Can Tesla finally go mainstream with its recently unveiled Model 3 electric car? The company’s pricier offerings get rave reviews for their handling and high-tech design, but a sustainable business model depends on selling larger volumes and exploiting economies of scale.
Model 3: Third Time’s the Charm?
Tesla, the electric vehicle start-up helmed by tech entrepreneur Elon Musk, has come a long way in its short history. Its first vehicle, the Roadster, was based on a Lotus Elise sports car with the gas-powered engine replaced by batteries and an electric motor. In other words: An electric novelty for well-heeled buyers (George Clooney was an early customer). But then Tesla began building its electric cars in-house, starting with the Model S luxury sedan and following up that sales success with the Model X crossover SUV. And last week, Musk took the wrapper off the long-awaited Model 3, a smaller sedan with a much lower starting price, which the company is banking on to become its high-volume seller.
One measure of success that has largely eluded Tesla so far: Profitability. Despite selling 25,000 Model S sedans last year (priced at about $75,000 and up) and beginning delivery of the Model X SUV, Tesla lost nearly $900 million. Musk likes to point out that the company is producing positive cash flow from its “core operations” of selling cars, and predicts that Tesla will achieve “moderate” profitability in the fourth quarter of 2016.
Higher volume will be one key to stanching the red ink. And that’s where the Model 3 comes in. Musk claims that the new, entry-level Tesla will start at $35,000 before any federal or state tax incentives (more on those in a moment) while still offering at least 215 miles of driving range per battery charge. That sounds ambitious, considering that BMW’s i3 electric hatchback starts at $42,400 and travels about 80 miles on a charge. But it’s just what Tesla needs to lower its per-unit manufacturing costs.
Demand for the Model 3 is strong. But can Tesla deliver? Within days of its unveiling, the company announced 300,000 orders, with would-be buyers each putting up a $1,000 deposit. Musk says that the first cars will reach customers by “late 2017,” implying a wait of up to 20 months. Moreover, Tesla’s track record of meeting self-imposed deadlines isn’t exactly stellar; the Model X SUV arrived nearly two years later than originally scheduled, with production slow to ramp up.
The Road Ahead: Paved with Question Marks
We don’t claim to know what the future holds for the Model 3. But we can think of quite a few hurdles it needs to clear. Can Tesla increase its production capacity to deliver a batch of 300,000 new cars, when so far it has sold only 107,000 vehicles in its entire history? Much of that depends on the vaunted Gigafactory battery plant being built in Nevada to supply the lithium-ion batteries for future Teslas at significantly lower cost than today’s units. Will that facility be up and running and churning out enough cheap batteries in time to equip all the Model 3s for which Tesla is now booking orders?
Will enough buyers actually pony up for the new car whenever it does become available? Musk’s promised starting price of $35,000 is a bit more than today’s average new-car transaction price of $33,666. But once options such as all-wheel drive with bigger battery packs are included, Musk expects the price for the average Model 3 to climb to about $42,000.
Will demand waver when the federal tax credit runs out? Right now, anyone who buys a new Tesla will drive off with a $7,500 tax credit from Uncle Sam. But that subsidy starts to phase out once a manufacturer has sold 200,000 electric vehicles. Tesla is more than halfway to that threshold, which means that many of the folks putting up their $1,000 for the right to buy a Model 3 won’t be getting any help from the feds when their cars are ready for delivery. Meanwhile, other makers that have sold fewer electric vehicles will remain eligible far longer, posing tougher competition for Tesla. (General Motors’ forthcoming Chevy Bolt figures to be an early Model 3 rival. GM says it’ll start at $37,500, with at least 200 miles of driving range.)
Many state governments also offer some form of financial incentive, from exempting electric cars from sales tax (as in Washington) to hefty subsidies (such as Colorado’s $6,000 tax credit). But how many states are going to be able to keep offering such deals on cars that are already skipping the gasoline taxes most states depend on to fund road construction?
Can an electric sedan captivate American drivers in a time of low gas prices and strong demand for SUVs and pickup trucks? Predicting what gas will cost in December of 2017 is tricky, but we’re fairly sure the price won’t skyrocket from today’s level of roughly $2 per gallon. Those low prices are fueling demand for SUVs and pickups, which generate big profits for their makers. Hybrids and other electric cars remain a small slice of the market. So, even if Tesla delivers an exceptionally well-built and fun-to-drive electric car at a reasonable price, a great many drivers simply won’t be interested.
The bottom line: Tesla needs a lot to go right as it seeks to rev up production enough to lower its per-car manufacturing cost. The market for its newest model seems hot now, but 20 months is a long time for folks to wait while the Model 3 assembly line tools up. Start-up delays will further push back that distant deadline. The federal subsidy that has bolstered Tesla’s sales to date will phase out. And electric cars are a tough sell as long as gas prices aren’t too painful for the average driver.
This feels like a make-or-break moment for Tesla. Either the company makes good on its ambitious plans and starts making a profit selling affordable electric cars that people really want to buy (even without subsidies), or Musk is going to need a Plan B. No pressure, Elon.