Does Tesla (TSLA) face a demand problem? Not according to Tesla.
But, if there is no demand problem, why has Tesla repeatedly cut prices across its lineup of electric vehicles since the start of 2019? Well, according to Tesla, those were not price cuts at all, they were merely price adjustments. Yet, whether Tesla calls it a price cut or a price adjustment, the result was the same when the company reported earnings for Q1 2019: A punishing loss as a result of much-reduced margins.
Unfortunately for Tesla – and its vaunted valuation – word games cannot alter the fundamental economic reality of a situation. The stark reality is that falling margins are here to stay, which bodes ill for Tesla’s financial survival going forward.
A Series of Unfortunate Adjustments
Tesla started cutting prices right out of the gate in 2019. On Jan. 2, it cut the prices of the Model 3, Model S, and Model X by $2,000. A series of additional price cuts followed over the next several weeks.
The price drops did not end in Q1. Indeed, on May 21, Tesla announced its latest round of price cuts, reducing the base prices of the Model and Model X yet again.
These cuts appear to be the result of an effort to juice up flagging demand, an issue Tesla has roundly and routinely denied having. But the signs are all plain to see. A big drop in sequential deliveries in Q1 certainly sparked alarm bells among analysts concerned that demand was starting to ebb even after its swinging price cuts.
During the Q1 2019 earnings call in April, analysts pressed CEO Elon Musk repeatedly on the subject of demand. Colin Langan of UBS had a particularly enlightening exchange with the Tesla boss:
Colin Langan — UBS — Analyst
Oh, great. Thanks for taking my question. I mean, it sounds like from the tone of the call that you don’t see that there is a demand issue for some of the products. But margins seem to be under pressure and typically automakers stop pricing when there is a demand issue. So, what is the logic of the price cuts during the quarter?
Elon R. Musk — Chief Executive Officer
I mean, our goal, as we’ve been very clear about from the beginning of the Company is to make our cars as affordable as possible.
In Musk’s telling of the tale, the price reductions announced throughout the quarter were not undertaken to move metal, but were instead all about making Tesla vehicles available to a wider market. Likewise, cost improvements from volume production and increased efficiency allow Tesla to periodically adjust prices downward, passing the savings on to buyers. In other words, demand was not the cause of the price reductions, Tesla’s generosity of spirit was.
Affordable, But for Who?
This is far from new material where Musk is concerned. Indeed, his comments during the Q4 2018 earnings call in February showed a similar line of reasoning:
“The demand for Model 3 is insanely high. The inhibitor is affordability. It’s just like people literally don’t have the money to buy the car. It’s got nothing to do with desire. They just don’t have enough money in their bank account. If the car can be made more affordable, the demand is extraordinary.”
Musk wants us to believe that Tesla’s Q1 loss was a consequence of its goal to make its cars as affordable as possible. But is it even remotely plausible that Musk, who last year guided for profits in all quarters going forward, would allow his company to eat a $700 million loss due to a sense of charity and fair play? Not hardly.
There can be no doubt that Tesla has made its vehicles more affordable to buyers by lowering prices across the board. Unfortunately, doing so has resulted in Tesla selling cars at a massive loss. That is most definitely not affordable – for Tesla, anyway.
Investor’s Eye View
Lower average sale prices can increase demand and delivery volume, sure, but it can only be taken so far. Tesla has clearly driven well past the point of breakeven where price is concerned. With Tesla pulling every lever it can to boost delivery volume in June, including promising new bonuses to sales and delivery staff and extending free Supercharging to inventory buyers.
Investors who continue to buy into the fantasy that Tesla’s price reductions are merely adjustments to pass savings onto consumers are not paying attention. Since Q3 2018, average sale prices have been trending downward and Q2 has been no exception.
They will get a rude awakening when Tesla posts another punishing loss for Q2.
Disclosure: I am/we are short TSLA. 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.
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