After the recent announcement of Tesla’s record breaking Q2 production and deliveries, the bears on Tesla can no longer say that Tesla can’t build or sell or deliver cars in Q2, but they can repeat the same for Q3. That’s fine with me. I’m ready to meet them. So, with everyone talking about the Q2 numbers today, I’m happy to shift the conversation to the third quarter. Let’s talk about what we know about Q3. (Full Disclosure: I’m long Tesla [TSLA] stock, but don’t expect this to be only good news.)
First, The Bad News:
1. In the US, the federal ZEV tax credit available to buyers has just gone down from $3,750 a car to $1,875 a car for Tesla buyers (because Tesla passed a 200,000 sales milestone last year), which will either make Tesla cars $1,875 less competitive or, if Tesla lowers prices to compensate, will squeeze margins, since it is unlikely (but possible) Tesla can take that much cost out of the car that quickly.
2. Since the reduction of the tax credit was somewhat publicized, even if Tesla lowers the price, it will still suffer reduced demand in the US due to customers rushing to buy cars before the tax credit was reduced. This effect should be much less this quarter than the Q1 drop because the reduction of the tax credit was $1,875 instead of a more significant $3,750.
3. Some of the pent up demand for Model 3’s in Europe has been satisfied by the significant deliveries that have been made over the last 5 months.
4. Some will be anticipating the Model S and X refresh that might have a new interior and 400 miles of range at the beginning of the fourth quarter, which will reduce demand for those Model S and X in Q3.
Because of these factors, I estimate demand could be down about 20,000 cars. If that was the end of the story, the bears would be somewhat correct and Tesla would be in some trouble.
Now For The Good News:
1. Tesla has a ship on the water with thousands of cars headed for China. The company didn’t have any ships on the sea at the end of the first quarter. This is evidence that Tesla is trying to send a more steady flow of cars overseas (Elon mentioned “unwinding the wave”). This is a departure from the company’s historical way of building up vehicles for shipment in the first 45 days in the quarter and then for the US and Canada in the last half of the quarter. That traditional method (for Tesla) maximized the quarter’s deliveries but caused most of the deliveries to be concentrated in the last few days of each quarter, which meant delivery resources were underutilized early each quarter and meant expensive expediting, overtime, and contract resources were needed at the end of each quarter.
Considering the US was almost sold out of cars in Q2, it’s likely Tesla didn’t have any production capacity to make any more cars to send to Europe. It had to send them to the US to capture the expiring tax credit. At the end of Q3, watch to see if a ship is sailing to Asia and/or Europe to see if Tesla is furthering its unwinding to maximize long term margins and profits and not worrying so much about short-term results.
2. The improved “Raven” Model S and Model X — with increased range, more power and substantially improved handling — are now more available outside the US. This should stimulate some increased demand.
3. Tesla didn’t change its lease prices in the US, even though there will be a smaller tax credit. This means for customers leasing the cars are just as good a deal as they were last week.
4. As I explained in this article at the end of March, the Tesla Cycle is intended to help Tesla balance production and demand when there are temporary factors (like those noted in the “bad news” section) influencing the market. For the 3rd quarter, there are two examples of the Tesla Cycle:
- The Model 3 will ship in significant quantities to satisfy the significant pent up demand for the right-hand-drive markets of England, Australia, Hong Kong, New Zealand, Japan, Ireland, and Macau. Considering Tesla’s history of moving to the top of markets when it has a competitive product, as I explained in this recent article, consider that BMW sells about 10,000 of its 3 Series a month in just the UK. If Tesla could make them, it isn’t unreasonable to think Tesla could sell 20,000 Model 3’s in just the UK in the 3rd quarter, versus almost none in the 2nd quarter.
- Tesla will ship many more of the Standard Range Plus Model 3’s to Europe and China (which it just started to deliver in Q2), countering reduced demand caused by working though the reservation list that we noted in the “bad news” section. China is the largest electric vehicle market in the world by far, often representing approximately half of global EV sales.
5. Customers like me who prefer white cars that reflect heat rather than black cars that absorb it might have been waiting for the 3rd quarter for the “free” color to change from black to white.
Because of these factors, I estimate the good news puts demand up about 30,000 cars in the third quarter (in gross, not net — not accounting for the “bad news” in the first section). By far, I think opening up the new markets is the biggest of the 5 factors boosting demand here.
Conclusion
Overall, I think demand for vehicles will be about 10,000 higher than in the second quarter versus the first quarter (30,000 boost from the “good news” and 20,000 drop from the “bad news”). None of this matters in the short term, though, if Tesla can’t produce more cars to satisfy increased demand.
Based on Tesla’s recent press release on Q2 2019 production and its previous release on Q1 2019 production, the company increased its production from 77,100 to 87,048 vehicles per quarter, an increase of almost 10,000. Based on the language of the Q2 2019 letter, “Orders generated during the quarter exceeded our deliveries, thus we are entering Q3 with an increase in our order backlog. We believe we are well positioned to continue growing total production and deliveries in Q3.”
If demand and supply are well matched, there should be no need for price cuts that could hurt margins. Will this satisfy the shorts? I can hear them saying, “But wait until the fourth quarter! Demand cliff coming, bankwupt for sure!”
