Tesla’s biggest profit driver is unsustainable


Reported last week Tesla (WKN: A1CX3T) for the fourth time in a row a quarterly profit according to Generally Accepted Accounting Principles (GAAP). This was a particularly important milestone for the electric vehicle pioneer. Because this qualifies the company for inclusion in the prestigious S&P-500-Index. In addition, earnings far exceeded analysts’ estimates.

Tesla performed better than expected, although its Fremont, California main facility was closed for “stay-at-home” measures in the first six weeks of the quarter. However, the company made another big profit from selling carbon credits in the last quarter – and this latest source of profit is unlikely to last long.

CO2 credits drive Tesla’s profit

In the first quarter, Tesla had $ 354 million in CO2 revenue, 64% more than in the previous year. This was equivalent to 6.9% of the company’s revenue from the automotive industry and 5.9% of total revenue. Tesla’s first quarter operating and net income was only $ 283 million and $ 16 million, respectively. Given this, this source of income is the difference between a net profit and a significant loss.

A similar dynamic emerged in the last quarter. Revenue from these certificates increased 21% in a row and 286% year-on-year to $ 428 million. This corresponded to 8.3% of the income from the automotive industry and 7.1% of the total income. Once again, this income made the difference between profit and loss of money. Tesla had an operating profit of $ 327 million and a GAAP net profit of $ 104 million in the last quarter.

These certificates have been in high demand lately. Because the big car manufacturers have not built enough sustainable vehicles to meet the regulatory requirements in certain regions. Instead of paying the resulting fines or getting rid of inferior electric vehicles with significant losses, many automakers have found it cheaper to purchase additional Tesla CO2 credits.

This win will not last

The regulatory requirements for sustainable vehicles are becoming increasingly stringent in many regions. For example, in California and other states, zero emission vehicle (ZEV) targets are increasing from around 3% of ZEV sales in 2019 to around 8% in 2025. The exact numbers depend, among other things, on the mix from plug-in hybrids and fully electric or hydrogen-powered cars.

As a result, the demand for CO2 credits increases in the short term. Tesla CFO Zach Kirkhorn estimated at the company’s recent conference call that the revenue from the certificates would roughly double by 2020. After the huge surge in revenue in the first half of the year, Tesla could achieve this goal with $ 205 million in carbon credits in each of the next two quarters: more than 50% less than the $ 428 million, generated in the second quarter.

Kirkhorn also warned that certificate sales would remain solid, but “eventually the flow of certificates will decrease.”

This should come as no surprise to investors. After initially concentrating their electric vehicle programs on relatively inexpensive small cars – which have fallen out of favor with consumers – the large car manufacturers are now turning to electric SUVs and trucks on a large scale. This is probably a better tactic to build electric vehicles profitably and on a large scale. Enough to meet the stricter regulatory requirements without buying additional credit in the market.

In addition, a number of start-ups will launch new electric vehicles in the next one to two years. That means there will be more sellers in the regulatory credit markets, which is likely to result in lower prices.

Tesla relies on untested business models for future profits

Excluding the revenue from the certificates sold, Tesla has lost money in the past twelve months. Admittedly, interruptions in production have impacted profitability this year, but even without these interruptions, the company would hardly be able to cover its costs.

If Tesla grows in size over time and newer products like the Y model become more mature (and therefore cheaper to build), the margins should improve somewhat. However, much of the cost savings will likely be offset by price cuts. At current prices – most Tesla models cost at least $ 50,000 – the company’s growth opportunities would be severely limited by the affordability aspect.

As a result, it could be quite difficult for Tesla to meet the industry-leading operating margin target in the low double digits. In order to achieve this margin structure, it appears to rely on a huge new source of income. This is the sale of software to Tesla owners, especially for autonomous driving.

During the conference call last week, Elon Musk said that fully autonomous driving software “is likely worth at least $ 100,000 per car.” However, there is a good chance that the actual value of the software is only a fraction of this amount. If Tesla can’t find a new source of income to replace the likely decline in carbon credits in a few years, the bulls’ hopes for a combination of incredible sales growth and massive margin expansion may never come true.

The post Tesla’s biggest profit driver is unsustainable appeared first on The Motley Fool Germany.

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Adam Levine-Weinberg does not own any of the stocks mentioned. The Motley Fool owns shares of and recommends Tesla shares.

This article was written by Adam Levine-Weinberg in English and was on July 26th, 2020 on Fool.com released. It has been translated so that our German readers can take part in the discussion.

Motley Fool Deutschland 2020


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