Could Tesla Go Bankrupt? The Odds Are Rising

With Tesla's "Next-Gen" compact EV on the back burner, its aging Models 3 & Y will drag down earnings with increasing needs for price cuts. Cash could run out.

This report is made up of 6 sections as outlined below:

• Section 1: Weak Product Pipelines Have Doomed Carmakers in the Past

• Section 2: Model 2 Pushout Implies Failure to Cut Costs and Leaves Tesla Without a New Product

• Section 3: How Other Carmakers Went Bankrupt & Similarities at Tesla

• Section 4: What About All of the Cash That Tesla Has? 

• Section 5: What Tesla Could Do to Survive

• Section 6: Legal Liabilities May Hinder Bailouts

Section 1: Weak Product Pipelines Have Doomed Carmakers in the Past

While the thought of Tesla going bankrupt may seem absurd to some, most people who’ve worked in the industry or watched major auto bankruptcies in the past understand the possibilities. Things crash hard and loud in the auto industry and I’ve never seen a carmaker in as dangerous of a position as Tesla currently is in.

The biggest bankruptcies in the auto industry were GM and Chrysler in 2009, and Nissan back in 1999. While Nissan didn’t fall into bankruptcy like GM and Chrysler did, it was essentially insolvent by the time Renault bailed it out in March 1999.

GM and Chrysler were bleeding red ink for 3 to 4 years before the Great Financial Crisis of 2008 put the final nails in their coffins, while Nissan became insolvent during the Dotcom Bubble, proving that carmakers can go bust even in bull markets.

All three carmakers had these two points in common:

1. Their model lineups weren’t selling well due to being mismatched with market needs at the time (GM & Chrysler didn’t have enough fuel-efficient cars; Nissan’s sedans weren’t competitive).

2. They resorted to hefty incentives (price cuts) to move the metal, which ultimately bankrupt them.

Tesla is entering a similar phase. I’m amazed at how the market hasn’t sold Tesla down to book value per share of $20 by now. Return on equity will likely plunge from 28% last year to 2% this year and most carmakers that pay dividends (Tesla doesn’t) trade at only 0.7x book value.

Carmakers operate in a highly capital-intensive world that has hundreds of players and fierce competition. While I’ve said this ad nauseam, it needs to be repeated:

If a carmaker does not (a) conduct full model changes every 5 to 7 years on existing models, and (b) introduce attractive new models, sales volumes could drop quickly and lead to insolvency.

This is exactly what happened to GM, Chrysler, and Nissan (see Section 3) and exactly the situation in which Tesla now finds itself. Here are the red flags that are being completely ignored given the fact that Tesla still trades at 8x book value per share:

• Street Estimates are Out to Lunch: Consensus estimates see Tesla growing deliveries by 16% YoY to 2.25 million units in 2025 and by 19% to 2.69 million units in 2026. What’s absolutely unrealistic about these estimates is that the aging Models 3 and Y make up 88% of the forecasts. If both need hefty price cuts to move the metal today, why wouldn’t they need them in 2025 and 2026? In the absence of any full makeovers—Tesla doesn’t do full model changes—these two models will only become older and less attractive.

• Models 3/Y Will Weigh on Earnings: The huge concentration of sales from the aging Models 3 and Y (96% of Q1 global deliveries) should bring down overall global sales in the absence of any new models (the Cybertruck is new but will only be a niche product in North America). This is why the $25,000 compact EV (aka the Model 2) is so important at a time like this.

• No Model 2 Means No Delivery Growth: The Model 2 has been put on the back burner and Musk said that they’d do Robotaxis instead (see my report on it here). This means there really isn’t a new product pipeline at Tesla, which is shocking to see considering how regularly rival carmakers release fully remodeled cars and new models.

• Shift to Robotaxis is an Admission of Tesla’s Automotive Demise: It takes at least 4 years and billions in R&D and capex to roll out new models or conduct full model changes. On the Q4 2023 earnings call in January, Musk said that the Model 2 would be out in the 2H of 2025 (Tesla told suppliers that start of production would be in June 2025). But now this is in limbo as Musk pivots to “autonomy” and is prepared to bet most of Tesla on it (see Figure 1). My gut feeling is that he knows he made an epic mistake by not having rolled out a few more new models and now needs to somehow maintain Tesla’s valuation by pumping the Robotaxi “AI” theme. Tesla is nowhere near achieving full autonomy and the proof is that they haven’t even applied for permits to start a driverless car business in California (article on this here).

Figure 1: Musk Switches Tesla’s Focus from EVs to Autonomy

Tesla’s aging model lineup led to average prices dropping by 15% YoY in 2023 as Tesla cut prices each quarter. This helped Tesla’s new factories in Texas and Germany ramp up a bit (from 31% capacity utilization in 2022 to 52% in 2023) and deliveries grew by 38% YoY.

This year, however, price cuts continue but volumes are starting to dive big time: Q1 deliveries were down 8.5% YoY, but the drops in March were quite huge with the EU down 35% YoY and China down 19% YoY. Figure 2 shows how Tesla’s aging model lineup has caused prices to plunge to new lows recently.

Figure 2: Old Model Lineup Leads to Price Cuts

Source: Tesla

Figure 3 shows the age of Tesla’s model lineup versus the average age of a carmaker’s lineup worldwide. Tesla already has the oldest model lineup in the world and the declining age of the industry average is due to rival carmakers rolling out tons of new models, hence lowering the age of their product lineups. This presents a “double-whammy” effect: demand for Tesla’s old models is sinking while rivals roll out new models that take further share away from Tesla.

This leaves Tesla with two choices:

1. Cut prices further despite damage to Tesla’s brand value.

2. Stop the price cuts to save Tesla’s brand value by allowing sales to drop.

Both will have negative impacts on earnings and the worst-case scenario—which Tesla is in—is that volumes drop despite price cuts.

Figure 3: Tesla Has the Oldest Model Lineup in the Industry

Source: BOA, Tesla & MH estimates

Section 2: Model 2 Pushout Implies Failure to Cut Costs and Leaves Tesla Without a New Product

Here are the main points about the Model 2, Tesla’s affordable compact EV (for more details see my report from April 7th here):

• The Model 2 was supposed to be priced at $25,000, sell over 500,000 units per year, and generate an estimated 22% gross margin (see Figure 4). The 22% gross margin is an estimate based on Tesla having said the Model 2 would have 50% lower production costs at their Investors Day event in March 2023. Cost/unit in Q1 2023 was $38,505 and at half of this, the gross margin comes out to 22%, which is higher than the 15% gross margin for Tesla’s current model lineup.

• The 50% lower production costs would come from a “revolutionary” new method of manufacturing called “unboxed production”. For reference, Toyota Motor took years to develop its TGNA platform which reduced costs by 20%.

• The unboxed production system is planned to improve line operator density by 44% and space time efficiency by 30%.

• 500,000 units of the Model 2 per year would be an incremental $2.7 billion in Automotive gross profit.

• Based on these maths, the Model 2 would’ve only stabilized the decline in profitability of Tesla’s existing old line-up, which saw Automotive gross profit peak at $20 billion in 2022 and drop to $16 billion in 2023. Still, it could’ve bought some time for Tesla to roll out other new models.

Figure 4: Model 2 Profitability vs the Models 3 & Y

Source: Company data and MH estimates

While no one knows for sure whether the Model 2 was scrapped or just put on the back burner, it will undoubtedly be the key topic of Tesla’s April 23rd Q1 earnings call. The following points below lead me to believe that Tesla may have scrapped or delayed the Model 2 due to not having been able to achieve the planned 50% reduction in production costs:

• Musk switched the location of Model 2 production from a new plant that Tesla would build in Mexico to their Austin factory. The excuse was to have it produced closer to Tesla’s engineers at the Austin plant. This was odd given the fact that labor costs in Mexico are roughly 1/4 of what they are in the US. One explanation was that Tesla was in fact planning to do pilot production in Austin before switching it over to an exclusive plant. However, given the fact that the Mexican plant will take around 2 years to construct, this decision didn’t make sense and lacked a sense of urgency.

• Repeated reports of Giga Mexico breaking ground “soon” have come and gone without the start of construction of the plant.

• Chinese suppliers whom Tesla encouraged to build production plants in Mexico to supply the Model 2 were said to have received instructions from Tesla to halt further development late last year.

• Musk tweets “Robotaxi unveil 8/8” a day after Reuters had an exclusive scoop based on three suppliers and one insider all confirming that the Model 2 program had been scrapped last December.

• And finally, Drew Baglino, Senior Vice President of Powertrain and Energy Engineering left (was let go from?) Tesla amid the massive layoffs this week. While many have speculated that he was fired for not having been able to fully develop Tesla’s more efficient and lower-cost 4680 battery cells, it could’ve been because he failed to achieve the Model 2’s lower production costs. He was after all the key presenter of Tesla’s revolutionary “unboxed” production system at Tesla’s Investors Day in March 2023.

Section 3: How Other Carmakers Went Bankrupt & the Similarities at Tesla

Troubles at GM, Chrysler, and Nissan—the three biggest insolvencies of our time—all started with weak model lineups that led to sales declines, which in turn, brought on cash flow problems.

Tesla has no new products at the moment and even if the Model 2 were to be launched in 2026 and become profitable in 2027, it could be too little, too late. Musk’s comment below is extremely ignorant but no surprise coming from someone who mismanaged Tesla’s product pipeline so badly (e.g. spending so much time on the Cybertruck rollout instead of, say, a new large SUV that could be sold globally).

“Tesla is currently between two major growth waves. We're focused on making sure our next growth wave — driven by the next-gen vehicle, energy storage, full self-driving, and other projects — is executed as well as possible”.

Elon Musk on the Q4 2023 earnings call; January 26, 2024

GM & Chrysler Failed to Roll Out Fuel-Efficient Cars

Both GM and Chrysler were generating losses with weak product lineups as the rising oil price shifted demand away from their gas-guzzling light trucks to more fuel-efficient Japanese cars.

The oil price rose from a low of $17 in 2001 to nearly $100 by the end of 2007, and despite having had the time to roll out some smaller, fuel-efficient cars, both GM and Chrysler chose to stick to their light-truck lineups.

While mid-size sedans like the Toyota Camry and the Honda Accord were the darlings of the car market at the time, GM and Chrysler had too much concentration in the light-truck segment and began generating losses from 2005 due to heavy discounting (GM was giving cash incentives of $3,400 at the time, which is $4,825, adjusted for inflation).

This is similar to Tesla’s current situation where hybrids are taking away share from EVs globally due to a substantial slowdown in EV adoption. The EU appears to be having an extreme backlash to EVs: March EV sales were down 11% YoY while hybrid sales were up 15% YoY. Tesla’s March deliveries in the EU were down 35% YoY.

In the end, the Great Financial Crisis led to GM and Chrysler going bankrupt in 2009. GM restructured under a US government bailout and re-listed on the stock market in 2010. Chrysler was ultimately absorbed by Fiat and today is part of the PSA Group.

Nissan Built Many Factories But Skimped on R&D for New Models

Like Tesla, Nissan in the 1990s held back on full model changes and focused on growing production capacity worldwide. At the time, the mid-size sedan boom was starting in the US and cars like the Toyota Camry, the Honda Accord, and the Ford Taurus were growing in popularity. Nissan’s Altima, however, was struggling due to its old age and Nissan used heavy incentives to move the metal.

Nissan’s President of North American operations admitted, “We did not invest enough in developing the kinds of vehicles customers want in the United States; we had holes in our product line—no small SUVs, no four-door truck and no V-6 truck,’ which were all hot-selling vehicles at rival carmakers.

Nissan generated net losses for 5 years between 1994 and 1999 and repeatedly missed targets of its restructuring plans. Between July 1997 and October 1998, Nissan’s stock price plunged by 65% from ¥837 to ¥290 despite the onset of the Dotcom Bubble.

Talks with Daimler Benz had fallen through and Nissan looked done for with its rising debt. In March 1999, Renault assumed $5.4 billion of Nissan’s debt in return for a 36.6% equity stake. The Nissan Revival Plan that was implemented thereafter led to one of the most astounding turnaround stories in the auto industry. Unfortunately, this relationship is currently on the rocks, as Renault is selling down its stake in Nissan, who is now exploring a joint-procurement alliance with Honda.

Section 4: What About All of the Cash That Tesla Has?

Many look at Tesla’s cash & equivalents of $29 billion and conclude that Tesla is cash-rich. I have my doubts for the following reasons:

• In the past 5 quarters, Tesla on average made 57% of its quarterly deliveries during the last month of the quarter. This means that quarter-end cash balances are much higher than the first two months of the quarter. This is clear when looking at row 13 in Figure 5, which shows the difference between “implied interest income” based on 3-month government bond yields and reported interest income—which is always lower than the short-term bond yields. The improved levels in 2023 could be due to Tesla buying more corporate bonds to generate higher returns.

• In 2023, Tesla had negative net working capital of $7.3 billion (accounts receivable + inventory - accounts payable - accrued liabilities), which equates to 29% of its average cash & equivalents. Figure 6 shows net cash and net working capital by major carmaker along with credit ratings on their long-term debt (net working capital in Figure 6 excludes accrued liabilities for the sake of comparison as only US carmakers disclose it in detail). Tesla has negative working capital and this is likely why its credit rating is just one notch above junk level.

• Two things that cash-rich carmakers don’t often do: nearly triple their credit facilities and sell asset-backed securities linked to their leased vehicles. In January 2023, Tesla closed its $2.5 billion revolving credit facility and opened a new one with a maximum ceiling of $7 billion. In the 2H of 2023, Tesla financed $3.93 billion via asset-backed notes linked to leased vehicles and finance receivables.

Figure 5: Tesla’s Interest Income Not in Synch With Cash Balance

Source: Company data & Bloomberg

Figure 6: “Cash-Rich” Tesla Rated Just Above Junk Status

Source: Company data & MH estimates

Tesla’s credit rating—which is one notch above junk status—is likely due to its huge working capital needs. Also, Tesla’s renowned vertical integration may have contributed to profitability when sales were growing by 50% YoY between 2020 and 2022, but as revenues begin to decline now, vertical integration is a curse. Things can unwind very quickly if Tesla has a nasty quarter.

During the onset of the pandemic in Q2 2020 when factory shutdowns began, Nissan burned through 78% of their net cash in only 3 months (see Figure 7). Nissan was on shaky ground to begin with in the years before the pandemic. With two new factories running below 50% of capacity, Tesla would have a tougher time than Nissan in a sudden downturn of demand. And while Tesla could finance, the cost of financing would be steep and highly dilutive given its boom and bust track record.

Figure 7: Nissan Burned 78% of its Cash in Q2 2020 Due to Factory Lockdowns

Source: Company data

Section 5: What Tesla Could Do to Survive

First and foremost, Tesla should immediately finance around $100 billion (20% dilution) to hold it over for the next 4 years. This could allow Tesla time to roll out a new model and fully renew the Models 3 and Y. This assumes that Tesla burns around $20 billion of cash per year and needs another $20 billion to fund its capex for the new models.

The next important step would be to stem losses by as much as possible via capacity adjustments, which would best be done as follows:

• Close the factory in Grünheide, Germany, and let the Shanghai plant supply the EU market. If domestic sales in China drop and exports continue to fall (Q1 exports were only down 3.7% YoY, but March saw a 26% YoY drop in exports), Tesla is in danger of violating its agreement with the CCP to have minimum revenues of ¥75 billion ($10.4 billion). While 2023 revenues from the Shanghai factory were around $24 billion, Tesla is on extremely fragile ground there, given the fierce competition.

• Shrink the Fremont factory’s Model Y line and let the more efficient Austin plant handle most of the Model Y’s supply. Many believe that the Fremont plant should be shut down, but it produces the Models S, X, and 3, which would require huge investments to produce elsewhere.

All of this would lead to massive write-offs, but right-sizing Tesla’s excess capacity is crucial in turning the ship around.

Would Musk do something radical like this? Aside from the equity financing, of course not. But if he’s fired, maybe his successor could conduct such major surgery at Tesla.

Section 6: Legal Liabilities May Hinder Bailouts

If Tesla were to become a distressed credit play and fall to $25 (83% below current levels), it would have a market cap of $80 billion. This could draw potential suitors due to the following attractive areas of Tesla as an acquisition for a carmaker:

• Brand value

• The vast charging network

• Giga-casting capabilities (leads to reduction of parts)

• Drivetrain technology (motors)

• State-of-the-art software technology

The most likely suitors would be Chinese carmakers in search of a swift entrance into the North American market, but given US-China political tensions, this may be blocked by the US government.

Toyota and Honda would likely abstain from getting involved with Tesla due to big differences in corporate cultures. GM and Ford would likely love to gain access to Tesla’s non-union factories in California and Texas, but they may be cash-constrained.

Tata Motor would likely jump at the chance to gain access to Tesla’s assets in the US, but its market cap is only $43 billion (half of Tesla’s market cap of $80 billion if its stock fell to $25) so it would be a stretch on Tata’s balance sheet.

This leaves BMW and the Mercedes-Benz Group (MBG) as the only potential suitors. Both have ample cash and large market caps of around $80 billion (see Figure 9). Both have robust EV programs and could benefit at least from Tesla’s charging network and software technology.

The question is whether any potential suitor is put off by Tesla’s legal liabilities, which are large and wide-ranging. Below are the most serious issues:

• Roughly 65 lawsuits related to Autopilot/FSD

• Department of Justice probes into FSD

• Structural quality issues (chronic problems with suspensions & HVAC)

• Racial discrimination class actions

The fact that Tesla recently settled an Autopilot lawsuit on the eve of the trial’s start shows that Tesla is sitting on a big closet full of skeletons. As Tesla begins to unravel and its market cap drops, it likely becomes easier for plaintiffs to go after Tesla.

Also, if retail investors have already been wiped out by the crash of Tesla’s stock, it makes it easier for regulators like NHTSA to order recalls and the Department of Justice to indict Tesla for fraud. The thought of wiping out Americans’ 401-Ks and individual investors’ Tesla holdings by indicting Tesla or Elon Musk is likely a concern among government agencies.

Finally, Figures 8 and 9 show Tesla’s valuations and returns versus rival carmakers and the constituents of the Magnificent 7. Tesla is clearly overvalued both as a carmaker and as an “AI” stock. And if earnings and free cash flow turn negative this year (Q2 is a distinct possibility, given restructuring charges), Tesla could see its stock price plunge even further than its current 40% year-to-date decline.

Figure 8: Tesla vs Rival Carmakers’ Returns & Valuations

Source: Company data, Bloomberg, & MH estimates

Figure 9: Tesla vs the Other 6 of the Magnificent 7

Source: Company data, Bloomberg, & MH estimates

Note: Nothing in this report is investment advice