The Good Ship Tesla Is Sailing Into The Perfect Storm
Nov. 20, 2018 1:56 AM ET|41 comments | About: Tesla, Inc. (TSLA)
Long only, value, special situations, growth at reasonable price
(991 followers)
Summary
Tesla surprised with a higher-than-expected profit in Q3.
However, the North American order backlog is now exhausted, and Tesla will have to start making Model 3s for overseas delivery.
Lower tax credits in the USA and the Netherlands will put downward pressure on sales in Q1.
Most of Q1 production will have to be exported.
Longer delivery times will lead to record cash outflows in Q1.
After reporting an unexpectedly high profit for Q3, the good ship Tesla (TSLA), with the intrepid but sometimes addlepated Elon Musk at the helm, is sailing into some rough waters for the next two quarters.
Source: Pixabay.com
Q4 headwinds are building, North American sales become demand-driven
Between July 1st and October 31st Tesla delivered about 72,500 Model 3 cars. If the data in the TMC Model 3 tracker spreadsheet is correct, about 57,000 of those cars were delivered to reservation holders. These were not new sales, they were simply deliveries of sales that had been made over a period of more than two years.
Since the beginning of Q3 when sales were opened to non-reservation holders about 15,500 cars have been delivered to new customers, indicating that new orders have been coming in at a rate of less than 1,000 cars per week. Clearly, outside of the group of reservation holders, demand from North America is nowhere near enough to keep the Tesla factory running at capacity.
There are strong indications that the Model 3 backlog in the USA and Canada is now depleted. Between now and January, when manufacturing for overseas buyers is expected to start, Tesla must sell enough cars in the USA and Canada to keep the production lines running.
On October 18th, with no advance warning, Tesla introduced a lower priced mid-range Model 3. The new mid-range Model 3 carries a base price of $46,000 (originally $45,000), about $3,000 less than the long-range Model 3 which is no longer available. The price is $6,000 more than the equivalent, but not yet available, short-range version. Delivery before December 31st will give the buyer an extra $3,750 tax credit compared to a car delivered in 2019, so the net price difference between the short-range and mid-range versions is only $2,250 after accounting for the tax credit.
The mid-range version is identical to the long-range version except there are fewer cells in the battery pack, so the new variant can be manufactured with minimal design changes and no interruption to production.
The mid-range variant appears to be a desperate attempt to bring in extra orders to maintain production till the end of the year. It has brought in some new customers and has pulled forward some sales from reservation holders who were waiting for the short-range Model 3. However, based on entries to the TMC spreadsheet, that demand has been short-lived and new orders have now fallen below the levels seen in early October.
Tesla has recently stated that any cars ordered by November 30th will be delivered by year-end to qualify for the full FIT credit. That would not be possible if there were a significant backlog. For the first time since the Model 3 was introduced, deliveries for Q4 will depend on how many cars Tesla can sell, not on how many they can produce.
Choppy seas, average selling prices and margins are falling
During Q3, Tesla cherry-picked the high value and high margin orders from its backlog to maximize income and profits. That is a perfectly legitimate and sensible thing to do, but it leaves the lower margin cars to be delivered in Q4.
Introduction of the mid-range Model 3 will also have a negative effect on revenue and margins for Q4 compared with Q3. Buyers of the lower priced variant buy fewer of the high margin options which further reduces ASP and has a magnified effect on margins. The take-up rate for enhanced autopilot is significantly lower among MR buyers, as are the take-up rates for non-black paint and white seats.
The table below is my best estimate of the ASP and margins for Q3 and Q4, estimated using data from the TMC spreadsheet.
Even without a drop in the number of Model 3s sold, Q4 will likely see a reduction in automotive revenue of about $300 million and a fall in margins of about $200 million compared to Q3.
Q1 2019 – heading into the “Perfect Storm”
On December 31st, 2018, the FIT credit subsidy for Tesla buyers will be reduced from $7,500 to $3,750 per car. In all other places where subsidies have been reduced, sales have climbed in the months ahead of the subsidy and have collapsed when the subsidy has been removed.
The chart below shows what happened to electric car sales in Denmark after tax breaks were phased out in 2016:
Source: Bloomberg
$3,750 is not a big saving on a $60,000 purchase. However, it is the psychology of buying that drives people to bring forward their purchases. Buyers use the cost differential as an excuse to get their new toy a little earlier.
Tesla has already taken advantage of that by offering penalty-free lease terminations for Model S and X owners in Q3, which effectively pulls sales for the S and X into 2018 from 2019.
Also expiring in January is a tax break for electric cars costing more than 50,000 euros in the Netherlands. Sales of the Model S and X in the Netherlands in Q3 amounted to $273 million, equivalent to 2,500 cars. Q4 will likely be similar, but S/X sales in the Netherlands will fall off a cliff in Q1 2019.
So going into Q1 2019 Tesla will be in a situation where US sales of all three of its automotive products are close to zero, there will be no orders backlog and Tesla will be relying on exports for most of its Q1 revenue.
European Homologation, planting a seed of doubt
Homologation in Europe is a procedure to provide standardization of automobiles in all European countries based on tests which may be carried out in any one of those countries. Specific technical requirements are found in approximately 130 separate regulations, addressing vehicle components like lighting and instrumentation, operational characteristics including crash-worthiness or environmental compatibility. Homologation extends beyond Europe because 60 other countries have adopted the same standards, and most of them accept the European homologation.
Testing requirements for the batteries of electric vehicles became mandatory in 2016. Tesla has not made any statements regarding the progress of any of the homologation tests. Most of us are assuming that the tests are near completion and manufacturing for Europe can start soon. However, when we find that Tesla has recently posted a job opening for a battery safety engineer to spearhead the homologation testing, with applications not closing until December 18th that plants a seed of doubt.