Tesla Preview: Price War Stokes China Demand but Likely Trims Profit Margins
Tesla ignited an EV price war earlier this year. It's paying off in sales but comes with a cost.
Tesla ignited an EV price war earlier this year. It's paying off in sales but comes with a cost.
Tesla (TSLA) - Get Free Report is betting that steep price cuts, particularly in China, will shore up EV sales and protect its overall market share in the face of fading demand and increased competition.
This as the Austin group prepares to publish March-quarter delivery figures over the coming days.
But the ongoing EV price war, which has triggered reductions from 40 different global brands, is also likely to take a healthy chunk out of Tesla's profit margins. That adds extra pressure on the closely tracked delivery figures and its first-quarter earnings report slated for April 17.
Analysts expect Tesla to deliver around 420,000 total units over the three months ending in March, a tally that would put it just shy of the pace need to meet its full-year target of around 1.8 million.
Tesla delivered a record 405,278 new cars over the three months ended in December, up 31.5% from the year-earlier period but shy of analysts' forecasts. For 2022 deliveries were pegged 40% higher on the year at 1,313,851.
China Demand Key to 2023 Delivery Targets
"We are planning to grow production as quickly as possible in alignment with the 50% [compound annual growth rate] target we began guiding to in early 2021," Tesla said in early January. "In some years we may grow faster and in some we may grow slower, depending on a number of factors."
"For 2023, we expect to remain ahead of the long-term [compound annual growth rate] with around 1.8 million cars for the year."
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China sales data thus far have been promising, with Tesla shifting around 140,400 cars over the first two months of the year in the world's biggest market, according to data from the China Passenger Car Association.
That pace, if maintained over March, would mean China sales would comprise around half of Tesla's first-quarter total and hold its overall market share at around 11.5%.
"Clearly since the Model Y/3 price cuts were implemented early this year demand has been robust during the course of 1Q led by the key China region, which should enable Tesla to at least hit the ~420k bogey for the quarter with possible upside depending on logistics around deliveries this week," said Wedbush analyst Dan Ives. He carries an outperform rating with a $225 price target on Tesla.
"That said, the macro remains uncertain and we would not be surprised to see more slight price cuts around the edges both in the US and China over the coming months for Tesla to further stimulate consumer demand," Ives added.
Tesla reduced the starting price of its Model 3 sedan by around 13.5% in China, according to data from its website. It lowered the price of its Model Y by around 10% to 259,900 yuan, the equivalent of around $37,660, as it dealt with increasing competition from China-based rivals in the world's biggest car market.
Musk Sees 2M Target Potential 'if it's a Smooth Year'
"The Chinese market is the most competitive. They work the hardest and they work the smartest," Musk told investors earlier this year. "I have a lot of respect for the China car companies that we're competing against."
That's an important development for Tesla investors, who are looking to assess the impact of a series of price cuts on overall profit margins. They'll find solace in the fact that lower selling costs will boost demand bring the group closer to its stated 1.8 million target. And they can take heart from CEO Elon Musk's suggestion that 2023 sales could reach 2 million "if it's a smooth year ... without some big supply chain interruption or massive problem."
But apart from falling short of its own delivery targets, Tesla is also finding that demand-focused price cuts are eating into its profit, with automotive gross-profit margins narrowing to 25.9% over the three months ended in December.
That's the lowest in two years and a narrowing from the 27.9% figure recorded over the third quarter.
Musk put the margin pressures down to battery-production costs, the ramp up of factories in Berlin and Texas, higher commodity costs and price cuts.
"Price really matters for EV sales," Musk told investors on a conference call after the company's earnings report. "Our price cuts will make a difference to the average consumer looking to buy a Tesla. Our goal is to make our cars as affordable as possible."
Tesla CFO Zach Kirkhorn made an effort to defend those figures from falling below the 20% threshold, which many analysts see happening before the end of the year. He said during an investor day presentation earlier this month in Austin that the group would halve EV production costs over the coming years as it aimed to significantly ramp-up capital spending to meets its stated goal of producing 20 million cars per year by 2030.
Weakening Macro Highlights Margin Concerns
"While the China EV market is seeing a price war dynamic take place we believe Tesla has been aggressive and strategic about its Model Y/3 price actions which have paid major dividends so far this quarter around gaining market and mind share from domestic players," Ives said. "The big question going forward for bulls and bears is around margins and will more big price cuts be in the future for Tesla to catalyze demand."
Morgan Stanley's Adam Jonas, who carries an overweight rating on Tesla stock with a $220 price target, said in a recent client note that Tesla's goal of a minimum automotive gross margin of 20% over the first three months of the year "may prove difficult to defend in subsequent quarters in the event of continued downward price competition and slowing economic growth following recent events in the global banking sector and knock-on impacts on the consumer."
Tesla shares were marked 0.95% higher in pre-market trading Thursday to indicate an opening bell price of $193.88 each, a move that would extend the stock's year-to-date surge to around 57.4%.
Short interest in Tesla shares remains elevated, however, with bets against the group pegged at around $16.42 billion, according to recent data from S3 Partners. The figure represents around 3.3% of the group's shares outstanding. (Short interest reflects bets that a stock's price will decline.)
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