Diary of a Tesla Short Seller: Bad Start to 2024
More China price cuts; Hertz to dump 20,000 used Teslas & German factory idled
China Price Cuts Reveal Failure of Model 3’s Refresh
While a price cut of the Model Y was expected, the 6% ($2,163) discount of the newly refreshed Model 3 “Highland” announced last night is a bad sign. The refresh process required a slowdown of Tesla’s global output in Q3 for factory upgrades, which led to a 10% drop in production compared to Q2.
The refreshed version—which went on sale in China and the EU from late October—was also expected to rejuvenate global Model 3 sales, which had been under pressure due to its old age (the Model 3 hasn’t undergone a full makeover since its 2017 launch).
Since launching its production in Shanghai 4 years ago, Tesla only has two models it makes in China (a third of its global deliveries) while local rivals like NIO, Li Auto and Xpeng have launched 4 to 6 models, each. The rapid-fire launching of new models at rivals shows how fickle the Chinese car buyer is and how Tesla’s strategy of price cuts may ultimately lead to problems there. While Tesla boasts that the Model Y is the world’s best-selling car, the fact that it took 4 price cuts since November 2022 after only being on sale for 3 years in China shows how stiff the competition is over there compared to the US.
The main thesis behind my bearish view on Tesla is based on its long-in-the-tooth model lineup, which will require more and more price cuts in order to grow henceforth. In the absence of a full model change for the Models 3 and Y, the consensus view that margins will “bottom out” in 2024 is far removed from reality, in my opinion. Once a price cut is implemented, it doesn’t end until the next-generation model is introduced to replace the old version. Tesla has no immediate plans for the new versions of the Models 3 and Y, which make up 95% of global sales. Figure 1 shows the optimistic consensus estimates of Tesla’s operating margins versus my bearish view. Below are a few more key points regarding China.
Figure 1: Tesla Operating Margin Estimates (Bulls vs a Bear)
The 3% price cut for the cheapest Model Y brings the price down to ¥258,900 ($36,144)—a new record low—or 18% below its peak price of ¥316,900 ($44,241) in 2022. Tesla is making close to zero profit margins on Model Y sales in China at these prices. The Model 3 should be at slight loss now.
The risk with the new discounts is that the lower-end Model Y is now only $1,815 more expensive than the Model 3’s cheapest variant ($34,329). This could lead to potential Model 3 buyers springing for the Model Y, which offers more value at a price point only 5% higher. It wouldn’t be surprising to see another cut in Model 3 prices given this situation. The average spread in price between the Model Y and Model 3 has been $6,022 on average since the Model Y was launched locally in January 2021.
While Q4 2023 deliveries in China were at a record high of 175,035 units, this was achieved by promotions such as low interest-rate loans of 2.75% for 3 and 5-year loans and an insurance subsidy worth ¥8,000 ($1,117). The current price drop should be a bigger hit to profits as it’s all in cash.
Hertz Dumping Could Harm Tesla’s Residual Values
Hertz announced that it was selling one third of its EV fleet in the US (20,000 vehicles, mostly Teslas) and this caused Tesla’s share price to drop by nearly 3% yesterday versus a flat Nasdaq 100. This news had been reported 2 days ago, but Hertz making a formal announcement about it premarket yesterday seems to have sparked the sell off.
Hertz said it was selling a third of its EV fleet because of (1) high maintenance costs, (2) low resale values and (3) a lack of demand for Tesla EVs (this could be an interesting prelude of future EV adoption in the US).
Tesla’s used car prices were already under pressure last year given the 5 price cuts it conducted in the US. Reductions in new car prices automatically push down used car prices. The magnitude of declines in Tesla’s used car prices from the cuts in its new car prices is nicely displayed in Figure 2 below.
Three risk factors exist from the liquidation of 20,000 Teslas by Hertz:
Hertz Dumping 20,000 Used Teslas Could Push Prices Down Further: Average used prices for Teslas have dropped to $37,869 as of December according to CarGurus (see Figure 2). Hertz is offering 2021 Model 3s with 60,000+ miles on the odometer for around $18,000. This could push used Tesla prices down further, especially as Hertz’s pricing appears highly optimistic.
Hertz’s Prices for Used Model 3s Are Too High: Hertz’s pricing appears optimistic. Figure 3 shows that Hertz is offering 2021 Model 3s for around $18,000 with just over 60,000 miles of use. Battery degradation becomes more pronounced once 100,000 miles have been driven, which is why Tesla’s warranty covers 4 years or 100,000 miles of driving. A brand new Tesla Model 3 at $38,990 will drive for 100,000 miles, or $0.39 per mile. Hertz’s used Model 3 with 40,000 miles of driving range left on it costs the driver $0.45 per mile. The only way the $18,000 used Model 3 makes sense is if the buyer is eligible for the $4,000 EV tax credit available on used EVs below $25,000. This would lead to a 10% lower cost of $0.35/mile versus the new Model 3’s $0.39/mile, but you’d be driving a used rental car with lots of wear and tear. To match a new model’s price of $0.39/drivable miles without the EV tax credit, Hertz would need to drop the price of its used Model 3s to $15,600.
Hertz’s 20,000 Teslas Make Up 5% of the Used EV Market: Recurrent has the only estimates of America’s used EV market that I could find (see Figure 4). Based on their data, Hertz’s liquidation of 20,000 Teslas could account for 5.1% of the US used EV market based on 2023 data (source here). If Recurrent’s forecasts for 2024 are correct, Hertz’s 20,000 Teslas would make up 3.6% of estimated used EV sales. This is a large portion of the market to be supplied by a single entity, which risks further downside in Tesla’s used prices.
Figure 2: Tesla’s Used Car Prices in the US
Figure 3: Hertz Holds a Fire Sale on Tesla Model 3s
Figure 4: Size of the Used EV Market in the US
Continued pressure on Tesla’s used car prices should pose a risk not only to Tesla’s car leasing business, but also to its resale value guarantee (RVG) sales. While Tesla stopped disclosing RVG revenues as of Q4 2022, there were roughly $2.5 billion of RVG revenues in the 3 years through 2022. In 1H 2019, Tesla took a $564 million hit from mispriced RVG deals on the Models S and X. The RVG deals on the Models 3 and Y should be much bigger in terms of volumes and revenues.
German Factory Idled for Two Weeks
Roughly 30 minutes before the market’s close yesterday, news came out that Tesla would be halting output at its German factory due to delays in deliveries of parts because of attacks on ships in the Red Sea. Volvo Car also announced a 3-day stop to production at its Belgian plant due to delays in shipments of gearboxes. Both Tesla and Volvo have key components for its European production shipped in from China, from where ships use the Red Sea route normally.
Tesla reportedly said that the delay could cause a production loss of 5,000 to 7,000 vehicles which sounds about right given Q4 2023’s run rate of around 3,154 units per week according to TroyTeslike’s estimates. 7,000 vehicles doesn’t sound like much, but it does account for roughly 17% of Q4 output of 41,000 cars. The German factory has been in operation for nearly 2 years yet still only operates at 44% of stated capacity. This is a continued headwind to earnings.
Final Thoughts: Consensus Estimates Will Drop
Given the consensus for price cuts and profit margins to bottom out in 2024, yesterday’s discounts in China should put a damper on the Street’s bullish earnings outlook for Tesla. I’ll say it again: barring a full model change of the Models 3 and Y, there is nothing to stop further price cuts, especially as auto demand slows globally and competition increases.
And while the first 8 trading days don’t make a trend, it should be noted that Tesla is the worst performer in the Magnificent 7 year to date (see Figure 5 below). This is not too surprising given that Tesla has the highest valuations—even on overly optimistic consensus estimates—and lowest profit margins and FCF yield.
The China price cuts showed urgency in Tesla’s efforts to keep its most important factory running. Exports from Tesla’s Shanghai plant in 2023—mostly to the EU—made up 36% of output and this should drop in 2024 given lower EU demand from subsidy cutbacks. Tesla will also see a big hike in its corporate tax rate in China, which had been 15% up to now but was raised to 25% as of late December.
Expect price cuts in Europe and the US as well. Inventories of EVs are piling up faster than gasoline engine cars in both regions, which is causing a rebound in ICE vehicle sales as EV sales slow down (see my recent report on this here). It may be no coincidence that Toyota Motor’s stock is outperforming Tesla by 15% so far this year. In light of all the hoopla over EVs thus far, it would be extremely ironic if this became a trend among auto stocks in 2024.
Figure 5: Tesla is the Laggard of the Magnificent 7
Note: None of the above is investment advice.
Handelsblatt shared a new detail on the Tesla-files: https://www.handelsblatt.com/unternehmen/industrie/tesla-files-tesla-laesst-kunden-fuer-chronische-probleme-mit-bremsen-zahlen/100006051.html
(I recommend translating with Deepl, I thought they had an english website but I can't find it)
Known issues led to break failures in the Model X after just one winter in europe.
One item that really surprised me was higher maintenance costs for Tesla at Hertz. You have to think that Tesla spared no expense to train the Hertz techs to repair the cars. One selling point used to be lower maintenance costs (which makes sense from a general engineering perspective.) Tesla (and Elon Musk) are always about growth, not crude tasks like day to day maintenance.