Tesla Model 3: Offering A Dollar For 50 Cents

| About: Tesla Motors (TSLA)

Summary

Model 3 promises to deliver seemingly close to 99% of the Model S, but at half the price.

So why would anyone want to order a Model S now, unless they “need” a Tesla before the end of 2017?

More fundamentally, why would Tesla be able to deliver all of this content at a lower price than equivalent 2017 EVs from other automakers?

If Tesla loses almost $20,000 per car today, why wouldn’t those losses balloon if the price is cut in half for almost the same content?

Is there any surprise that there is hot demand for a product that essentially offers to sell a dollar for fifty cents? Who will fund these losses?

The Tesla (NASDAQ:TSLA) Model 3 unveil turned out to look pretty much just as anticipated: A slightly shrunken Model S that's optimized more for cost. It promises to do close to 99% of what you get in the current Model S, utility-wise, but for half the price - $35,000 instead of $70,000.

With the Model 3 still fitting five people and a healthy amount of luggage, as well as maintaining essentially the Model S design language with a Model X nose, what's the argument for buying a Model S anymore? Clearly if you need the car before 2017, maybe you would consider one.

But otherwise?

The Model 3 will be easier to park, surely lighter and probably have better build quality than the first-generation Model S. You would have to spring for the more expensive versions of the Model S with the highest performance to have a motivation to buy a Model S anymore. And those Model S versions are closer to $130,000.

Oh yeah, one more thing: The Model 3 will have "only" 215 or slightly more miles of range on the US EPA cycle, a bit less than the Model S. That should put it in direct head-to-head competition with the Chevrolet Bolt (NYSE:GM) and perhaps also the Nissan (OTCPK:NSANY) LEAF 2.0.

To be clear, the Chevrolet Bolt will have a 60 kWh battery and enter volume production by the fourth quarter of this year. We know very little about the Nissan LEAF 2.0, except that most speculation suggests it will also have similar specs but arrive six months after the Chevy Bolt.

The Model 3 unveil confirmed what I wrote about on January 10. Basically, the Model 3 looks to be a longer, lower and potentially wider car than the Bolt. As such, it ought to cost more to produce, even if Tesla had the scale economies of GM.

Think about that logic for a moment: GM says the Bolt will cost no more than $37,500 (base price). Tesla says the Model 3 will cost $35,000 (base price). But if the Bolt inherently costs less to produce, how do you square this circle?

There are only three possibilities:

  1. The Bolt price will end up being much lower than $35,000. That's possible, but is it likely?

  2. Tesla will lose a ton of money at $35,000.

  3. GM will make a lot of money selling the Bolt at anywhere near $35,000.

Furthermore, if the Model 3 includes more sensors for autopilot functionality than the Chevy Bolt, it becomes even harder to square the comparative profitability circle. I know this autopilot hardware is coming down in price, but still: If it were free, everyone would use it in every car at any price. The price is not zero. You can't get something for nothing.

Tesla's main advantage right now, looking at future 200-ish mile range EVs in terms of consumer appeal, is the Supercharger network. It's a huge advantage in functionality, but it too costs money. Someone has to pay for it. That is one more variable baked into the price, which makes the comparative profitability comparison with the Chevrolet Bolt even more spurious.

That being said, it should be obvious that Tesla's Supercharger network will not be the only one of its kind. We can argue about how long it will take for other automakers to jointly build out their equivalent network, but that will obviously happen. It may not be on par with the Tesla Supercharger network as early as could have been the case, or in any case by the end of 2017, but by that time any consumer perhaps will be able to see where the competitive Supercharger buildout is heading, and think forward a bit.

The other dimension here is this: There is quite a leap of faith necessary to assume Tesla could make money selling a car of this caliber for $35,000, especially if one further assumes that any other automaker couldn't simply do the same for that price or less. Tesla lost $18,331 per car sold last quarter alone.

And that's on a car with an average price not too far from $100,000, where the least costly version starts at $70,000 plus delivery charge ($1,200). Why would that $18,331 loss per car sold not increase on a car with almost similar capabilities sold for half that price - $35,000?

Tesla got over 130,000 refundable reservations on the first day. With the onset of online reservations, perhaps a decimal even more. If the loss per car sold continues to be around $20,000 - congratulations, Tesla loses $2 billion for every 100,000 cars sold. One million orders? Congratulations again, that'd be a loss of $20 billion.

I too could sell a dollar for 50 cents, if I were willing to take such losses. Takers would line up around the block. But in what alternative universe is that considered sound economics?

No doubt, Tesla is likely to rack up these refundable deposits in the months and quarters to come. The question is how many will remain once the Chevrolet Bolt, Nissan LEAF 2.0 and other competitive cars arrive, especially those before the Tesla Model 3 ships in volume, whether in 2017 or some time thereafter.

Tesla has landed a predictable punch in the boxing ring with the Model 3 unveil. Later this year, we will see GM, BMW (BAMXY), Nissan and others providing their responses. GM already took a swing and is at least one year ahead of Tesla in terms of time-to-market for the $35,000-ish, 200-mile range EV. The other automakers are not going to roll over and play dead. The automobile business is a low-margin business (at best) and is likely to remain so for many years to come. For some automakers, perhaps a perpetual loss-making business.

*Image Sources: Tesla

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a short position in TSLA over 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.

Additional disclosure: At the time of submitting this article for publication, the author had no positions in the companies mentioned. However, positions can change at any time. The author regularly attends press conferences, new vehicle launches and other similar events hosted in whole or in part by most major automakers.