Tesla Inc. (TSLA, Financial) released its third-quarter deliveries report on Oct. 2. The company touted 139,300 deliveries, a new quarterly record for the electric vehicle maker, as a sign of strong demand and validation of its bulging valuation. However, a closer look at the numbers reveals a somewhat less flattering story.
Vehicle inventory pileup
While Tesla did manage to deliver 139,300 vehicles during the third quarter, it produced 145,036 over the same period – a net addition of 5,736 vehicles to inventory. That compares rather unfavorably to the second quarter, when Tesla produced 82,272 vehicles but managed to deliver 90,650 – a net inventory reduction of 8,378.
Tesla's latest inventory buildup is especially troubling in light of its manufacturing capacity. Production of 145,036 vehicles represents just 72% capacity utilization, as hedge fund manager Brad Munchen pointed out on Oct. 2. In other words, despite curtailing production significantly, Tesla was still unable to sell everything it produced despite substantial underutilization of its existing capacity. That is a worrying sign for a company priced for massive growth in itself, but is made all the more disconcerting in light of Tesla's claimed plan to further expand capacity with a plant in Germany.
Vehicles sitting unsold in inventory will weigh on profitability as the cost of manufacturing those vehicles is not recouped via sales during the quarter. That could prove problematic for Tesla's third-quarter earnings. While its underutilized manufacturing capacity will not likely cause too much harm this quarter, it speaks to a broader demand problem that is likely to get worse in the coming quarters.
Price cuts and lease growth
The third quarter also saw significant price cuts across Tesla's vehicle lineup. In July, the company reduced the price of its Model Y crossover SUV by $3,000 a mere four months after commencing deliveries. Price cuts so soon after a much-anticipated product release suggests that demand may be lower than Tesla had hoped, a view further reinforced by the company's refusal to break out sales of the Model Y and Model 3 sedan, which has instead opted to report only the aggregate delivery number.
Tesla also saw leasing customer growth, representing 7% of all deliveries in the third quarter. In the second quarter, leases accounted for just 5%. At 7% of deliveries, Model 3 and Model Y lease growth was especially pronounced, nearly double the 4% seen in the second quarter.
Price cuts and expanded leasing may help Tesla move metal, but it also cuts into its margins, which have been wafer-thin at best in prior quarters. The third-quarter price cuts and expanded leasing may hurt.
My analysis
Tesla reported a relatively slim $104 million GAAP net profit in the second quarter. Thus, with record deliveries in the third quarter, another profit might seem doable at first glance. But as I have mentioned several times, there are serious headwinds weighing on Tesla's bottom line this quarter. A major inventory selloff in the second quarter has been replaced by a significant inventory buildup, while price cuts and increased leasing further eat into margins and near-term cash flows.
Things look even worse if we examine how Tesla managed its second-quarter profit in the first place. As it turns out, the reported profit was the result of a bonanza of regulatory credit sales. Coming in at $594 million, regulatory credit revenue actually exceeded the $448 million brought in by automotive sales. Without those credit sales, Tesla would have reported a loss in excess of $300 million. In other words, Tesla was not able to make money selling cars, a problem that has long dogged the company, as longtime commentator Tesla Charts highlighted in a July 22 post.
According to Chief Financial Officer Zackary Kirkhorn, third-quarter regulatory credit sales will be halved from the previous quarter. Thus in a best-case scenario, Tesla may report a modest uptick in incremental revenue due to its record deliveries, but such gains will likely be muted by inventory growth, price cuts and increased leasing. In my analysis, without a repeat of the previous quarter's regulatory credit firesale, it is unlikely that Tesla can deliver a profit this time.
Disclosure: Author is short Tesla.
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