Yes, our topic is again the Riverbend Agreement in Buffalo. It's an Empire State exemplar of government cronyism and corruption. In the wake of last year's merger, the deal and its many wrinkles will have implications for Tesla (NASDAQ:TSLA).
If you missed my earlier article called, SolarCity's Buffalo Deal Has Lots Of Crooked Bends In the River, that's a good place to start for the background on the so-called Riverbend Agreement between New York State and Silevo.
I. Tesla Topics
Before we return to Buffalo, though, let's take a quick look at some other Tesla topics.
A. An Explosion in CPOs Listed for Sale
We have recently seen a dramatic increase in the number of certified pre-owned cars listed by Tesla, with the lowest prices yet seen. You can see them at Hank Lloyd Right's much-improved EV-CPO Hunter website.
Very likely, many of these cars were accepted by Tesla as trade-ins for new cars. Were the trade-in values realistic? TBD.
It's worth noting that one of the constituents of Tesla's "customer deposits" number is the fair value of trade-in vehicles. The catch-all nature of the "customer deposits" definition helps obscure the current number of net Model 3 deposits, which Tesla has resolutely refused to update for more than a year.
B. Q2 Delivery Forecasts
Our Tesla demand data gurus, Bonaire and CoverDrive, have read the tea leaves on Q2 deliveries. Their forecasts are similar:
If Bonaire and CoverDrive are correct, then Tesla will come within its first half guidance of between 47,000 and 50,000 total deliveries. (As a reminder, Q1 deliveries were 25,000.)
Both Bonaire and CoverDrive believe Tesla manufactured more cars than it delivered in Q2, thus adding to the 12,445 "produced but not sold" number at the end of Q1. Bonaire sees an excess of 1,100 of production over deliveries. CoverDrive pegs the excess at 2,250.
C. Tesla's Lifetime Car Insurance
The website Mashable has a piece up suggesting Tesla may soon be offering lifetime car insurance and car maintenance.
The news was dropped Wednesday in an earnings call, and suggests that Tesla executives believe they are uniquely qualified to change the way new cars are priced and purchased.
Mashable noted it was unable to obtain any details about what the lifetime insurance or maintenance will cost or when they will be available.
Is anyone taken in by this obvious nonsense?
The premise is that the insurance companies are charging too much to insure Tesla vehicles, and that Tesla - with access to superior data about the true frequency of accidents and costs of repair - can profitably charge less.
It's obvious, though, that Tesla has no better data on the actuarial experience of Tesla cars than does the Insurance Institute for Highway Safety or Geico or Allstate or USAA or a host of other insurance companies. Indeed, the insurance companies almost certainly have a far better understanding of the costs associated with insuring Tesla vehicles than does Tesla.
Let's assume for a moment that, for example, USAA were truly overcharging to insure Tesla vehicles. Why wouldn't another insurer seize the opportunity to entice the customers that USAA was scaring away?
Moreover, in the U.S., Europe, Australia, and many countries in Asia, insurance is a highly regulated business. In the U.S., for example, a company proposing to enter the primary insurance market would be answerable to the insurance commissioner in each state in which it sought to do business. Among other things, the would-be insurer would need to meet capital reserve requirements.
For these reasons, it is absurd to believe Tesla can offer insurance with comparable collision and liability coverage for less than the incumbent insurance companies can.
Perhaps, just perhaps, Tesla proposes to become the marketing partner for an existing insurance company. Such an arrangement would have the same problems as Tesla acting as a direct insurer: the actuarial experience of Tesla drivers is what it is.
As I have written before, Tesla cars are surprisingly easy to total and disconcertingly expensive to repair.
(A totaled Model X. Find it here as lot 26406417.)
Moreover, there are some significant potential dangers for the consumer of a prepaid Tesla insurance product. Would you prepay for several years of insurance from a company that lost $774 million last year and is on course to lose even more this year?
Before accepting such prepayments, would not Tesla have some duty to warn of the risks? I suspect the average car buyer believes Tesla is a hugely successful company. But being successful on Wall Street is quite different from being successful on the bottom line.
It's one thing to slap down a $1,000 refundable deposit on a Model 3, gambling you'll get the benefit of the $7,500 federal income tax credit before it phases down. That deposit, at least, gets priority in any bankruptcy proceeding relative to other unsecured creditors.
To prepay for auto insurance or maintenance, years in advance, is simply an irrational and risky thing to do.
D. Fixing 3,000 Nitpicks
Bertel Schmitt recently published a fascinating and illuminating interview with Wolfgang Ziebart about Jaguar's development of its all-electric I-Pace, which is now being tested and will be sold beginning next summer.
(Jaguar calls this a Model X killer. But isn't the Model X already dying from its congenital defects?)
Schmitt asked why, if working prototypes have been on the road for half a year, we will have to wait into 2018 for the car. If you're counting on Tesla's Model 3 to be a success, then I think Ziebart's answer is worth reflecting on:
O.K., so you finally have that new car with all the bits it is supposed to be produced with. You also have something else: Some 3,000 minor quibbles, all in themselves no show stoppers, but in total, it's not the quality a customer demands. For a truly refined car, you must work through these 3,000 nitpickings. And finally, you also need to be able to replicate it on a production line, which runs at one car every two minutes.
How many minor quibbles do you think might be raised about the Model 3 prototypes? And how many will be resolved if the car actually begins to roll of the production line, as promised, in July. Or, indeed, at any time before mid-2018?
II. Back to Buffalo: Let's Clear a Few Things Up
Let's get back to the Riverbend Agreement between New York State and Silevo. As a reminder, Silevo is owned by SolarCity, which in turn is owned by Tesla.
Let me begin by clearing up three mistakes in my earlier Riverbend article.
A. There was no existing factory
Under the impression from news reports that the Riverbend Agreement was the state's effort to put an empty factory to good use, I wrote that New York had refurbished an existing factory building for SolarCity's subsidiary, Silevo.
Alas, as I have now learned, the story is even worse, at least if you're a New York taxpayer. There was no empty factory when the deal was signed. New York State actually built the factory from scratch.
B. The Tenth Amendment
Second, I wrote about nine amendments to the Riverbend Agreement, each of which had been attached to SolarCity SEC filings. It turns out there are ten. I missed one that was attached to Tesla's most recent 10-Q.
The Tenth Amendment is dated effective as of March 31, 2017. It continues a shift of New York State's $750 million spending obligation that began six months earlier with the Eighth Amendment. Originally, New York State was to spend $350 million on the factory and $400 million on equipment.
With the signing of the Tenth Amendment, the breakdown is now $475 million on the factory and $275 million on equipment. Moreover, to the extent Silevo spends less than $275 million on equipment, Silevo can require New York to perform additional modifications or improvements to the factory building.
Observers of New York State politics tell me that one of the state's selling points for the deal was that if SolarCity were to fail, the taxpayers would still own the building and equipment. As the deal amendments keep shifting equipment expenditures to building expenditures, though, the taxpayers will still own the building (same size, but with construction costs ever growing) but less equipment.
(As a side note, information about how much New York State has spent on factory equipment, and what exactly that equipment is, appears to have been sucked into a black hole. There is no publicly available information on those topics.)
Of course, it is not Silevo that decided on this latest shift in the allocation of the $750 million. Silevo is nothing but an insolvent subsidiary of SolarCity. Silevo itself has no operations and, very likely, no employees except for those whose principal occupation is acting as officers of SolarCity or Tesla.
The change in the Tenth Amendment undoubtedly came about because of the "real party in interest," as we like to say in the law. That real party in interest is Panasonic Corporation (OTCPK:PCRFF). But that's getting a bit ahead of our story. I will have lots to say about Panasonic and its Riverbend deal in a later article.
C. The Mysterious Silevo Accounting on the SolarCity Balance Sheet
Third, I wrote earlier that SolarCity had written off the value of Silevo on its balance sheet. While it's clear Silevo is altogether worthless, it appears SolarCity may not have written off the investment. Bill Cunningham, wagner1928, PrincePreston, and Dansplans have a fascinating discussion of what would appear to be some accounting chicanery in comments you can find here, here, here, and here.
Also worth another read is Bill Cunningham's April article on the highly questionable accounting by Tesla and SolarCity for Silevo. Bill speculated that Tesla introduced the solar roof tile product simply to avoid having to write the Silevo assets down to zero. Knowing what I now know about Buffalo, I believe he's spot on.
III. Let's Pick Up the Thread: The "Essential Purposes" Have Failed, But the Monster Lives On.
With those corrections, let's pick up the thread of our Riverbend story.
A. Because the Riverbend Agreement Can Never Accomplish Its Essential Purposes...
When we left off, SolarCity had conceded its Silevo Triex technology was completely worthless. Let's recall that Triex was not merely important to the Riverside Agreement, but rather was at its very core:
The accomplishment of these Essential Purposes was to result in a Riverbend factory housing 1,500 or so employees and producing 1 Gigawatt of Triex modules per year at the start, and expanding later to provide an additional 5 Gigawatts of Triex modules.
None of this happened. And, more fundamentally, in view of the complete failure of Triex technology, none of this can ever happen.
B. ...New York State Had the Right to Terminate the Agreement…
Any lawyer worth his or her salt will look at these facts and see an obvious case for terminating the agreement. To start with, there's the familiar rule that when one party breaches an agreement, and the breach cannot be cured, the other party can terminate and exercise its remedies.
And if there is some impediment to a breach of contract argument, then there is also the old and well-established legal doctrine called Frustration of Purpose. Under that doctrine, a party may ask a court to set aside an agreement where an unforeseen event has radically changed the party's principal purpose for entering into the agreement.
C. … But Instead of Terminating the Agreement Itself, New York State Made It Easier for SolarCity To Do So.
The original Riverside Agreement has a lengthy force majeure clause. Such a clause operates to excuse a party from performing its obligations when a "greater force" beyond its control intervenes.
As I mentioned in my most recent article, the parties quietly amended that clause in the Eighth Amendment.
Let's now take a closer look. The amendment added the highlighted phrase:
This change is far from innocuous. What New York State did was to give Silevo a huge "out."
It's crucial to note that in the force majeure clause, "Silevo" is defined to include Silevo's parent company and affiliates. Further, to create a force majeure excuse, the change in laws or policies doesn't even have to be related to solar panels. All that's necessary is that the change adversely affect the business of Silevo or its affiliate.
Silevo, of course, no longer has any business (as was quite clear at the time the amendment was signed). So, the amendment is really directed to changes that affect the business of Silevo's affiliates, SolarCity and Tesla.
So, if a U.S. state changes its net metering laws (as Nevada did 18 months ago, and as several other states are now considering doing), then the adverse effect on SolarCity's business will enable Silevo to escape its employment and capital contribution obligations under the Riverbend Agreement
Or, if Congress were to reduce the 30% ITC allowed solar installations, same result.
Or, if Congress were to tighten the phase-out provisions of the electric vehicle tax credit, or pass legislation tightening up restrictions on "autopilot" claims, then the adverse effect on Tesla's business also would enable Silevo to abrogate its employment and expenditure promises.
What's that, you say? Surely the people who drafted the Eighth Amendment did not intend these sweeping effects.
Well, the people on the New York State side of the table may well have been too obtuse to understand what they were doing, but I am pretty confident the people on the Tesla side had a keen appreciation for what they were accomplishing.
D. And What's This Business About Increases in Tariffs?
Note that the new force majeure language sweeps up increases in tariffs. So, let's say some nation makes changes to solar panel tariffs or duties. Again, Silevo would have an out.
And, wouldn't you know it, what happened right about this time, even if it was not revealed until SolarCity published its Q2 2016 10-Q ten months later:
So, it's pretty clear why Silevo sought this change to the force majeure clause. The change vastly increased the Tesla parties' negotiating power, and greatly undercut any ability of New York State to seek meaningful remedies for a Silevo termination.
There is real mystery here, though, and I don't pretend to have solved it. The mystery is: Why did New York State agree to change the force majeure clause?
New York agreed to a change that is hugely beneficial to Silevo, but appears to have received nothing in return.
So, let's sum up where we are:
- New York City politicians went on a big spending spree with the Riverbend Agreement, committing $750 million of taxpayer dollars based on the idea that Silevo's Triex technology would revolutionize the solar energy business.
- The state's spending, especially on equipment, has been a black hole. To date, no one really knows where the money has gone. There appears to be no reliable financial oversight or reporting.
- During the months and years after striking a deal with Silevo, New York State began allowing Silevo to water down the deal, especially the employment promises.
- Then, very oddly, New York State gave Silevo an enormous escape hatch by amending the force majeure clause.
- The amendment was suspicious when it was made because of the Chinese tariff situation.
- The amendment is even more suspicious because New York got nothing in return.
- And the amendment is most suspicious because it gives Silevo the escape hatch for changes in the business activities of any present and future Silevo affiliates, even if engaged in business activities unrelated to solar (such as building cars or going to Mars).
- Meanwhile, the Triex technology was a total failure. There is no doubt Silevo will never be able to hold up its end of the Riverbend Agreement.
- At this point, New York State had the right to call the whole thing off and demand return of its factory and equipment back. It could have cited Silevo's massive breach of contract. It could have invoked the doctrine of frustration of purpose.
- New York State did not call the whole thing off. It appears it did not even try.
What did New York State do instead? It gave a big wet kiss to both Elon Musk and Panasonic Corporation. That, though, will be the topic of our next article.
Disclosure: I am/we are short TSLA VIA OPTIONS.
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.