Tesla's Gigafactory: Are Investors' Fears Justified

| About: Tesla Motors (TSLA)


Tesla will only invest approximately $2 billion in the Gigafactory. The rest would be furnished by partners.

Panasonic is currently the major supplier of lithium-ion cells for Tesla. This partnership could be a successful one.

Yoshio Ito stated that Panasonic would look to invest in the project "gradually" by breaking it up "step-by-step.".

It's been a while since Tesla (NASDAQ:TSLA) announced the construction of its Gigafactory and released a document illustrating the details of the factory. However, despite the early excitement surrounding the project, prospective investors, of late, seem to be skeptical of the project's execution.

The Partners Question

With a price tag of "$4-5 billion", the Gigafactory cannot be completed independently by Tesla Motors, alone. As the company itself announced, it would be investing only approximately $2 billion of the said amount in the project, while the rest would be furnished by "partners". But who are these partners?

In an interview with Bloomberg, Elon Musk named Panasonic as a partner for the Gigafactory, and latest reports suggest that the two companies would be signing an agreement very soon, perhaps within this month. The Japanese company seems to be very interested in being a part of the project as, according to one report, it is looking to become Tesla's sole partner in the completion of the multi-billion dollar factory. And considering the fact that Panasonic is currently the major supplier of lithium-ion cells for Tesla, this partnership could be a successful one.

However, there are a few challengers who could spoil Panasonic's ambitious plan, especially since Musk reiterated that Tesla would be completing the factory with several partners other than Panasonic. Samsung, for one, is a company that Tesla already does business with - the former supplies auto batteries to the latter - which is why there are chances of the company investing in the Gigafactory, as well.

The most prolific name associated with Tesla's Gigafactory is that of Apple Inc. Talks of a partnership between the two Tech companies began when Tesla's Elon Musk met Adrian Perica, who happens to be Apple's mergers and acquisitions chief. The discussion about the partnership soon escalated into thoughts of Apple buying Tesla, with suggestions flying in left, right and center - such as in Adnaan Ahmad's letter - for Apple Inc. to go ahead and make the purchase. However, Elon Musk later said that the likelihood of Tesla being sold to any company is minimal. With this in mind, the meeting between Musk and Perica could translate into a possible partnership between the two on the Gigafactory. The thought has registered well with some, as speculations of Apple out rightly replacing Panasonic as the chief Gigafactory partner have emerged. Yet, there has been no news of late of a possible connection - partnership, merger or purchase - between the two companies, which is why it is seems that Apple Inc. is now out of the Gigafactory frame. The reasons one could point to a partnership is that Apple does use lithium-ion in all its devices. An attempt to expand for vertical integration would be of interest to Apple (NASDAQ:AAPL), and having a partner flush with cash would be of great interest to Tesla.

Speculations - and Panasonic - aside, one major question should still rightfully linger in the minds of investors: if there are other partners, why isn't Tesla Motors naming them? Why keep its investors in the dark and create confusion about the company's plans? Because if there aren't any other companies partnering Tesla, bigger question marks would raise about Panasonic's ability to provide the rest of the finances ($2-3 billion) for the Gigafactory. As enthusiastic as Panasonic might be about the Gigafactory, its senior managing executive officer, Yoshio Ito, stated a couple of months ago that the company would look to invest in the project "gradually" by "break(ing) (the investment) up step-by-step." But would Panasonic be able to complete the rest of the investment, even if it is done gradually? The Japanese firm would have to invest its entire volume of last year's profits to make that happen. This is one of the key issues that arises when discussing why Panasonic and Tesla may no longer be on the same page. But if Panasonic is ambitious about "owning" the Gigafactory, it might as well do that.

However, Tesla needs to be sure of its partners' strength to complete the rest of the financial equation. Would it be willing to rely on a single partner to supply $3 billion for its factory? Perhaps not. The EV maker most likely would need more partners, and it needs to announce their identity as soon as possible to provide investors with some good news, and hopefully halt its stock's roller coaster ride this year.

The Location Question

Another question that is raised by analysts and investors about the Gigafactory is about its location. According to Tesla's illustrated document about the factory, Texas, New Mexico, Nevada and Arizona are the states finalized by the company to set up its factory in. All of the said states are racing to land the factory that would create approximately 6500 jobs, with local innovators surfacing in Nevada in a bid to make Tesla favor their state. However, the company would not be announcing the winner state before the end of the year, which could be frustrating for investors who are longing to see substantial development on the Gigafactory.

With all the questions raised still unsettled, it isn't fair to give out a judgment on the Gigafactory, yet. Yet it seems that the skepticism of investors on the completion of the factory, while understandable, seems to be unneeded, since companies like Panasonic wouldn't be responding so well to a project that either wouldn't happen, or would end in a disaster. Thus, Tesla's investors should be sleeping well - unless they want to fret over questions that won't be answered for at least a half a year.

What the Gigafactory Could Mean for Tesla

In the meantime, investors can fuel their positivity (or negativity) by trying to fathom the value of the Gigafactory to Tesla Motors. Let's not forget that Tesla's main aim is to build the third generation car - which, the company confirmed earlier, would be called "Model 3" - and for that to happen, it needs dramatic cost reduction on its vehicles. The company's cheapest model so far is the 60 kWh Model S, priced at $69,900 before the reduction of federal tax credit. The Model 3, on the other hand, is reported time and again to be priced around $35,000. This means, that to produce the Model 3 mass-market car, Tesla would have to reduce costs by 50% and the Gigafactory would be the major help in achieving this cost reduction.

Tesla Motors expects the Gigafactory to reduce the cost of battery production by more than 30% by 2017, when the company looks to release its first Model 3 vehicle. With the major chunk of cost cut out of the way, the Model 3's smaller size could complete the rest of the reduction target. Should there be no Gigafactory, on the other hand, Tesla Motors would find it extremely hard to achieve its mass-market holy grail, as the price point would be too high and would lose traction among potential consumers.

Furthermore, the company stated that by 2020, it expects to produce up to 500,000 EVs per year, which is over 14 times the current rate of production (35,000 per year). And with fine responses like the UK government's initiative to make their officials ride EVs, exclusively, we do not really need to worry about the demand side of the equation, as wiser people would soon follow suit.

However, a large project like the Gigafactory does not come without its fair share of risks. Firstly, Tesla confesses to have no experience of constructing lithium-ion batteries, which would make putting $5 billion into a project dedicated to producing lithium-ion batteries sound like suicide. However, with Panasonic on the team, Tesla should be able to overcome that hurdle with ease. Having said that, not even Panasonic has the experience to manage a battery-producing factory of the Gigafactory's proportions, which brings up another risk factor: the company's ability to power the huge plant. According to a Forbes report, to run the Gigafactory could require up to 1 GW of renewable energy production plants, most likely a combination of solar and wind energy. Tesla needs to make sure it has kept account of those costs. Should these get out of hand, it could be hard for the company to complete the project.

Secondly, there are chances that the lithium-ion battery technology might be overtaken by other forms of batteries, such as Sodium sulfur, Flow batteries, and Lead-acid batteries, by the time the Gigafactory would be completed. This would mean that the huge investment could go down the drain should the other forms of cells prove to be better than the lithium-ion battery.

Lastly, there are questions regarding the environmental harm that such a huge factory could bring to its location. TheStreet reports that Merrill Lynch analyst John Lovallo raised concerns over the environmental ill effects that the Gigafactory could bring to its host state, stating that producing lithium-ion batteries,

"could increase the risk of resource depletion, global warming, and ecological toxicity. Those exposed to the process could incur respiratory, pulmonary and neurological complications."

Which is why there could be a shortage of workers willing to work at the plant. These are some of the risks Tesla Motors needs to give deep thought to before actually going ahead with its Gigafactory plans, because the company wouldn't want to construct a factory - big or small - that could later be caught up in environmental or legal issues and be shut down. Nor would it like to be a mass-producer - and consumer - of an outdated technology while competitors would be capitalizing on its advanced forms.

Disclosure: The author is long AAPL. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

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