Tesla: Panasonic Provides A Vote Of Confidence In The Gigafactory

| About: Tesla Motors (TSLA)

Summary

Panasonic has committed up to $1.6 billion for the Gigafactory.

Panasonic's commitment demonstrates that the Gigafactory concept is sound technically and financially.

Far from being underfunded, Panasonic's commitment means that funding is sufficient to complete the Gigafactory and meet its production and cost reduction goals.

At CES in Las Vegas, Panasonic (OTCPK:PCRFY) President Tsuga confirmed that the company will spend up to $1.6 billion on the Tesla (NASDAQ:TSLA) Gigafactory located in Sparks, Nevada. This should remove any doubts about whether Panasonic is truly committed to the project. Panasonic's commitment to the project underscores the fact that far from being some hair-brained scheme of Elon Musk, the Gigafactory concept is the product of credible scientific research from a national laboratory.

Click to enlarge

Source: electrek.co

The Credible Concept

The Gigafactory concept was not original to Tesla or Elon Musk, but was first described in a research paper by scientists of the Argonne National Laboratory (ANL) called Modeling the Performance and Cost of Lithium-Ion Batteries for Electric Drive Vehicles. The scientists developed an end-to-end model (dubbed BatPaC for Battery Performance and Cost Model) of battery production cost taking into account details of battery design, as well as the design of the manufacturing plant and production rate. They baselined a plant capable of producing 100,000 battery packs per year. The plant they described was intended to be fully vertically integrated, capable of going from raw materials to finished products.

As Tesla systems engineers began to look at the problem of defining the requirements for the Gigafactory, they would have had available the ANL model, since it's free to the public for download. ANL intended that companies such as Tesla would make use of the model as the authors make clear in their preface to the second edition of the report describing their work:

The BatPaC model and report were first openly distributed to the public, free of charge, in November 2011 from the website cse.anl.gov/batpac. During the first year of release, over 450 independent downloads have occurred from leading universities, laboratories and companies around the world. Users of the model include PhD students, policy makers, high-profile startups, and Fortune 500 corporations. Some have modified the model for their own use, while others use it as is.

The national laboratories are federally funded research institutions that are among the most prestigious in the United States. The national laboratories regularly scoop up the cream of the crop of graduating scientists and engineers from the nation's universities. "Best and brightest" is an overused but apt description for the researchers of the national labs.

In addition to the inherent credibility of the national labs, the BatBaC research paper and model have been extensively peer reviewed, as the report makes clear in the Executive Summary of the second edition:

This report details the Battery Performance and Cost model (BatPaC) developed at Argonne National Laboratory for lithium-ion battery packs used in automotive transportation. The model designs the battery for a specified power, energy, and type of vehicle battery. The cost of the designed battery is then calculated by accounting for every step in the lithium-ion battery manufacturing process. The assumed annual production level directly affects each process step. The total cost to the original equipment manufacturer calculated by the model includes the materials, manufacturing, and warranty costs for a battery produced in the year 2020 (in 2010 US$). At the time this report is written, this calculation is the only publicly available model that performs a bottom-up lithium-ion battery design and cost calculation. Both the model and the report have been publicly peer-reviewed by battery experts assembled by the U.S. Environmental Protection Agency. This report and accompanying model include changes made in response to the comments received during the peer-review.

Note that the 2020 time frame coincides exactly with Tesla's expectations for when the Gigafactory would be fully operational:

Click to enlarge

The Concept Under Fire

The Gigafactory has taken a lot of criticism from the Tesla bears since its inception. Much of the current criticism concerns whether it's large enough in its current state. The bears have correctly pointed out that the current Gigafactory is about 1/6th the area that Tesla has proposed for the final facility in 2020. This is nicely illustrated in the graphic above courtesy electrek.co.

As of August 2015, the facility was only about 150,000 square meters compared to the announced goal of 929,000 square meters. The current size of the Gigafactory has been interpreted by Tesla bears in all manner of negative ways. To the bears, the small size indicates an intention to scale back production dramatically (by roughly the 1/6th area factor), thus confirming the supposed lack of demand for Tesla cars. Other interpretations include that the size indicates that Tesla is too cash strapped to build the Gigafactory to the needed size, or that Tesla is engaged once again in some form of deception regarding the Gigafactory.

The bears' interpretations once again, as was the case with the Denmark Model S deliveries, violate what I have called the Principle of Simplicity. Here, the simplest explanation is that the Gigafactory, in its current size, is already adequate to meet the key cost savings and production capacity goals of the Gigafactory for 2020.

This conclusion is supported by the ANL BatPaC model. I've run the model and exercised it over a range of production values from 50,000 - 500,000 units per year output. It turns out that the integrated factory described in the model can achieve the necessary cost savings at an output as low as about 100,000 completed battery packs per year, as shown in the chart below:

Click to enlarge

The results are consistent with what the BatPaC researchers obtained and published in their report on page 82. The cost savings percentage assumes the commonly held opinion that Tesla battery packs cost about $260/kWh of capacity. In the BatPaC model I assume a 50 kWh battery providing approximately a 200 mile range for a smaller and lighter Model 3. Kilowatt-hours (kWh) is a measure of energy capacity in the battery pack. The Model S P85 has an 85 kWh battery pack.

Does this mean that Tesla is scaling the factory for only 100,000 units per year output? Probably not. The ANL model can also provide estimates of building area requirements, building cost, and total investment cost (including plant and equipment) as a function of annual production capacity, as shown in the chart below:

According to the ANL model, at full 500,000 units per year capacity in 2020, the building area requirement is 100,000 square meters, less than the current size by 1/3rd. Interestingly, the model estimate of building cost of $292 million is in good agreement with the approximately $300 million SA contributor Montana Skeptic (a Tesla bear) has pointed out that Tesla will spend on the building in 2015.

Also, the ANL model result for the total facility investment is $1.8285 billion. This is also very close to what Panasonic has committed, less the cost of the building provided by Tesla.

Overall, the ANL model supports the size, expected cost savings, and planned expenditure for the Gigafactory in its approximate current configuration. What of Tesla's originally announced plans to spend $4-5 billion on the much larger 900,000 square meter facility? I suspect that those numbers were very early WAGs (Wild Ass Guesses) of the cost, probably made in ignorance or perhaps disbelief of the ANL model.

It's typical of early stage systems engineering to over estimate requirements with the expectation that these can always be scaled back as engineering cost models are firmed up. But certainly, it does appear that Tesla went overboard in estimating the size and needed investment in the facility.

A Credit to Nevada

Montana Skeptic has expressed concern that this may have consequences regarding commitments that Tesla made to the state of Nevada. According to an article in the Las Vegas Review-Journal on December 24, 2015, Tesla was meeting all the requirements for its state tax breaks. It would be hard not to, since the tax incentives are scaled to the magnitude of Tesla's investment in the Gigafactory. For instance, Nevada offers a tax incentive of $12,500 for each qualified employee Tesla hires.

Similarly, Nevada provides a 5% tax credit for Tesla capital investment in the site, up to the first $1 billion, with a 2.8% credit for the next $2.5 billion. According to the article, Tesla's capital investment for the period from October 2014 to June 2015 was $186 million, making it eligible for $9.3 million in tax credits.

I guess they're not stupid up there in Nevada. They didn't just assume that Tesla was going to invest $5 billion and then hand over a pile of tax credits. The credits are proportional to whatever Tesla invests in the Gigafactory, and there's no liability on Tesla's part if it doesn't meet any particular goal for the Gigafactory investment. On Nevada's part, there is a cap to Nevada's tax credits of $195 million.

Investor Takeaway

The focus on the Gigafactory and its presumed shortcomings was understandable on the part of the Tesla bears. It's what they do. However, the criticism that the Gigafactory is too small to achieve its cost savings goals for battery production is not supportable by any cost model of which I'm aware.

The ANL cost model indicates that far from being underfunded, the Gigafactory has sufficient funding, with Panasonic's commitment, to meet the fundamental goals of 500,000 unit annual production in 2020 (if not much sooner), and the 30% or better cost savings. Undoubtedly, Panasonic will ramp up its commitment as needed to support battery production, not only for the Model 3, but early on for the Model S and X, providing some much needed cost reduction in Tesla's current offerings.

Once again, the bears have gone off half-cocked on Tesla with superficial, or non-existent, analysis to support their view that Tesla's goals for the Gigafactory and the Model 3 are unachievable. Panasonic's commitment, as well as the ANL cost model, show that the Gigafactory goals are quite achievable. I continue to maintain a hold rating on Tesla.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.