further upside.

The ZEV market refers to the buying and selling of regulatory compliance credits for companies that don't produce enough electric vehicles based on government requirements. With Tesla only producing electric cars, they have plenty of credits to sell to other automakers, Morgan Stanley noted.

"Tesla recognized zero emission vehicle credit revenue equating to around $2k/unit in the quarter, more than 2x the recent run-rate. We believe as more legacy OEMs pull back on their EV plans, combined with increasingly stringent EPA standards, that Tesla may achieve an even more dominant position in the market for highly lucrative ZEV credits going forward," Jonas said.

Ford indicated in its recent quarterly earnings report that it entered into agreements to purchase $3.8 billion worth of regulatory compliance credits in North America and Europe, and General Motors and Stellantis are likely to follow suit, according to the note.

"We anticipate other car companies such as GM and STLA may be wading more deeply into the ZEV market as buyers in the quarters ahead. We estimates Tesla may account for as much as ½ the credit sales in the market, supporting a 100% margin business for Tesla that may not be anticipated by the investment community at this time," Jonas said.

Finally, Jonas highlighted Tesla's energy business as a bright spot that could see significant growth as overall energy demand increases because of AI data centers and as the grid gets less reliable due to severe storms.

"Recent indicators of climate change are bringing even greater attention to Tesla's dominant position in energy storage. Severe storms and unusual global weather phenomena (including heat waves) may be focusing investor attention on companies that may be well positioned to address climate- and energy-related problems," Jonas said.

"We see potential for the Tesla Energy business to be worth more than the autos business," Jonas said.

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