About that Tesla third-quarter ‘profitability’

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Two months ago we made a rudimentary attempt to figure out just how Tesla would become profitable in the third quarter of 2018.

Using nothing but an Excel spreadsheet, Tesla’s guidance, and some rough modelling, we came to the conclusion that, bar a miraculous move in the Model 3’s gross margins, it was going to pretty, pretty tricky for Tesla to move into the black.

With news last week of Tesla’s deliveries for the third quarter, we thought it was high time to dust off the FT Alphaville Tesla Q3 Profit Generator™, plug in the new numbers, and work out whether this new data point had moved the needle.

First off, here’s our model from last time (the full explainer, replete with tortured assumptions, can be read here):

Let’s start with the crucial Model 3 delivery number.

We originally estimated 60,000 cars being delivered, based on 11,166 vehicles being in-transit at the end of the second quarter, and Tesla’s guidance in the earnings’ press release.

It seems we were a touch off. Tesla ending up delivering 55,840 Model 3s, 7 per cent lower than we thought. But with what asking price? From last week’s presser:

Our Q3 Model 3 deliveries were limited to higher-priced variants, cash/loan transactions, and North American customers only.

So not much more to go on here. In our model we estimated an average sale price of $65,000 — the mean price for the top-end Model 3s — so we’ll stick with this. Multiply by the number of deliveries and, hey presto, that’s $3.6bn in revenue.

Repeat the trick with the 27,660 Model S and Model X deliveries at an approximated asking price of $104,000, add that to the mix along with $644m from energy and services, and our magic 8-ball shows Tesla’s top line bringing in just under $7.2bn in revenue this quarter.

All things remaining equal, it looks like it might be another red quarter for Tesla:

A loss of $274m, a shade higher than our first estimate of $209m.

Save aggressive cost-cutting, the Model 3’s gross margins look like they will make or break this quarter for Tesla.

We plugged in a gross margin of 11 per cent originally, noting the Model 3 had a negative gross margin in the second quarter including non-cash items, and given ongoing teething problems at Tesla’s Fremont plant — perhaps best encapsulated by a manufacturing line housed in a giant tent — this figure doesn’t seem particularly unfair.

But let’s say Tesla ironed out some of its production issues, bringing its gross margins closer to the 15 per cent mark, as Musk said they might on the last conference call.

That would boost the Model 3’s gross profits from $399m to $544m — a decent chunk of change, but still not enough to push Tesla into the black:

As hinted at, Tesla could also save some money by controlling its operating costs. However even if both research and development and selling, general and administrative expenses remained flat, rather than growing, quarter-on-quarter, it would still record a $28m loss:

Whether such cost control is possible with revenues close to doubling over three months is another matter.

For instance, the logistics of delivering 83,500 cars has clearly been difficult for Tesla, but it should have addressed that way in advance, given the ramp-up in Model 3 production over the past year.

Unfortunately, this wasn’t the case, with several news organisations documenting the problems Tesla has had getting cars into customers’ hands. Even two weeks after the quarter finished, Musk was still referring to “logistics hell” on Twitter:

Given the administrative infrastructure needed to organise the shipping of 80-odd-thousand cars efficiently, it is therefore unlikely operating costs stayed flat, let alone declined.

Shedding research and developments costs seems equally unlikely. For one, if Tesla’s R&D expense were to fall, what would that signal about the future of the “super-exciting set of products“ which Musk mentioned on the conference call? Tesla’s valuation is, of course, not only predicated on the success of the Model 3, but also the promise of the electric semi-truck, the Model Y, the next-generation Roadster and its self-driving tech.

For instance, investment bank Macquarie initiated coverage of Tesla Monday with a $430 price target (the shares closed Tuesday at $262.80), placing a lot of emphasis on its advantage in self-driving technology:

We believe those focused on the path to highly disruptive ecosystem platforms, including the necessary journey to electric & autonomous, will be the potential winners. We see Tesla as uniquely positioned given its lead in deep software platform integration into its electric vehicles and its position in autonomous with more than 8 million miles of real-world driving data per day.

Similarly, the brainiacs at Berenberg think the market “underestimates the full extent of Tesla’s technological advantage . . . which manifests in the entire electronic architecture of the vehicle as well as the battery management system”. It has a $500 price target on the stock.

It is therefore unlikely Tesla will cut back on its R&D spending. Unless, of course, it believes its technological advantage is unassailable. An idea that doesn’t jibe with Consumer Reports’ first ever ranking of partially autonomous driving systems, published last week, which placed Tesla’s autopilot second behind General Motors’ Super Cruise. Seems Detroit has a few tricks up its sleeve after all.

So returning to our model, and it is hard to figure out just how Tesla can eke out a profit this quarter, even with Model 3 gross margins of 15 per cent:

To be honest though, we’re not so sure if Tesla still think this quarter will be profitable either.

Just compare the language regarding third-quarter profit and cash flow guidance from the second quarter’s press release:

We also reaffirm our guidance for positive GAAP net income and cash flow in Q3 and Q4, despite negative pressures from a weaker USD and likely higher tariffs for vehicles imported into China as well as components procured from China.

Versus the third quarter’s:

Our net income and cash flow results will be announced along with the rest of our financial performance when we announce Q3 earnings.

Hmmm.

Related Links:
Tesla: getting to Q3 profitability — FT Alphaville
Calling all suburban Bond villains — FT Alphaville


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2018-10-10 04:00:45

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