Elon Musk: The Manchurian Candidate

Why Tesla's Shanghai factory generating over 75% of global profits is a risk to the US

• Many question why Elon Musk attacks the politics of US allies like Germany, the UK, and others, on Twitter in front of his 212 million followers, but says nothing but good things about China.

• Given the immense power he’s gained since contributing $277 million to Trump’s campaign and seeing Trump win, it’s even more disturbing how Musk somehow removed a high-tech investment ban from the debt ceiling bill last month.

• Those who’ve followed Musk’s public statements about China since Tesla opened its factory in Shanghai in 2020 know that he is one of the world’s most influential promoters of China (details below).

• This is because roughly 76% of Tesla’s global profits come from its Shanghai factory, which has been China’s biggest exporter of EVs since 2021 but saw its first drop in production of 2.7% YoY in 2024.

• China not only helped Tesla go from “junk” status to having the highest net cash/equity ratio in the industry in the past 4 years, but its generous EV subsidies also helped Tesla hide the losses at its US and German operations.

• Exports from Shanghai generate over 20% operating margins while local sales in China have razor-thin profitability. In 2024, domestic sales in China rose by 8% YoY, but exports plunged by 25% YoY. This is a massive red flag as the EU and Canada recently put up steep tariffs on cars imported from China, which should cause exports to fall further this year.

• The earnings implication is clear: if Tesla’s most profitable factory sees a big decline in output from here, Tesla’s profits will suffer. What is not clear is what Musk will do to keep his friends in the Chinese government happy with him if lower output leads to layoffs.

China’s Manchurian Candidate

In one of his more outrageous political antics since Trump’s election victory, Musk derailed a bipartisan spending plan in Congress on December 17 that included a provision to curb US tech investments in China. National security and business experts in Congress had agreed to this in light of fears that much of the technology would go to the Chinese military. Nevertheless, Musk got it removed from the revised bill after allegedly convincing several unnamed Republican congress members (more details in this CNBC report here).

The entire spectacle was not only surreal but highly unnerving: an unelected billionaire who donated $277 million to the campaign of a yet-to-be-inaugurated president reverses US national security policy against its greatest adversary, which happens to be the billionaire’s main source of wealth.

Why is Musk doing things like this for China? Because his $400 billion net worth would be many multiples lower without the CCP’s generous support of Tesla’s China operations, which have made up 76% of Tesla’s global profits over the past 4 years (see details in Section 1).

And there certainly is a quid-pro-quo for China so far: Tesla likely contributed 13% of Shanghai’s 2023 GDP ($29 billion in total value related to production value with a 3x multiplier effect). Aside from its 20,000 workers in China, Tesla has created another 100,000 jobs for local suppliers there (more details here).

This report covers the following key topics:

• Section 1: Why China is so important to Tesla.

• Section 2: How a larger drop in exports from here will have a large negative impact on Tesla’s profits.

• Section 3: What the risks could be for the US if Musk is still in the Trump Administration if Tesla has to lay off Chinese workers.

By my estimates, 76% of Tesla’s global profits came from Tesla’s China operations over the past 4 years. Before getting into the details of how Tesla generates so much profit from its Shanghai plant, it’s worth looking at how much Musk has publicly groveled at the CCP’s feet ever since Tesla’s Shanghai plant started production in 2020:

• Chinese Workers Are Better Than Americans (July 2020): “China rocks in my opinion. The energy in China is great. There’s [sic] like a lot of smart, hard-working people. And they’re really not entitled, they’re not complacent, whereas I see in the United States increasingly much more complacency and entitlement, especially in places like the Bay Area, and L.A. and New York.”

• China Makes Their People Happier Than the US (December 2020): After Tesla’s Shanghai factory produced its first batch of vehicles, Musk thanked the Chinese government and Chinese people while criticizing the United States and its people. In an interview in December 2020, Musk said "My experience with the government of China is that they actually are very responsive to the people, in fact, possibly more responsive to the happiness of people than in the U.S."

• Praise for China on the CCP’s 100th Anniversary (July 2021): On the 100th anniversary of the Chinese Communist Party, Musk praised China's "economic prosperity," acknowledging the nation's rapid development.

• In 2022, Musk wrote an article for China Cyberspace, the official publication of the Cyberspace Administration of China, advocating for a transition to sustainable and clean energy. His appearance in the publication was described by The Verge as conflicting with his advocacy for free speech due to the organization's enforcement of Internet censorship in China.

• Taiwan Should Become a Special Administrative Zone (October 2022): In a Financial Times interview, Musk said, “My recommendation would be to figure out a special administrative zone for Taiwan that is reasonably palatable, probably won’t make everyone happy.” The Chinese Ambassador to the US tweeted, “I would like to thank [Elon Musk] for his call for peace across the Taiwan Strait and his idea about establishing a special administrative zone for Taiwan.” Taiwan’s de facto Ambassador to the US said, “Freedom and democracy are not for sale”. This comment of Musk’s to the Financial Times probably bought him more favor with the CCP than anything else he’s done aside from maybe depriving internet connectivity via Starlink to Taiwan.

• Tesla Will Uphold “Core Socialist Values” (July 2023): Musk got Tesla to sign a letter with 15 other local carmakers to China’s Ministry of Industry and Information Technology pledging to “uphold core socialist values”. The wording in the letter was said to have “language popular with Xi Jinping” (paywalled article here). The letter was supposed to be a pledge for a truce in the torrid price war—which Tesla started in December 2022—but the heated competition continues and is said to escalate this year.

Section 1

Why China Is So Important To Tesla

China essentially bankrolled the entire $2.1 billion start-up costs of Tesla’s Shanghai factory in 2019 at favorable rates. China also allowed Tesla to be the first to own 100% of its operations whereas other foreign carmakers were forced into joint ventures that led to technology transfers. And, Tesla also received a special corporate tax rate of 15% for 3 years through 2023 before switching over to the normal 25% tax rate last year.

Musk was also offered permanent residency in China, which is not easily attained. And last April, Chinese banks extended $2.85 billion in non-recourse loans to Tesla at the PBOC’s loan prime rate minus 1.18% to help Tesla build a new energy storage factory.

But this is only part of why China is so important to Tesla. The biggest benefit of its China operations is the huge profits generated there, which not only helped Tesla repay its debts (thereby lifting its credit rating one-notch above “junk” status) but also covered big losses generated at Tesla’s new factories in the US and Germany since 2022 (both are still making big losses, by my estimates). Below is a detailed analysis of just how big Tesla’s profits from China are.

Tesla’s Shanghai Plant Generates Over 70% of Global Profits

Aside from the lower costs of labor and components, the biggest factor behind the huge profitability of Tesla’s Shanghai factory is the massive BEV subsidies Tesla gets from the Chinese government. These subsidies were meant to spur BEV adoption, but more recently, many of the programs have been extended due to weak demand which has threatened already low capacity utilization rates in China’s auto industry.

This massive spending by the Chinese government is exactly why the EU and Canada raised their tariffs on cars imported from China. Tesla is the largest EV exporter in China (at over 40%), so these new tariffs will have a huge impact on its profitability from this year. While Tesla’s domestic sales in China generate thin profit margins, the subsidies that make EVs more affordable for Chinese consumers make its exports immensely profitable. Here are some examples:

• BEVs are tax-exempt in China: the exclusion of the 10% purchase tax and 13% value-added tax (VAT) for BEVs drastically reduces the price of the car for consumers. When the locally produced Model 3 first went on sale in 2020, this amounted to a $10,640 lower price for consumers (the $46,000 list price went down to $35,621).

• Direct subsidies ended in 2022, but were huge for Tesla: While this wasn’t known until the EU began investigating how much made-in-China imports were being subsidized, a German think tank reported that Tesla received $426 million (3.1% of 2022 operating profits) in direct subsidies from China in 2022 (details here). I couldn’t find any details of this in Tesa’s financials, so I assume that it was booked as ZEV credits, which increased by 21% YoY in 2022 to $1.77 billion.

• Tesla said 75% of their ZEV credits were from China through Q3 2024: According to Tesla’s CFO on the Q3 2024 earnings call in October, 75% of Tesla’s ZEV credit sales (which are 100% profits) were from China, while the rest was split between the US and Europe. Through Q3 2024, Tesla’s ZEV credit sales were up by 53% YoY to $2.07 billion (26% of cumulative non-GAAP net profits). Even BYD’s results showed its ZEV credits grew by 221% YoY and made up 29% of pre-tax profits through Q3 2024 versus only 11% the previous year.

• Input costs for exported BEVs receive 13% VAT rebates: This is essentially a 13% reduction in component costs, which is massive for a carmaker. And because The Model 3 that’s made in China likely has a cost/unit of around $31,000 but sells for only $32,130 in China, its local operating margin of 3.5% (a generous assumption) is very thin. But if Tesla exports this car to Germany, the cost/unit drops to $28,140 due to the 13% VAT rebate for component costs and its price rises to $33,783 even after shipping costs and logistics are included (but before tariffs and VAT, which are passed onto the consumer). Now the Made-in-China Model 3 has an operating margin of 16.7%. The margins were probably over 20% for the Model Y, which is most likely why Tesla slow-rolled the ramp-up of production at its new German plant and continued its exports from China in 2023. This makes perfect sense especially when you consider that Tesla had a special corporate tax rate of 15% for 3 years which ended in 2023 and rose to the normal 25% rate in 2024.

Calculating China’s Profit Contribution From Tesla’s Disclosures

Tesla has very scant disclosures about its overseas operations, but it does disclose (a) local revenues (excluding exports) in the US, China, and “Other” regions each quarter and (b) “domestic” and “foreign” pre-tax profit breakdowns on an annual basis.

Figure 1 below shows all of this data on an annual basis and note that “Foreign” pre-tax margins were as high as 21.3% in 2021 (after Model Y production started in China and the loss-making German factory wasn’t running yet).

Even after the German factory began production in March 2022, “Foreign” pre-tax margins were still 20% despite Musk having stated that Tesla’s new factories in Texas and Germany were “gigantic money furnaces” burning “billions in cash” (story here).

If we assume that Germany was losing around $1 billion in 2022 (capacity utilization at the 300,000-unit factory was only 18%), Foreign pre-tax margins increase to 22.4% and that’s almost all from Shanghai. This would imply that Tesla’s Shanghai factory provided $9.16 billion in pre-tax profits, or 67% of Tesla’s global profits.

Figure 1: Tesla’s Regional Revenue & Pre-Tax Profit Disclosures

Source: Tesla

Given Tesla’s opaque disclosures, my preferred method of estimating Tesla’s profits from Shanghai is as follows based on Tesla’s 2023 annual report:

• “Domestic” revenues and pre-tax profits are easy to estimate using TroyTeslike’s export estimates from Fremont, which used to be large but have shrunk dramatically ever since Shanghai became Tesla’s main export hub. Fremont exported around 148,000 cars in 2020 but this dropped down to 40,000 in 2023.

• If “Domestic” pre-tax profits in 2023 were $3.19 billion and Fremont exported 40,000, we can add back those revenues using ASPs for deliveries outside of China (which were $50,090) and use average gross profit/unit (ex-ZEV credits and leases) of $7,449 with an estimated $2,700 cost/unit for shipping and logistics. This would increase Tesla’s “Domestic” pre-tax profit by $190 million and reduce “Foreign” pre-tax profits by the same amount.

• I assume that “Foreign” pre-tax profits included $1 billion of losses from the ailing German factory, which was still operating at only 47% of capacity in 2023 despite having started production in March 2022. This might be a bit aggressive, but keep in mind that it is a $5 billion factory with huge start-up costs while prices dropped by 15% YoY in 2023. Add $1 billion of Germany’s losses back to 2023’s “Foreign” pre-tax profit disclosed by Tesla and Shanghai generated $7.6 billion of pre-tax profits, 76% of 2023’s total of $9.97 billion.

Tesla’s China Operations Became More Profitable in 2024 Despite Further Price Cuts

• Tesla sales in China overtook the US in 2024: Tesla’s sales in China last year came to 657,102 vehicles according to the CPCA, while the US came in second at 625,892 units according to TroyTeslike. China is, therefore, Tesla’s largest sales region in 2024 at 37%, while the US was 35% of global deliveries.

• Tesla’s production in China was 52% of total output in 2024: While China only made up 37% of Tesla’s global sales, its Shanghai factory produced 923,659 cars in 2024 (down by 2.7% YoY), which came to 52% of Tesla’s 1.78 million units of global output.

• China likely accounted for 73% of Tesla’s 2024 profits: Despite the steeper discounts in China amid the intense price war that Tesla started in 2023 (ASPs in local currency terms were down by 13.7% YoY in Q3 2024), 3 factors boosted China’s profitability last year while its other factories burned cash due to under-utilization:

  • (1) According to Tesla’s CFO on the Q3 2024 earnings call in October, 75% of Tesla’s ZEV credit sales were from China. Through Q3 2024, Tesla’s ZEV credit sales—which are 100% profits—were up by 53% YoY while its production in China was down by over 3% YoY. This implies an increase in the "price per ZEV credit” in China. Even BYD’s results showed its ZEV credits grew by 221% YoY and made up 29% of pre-tax profits through Q3 2024 versus only 11% the previous year.

  • (2) Tesla’s main battery supplier, CATL, gave Tesla a 10% price reduction on cells from Q3 2024, which is why a mere 2.2% increase in global sales led to a huge spike in gross margins (ex-credits and leases) from 13.9% in Q2 to 16.4% in Q3. Automotive COGS/unit had dropped by 3.5% sequentially despite any significant operating leverage.

  • (3) Exports from Tesla’s Fremont factory were held down so that its Shanghai plant could prop up exports, which are the lion’s share of Tesla’s China profits. Fremont exports last year were only around 46,000 cars, which was up 14% YoY, but 70% below 2020 levels. Despite going to these extremes, exports from China dropped by 25% YoY to 239,116 vehicles. This was likely due to Tesla no longer seeing a preferential corporate tax rate of 15% in China (it changed to 25% in 2024), which led it to slash Model Y exports to Europe so that its under-utilized German factory could increase production of the model. Despite this, Tesla’s German factory still only operated at 49% of capacity in 2024, which was only slightly up from 2023’s 47%.

Section 2

Why a Drop in Shanghai Output Should Hurt 2025 Profits

Figure 3 shows that exports from China declined by 62% YoY which is a bad sign given that exports have over 20% pre-tax margins versus under 5% for domestic shipments.

Figure 3: Tesla’s China Shipments By Destination

Source: TroyTeslike estimates & MH research

It’s also noteworthy that, while Tesla’s hugely profitable exports from Shanghai were plummeting, Tesla saw record-high ZEV credit sales of $2.1 billion through Q3 2024—a 53% YoY rise. Regarding this huge growth in ZEV credit sales, Tesla’s CFO said that “China continues to outperform the US and Europe by a factor of three”.

My guess is that China increased the subsidies per ZEV credit for all EV makers. An estimated 10% price cut for battery cells sourced by Tesla from CATL in Q3 2024 also helped domestic sales become more profitable.

That was 2024. This year we have the EU’s 9% tariff on Tesla’s China imports hitting a full year of exports (it came into effect last October) and Tesla appears to be eating 2/3 of this cost increase while passing on only a third of this to consumers.

While Canada is only around a 48,000-per-year market for Tesla’s cars, it was an easy market to sell cars in for Tesla given the high cost of petrol and the generous EV credits (roughly $3,500 per qualifying EV). But this year will be extremely challenging for Tesla: Canada (1) implemented a 100% tariff on Chinese imports last October and (2) last week disclosed that its ZEV subsidy program ran out of funds, so no more $3,500 (CAD 5,000) credits for EV sales. After Germany ran out of its ZEV funds in October 2023, Tesla saw its sales there fall by 41% YoY.

Section 3

The Risks of Tesla’s Output Declining in China

During Tesla’s massive round of head cuts last April and May, there were very few mentions of how many employees were cut in China. The only news that came out was that some sales representatives were being laid off.

Given Xi Jinping’s hope of having young Chinese leave the tech sector and move to the manufacturing sector, this makes sense. And it’s also unsurprising that the $2,800 subsidies that the CCP enacted for flagging EV sales last April were extended through 2025. This subsidy started out at $1,400 for anyone trading in an old car for a BEV, but was doubled to $2,800 in July after the original program hadn’t jump-started sales. But this too will be a wash in 2025 on a year-on-year basis from April.

The current rave among Tesla fans is the “refreshed” Model Y which is being launched first in China. But after looking at Tesla’s poor track record of refreshes for the Models S, X, and 3, the Model Y may only have a few months of strong sales:

• The Models S and X prices are now down 30% from their 2022 “refresh” highs and volumes last year were 48% below their 2017 peak.

• The Model 3 refresh last year was a disaster. Two months after its launch in China, Tesla cut the price by 6% and then by another 6% 4 months later. Despite this, global Model 3 sales were down by 5.2% YoY according to TroyTeslike’s estimates.

Figure 4 below shows my estimates of Tesla’s capacity utilization by region. Aside from seeing how low operating rates are in the US and Germany (anything below 80% is bad news in the auto industry), note that capacity utilization in China has been falling for the past 3 years.

Figure 4: Capacity Utilization Falling in China

Source: Tesla, South China Morning Post, & MH estimates

From this year, Tesla will start production at its new “Megapack” battery storage factory in Shanghai with an annual capacity of 40 GWh. This will make Tesla’s auto business much harder to analyze as Tesla likely won’t disclose the breakdown between its car revenues and megapack revenues there. It should, however, help cover for lower profits at the car business once the new Megapack factory covers its start-up costs. But even at full capacity, the Megapack business should only make around $2 billion in operating profit, which would only cover production declines of 10% to 15% at Tesla’s Shanghai factory.

Because of this, Tesla’s Auto gross margins (ex-credits and leases) will be all the more scrutinized this year: not only do cars make up 86% of gross profits, but they can quickly become unprofitable. And therein lies the danger: What will Musk be asked to do by China as a Trump Administration official when he has to fire lots of workers at the Shanghai auto factory?

China has every right to call in its favors after all they’ve done for Musk.

NOTE: NOTHING IN THIS REPORT IS INVESTMENT ADVICE