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Tesla's Earnings Could Be in Trouble

An often overlooked factor that can have a significant impact on a company's bottom line is the costs or benefits derived from environmental regulations. While Tesla Motors (NASDAQ: TSLA  ) has been benefiting from its ability to sell "zero-emissions" credit to other automakers, a recent Automotive News article by Mark Rechtin suggests that the California Air Resources Board is considering changing certain rules that would negatively affect the company's bottom line.

If this is catching you off guard, it shouldn't. The practice has been going on since its pre-IPO days in 2009, when Honda  (NYSE: HMC  ) and others were purchasing the credits at fairly meaningful levels. Still, with programs such as California's Zero Emission Vehicle Program, or ZEV, going into effect, the future looks bright for Tesla and the electric car.

California rule change and Tesla
A significant contributor to Tesla's ability to turn a profit in the first quarter came from the $68 million it received from selling zero-emission credits, the end of which CEO Elon Musk acknowledged in the first-quarter earnings call. He explained that the company expected to see this revenue source decline in each successive quarter -- likely to be gone by the fourth quarter -- but assured investors that he believed the company would be profitable on its own by the end of 2013. Even if the credits persist, Musk said Tesla isn't accounting for this income in its projections. Still, many attribute the 300%-plus run in the stock's price this year to the company's positive first quarter, prompting the question of what happens if Tesla puts up a series of quarterly losses from here.

TSLA Chart

TSLA data by YCharts

According to Rechtin, the change that's expected from the California Air Resources Board is an alteration to the "fast refueling" rule that gave extra zero-emissions credits to vehicles with easily switched batteries. A demonstration with Tesla's Model S showed the battery could be switched in less than two minutes. To achieve the top tier of ZEV credit, a vehicle must have a city range of 300 miles and be able to be 95% recharged in 15 minutes. The Tesla S can only get there by virtue of battery switching. In the absence of the rule, the company would still receive credit, but at a significantly reduced rate.

The longer view for Tesla
While the short-term impact of regulation changes at the California Air Resources Board may dampen Tesla's profits, the long-term view remains very positive. At the end of 2012, the California ZEV program was granted the waiver it needed from the U.S. Environmental Protection Agency to make its mandate on ZEVs law. Under the mandate, beginning in 2018, automakers will be required to sell an increasing percentage of ZEVs. The percentage begins at 4.5% in 2018 and rises to 22% in 2025. Companies will be able to achieve partial credit for hybrids, calculated based on each vehicle's battery-only range.

In addition, plug-in vehicles, or PEVs, have been gaining increasing popularity. Not only did Tesla grab 8.4% of the luxury car market in the first quarter of 2013, but PEVs overall have also seen a ramp-up in sales in their first 30 months of existence at twice the rate of hybrid sales. This isn't a huge surprise, given the increasing popularity of green vehicles in general, but it demonstrates that Tesla is well in front of a sharply growing trend.

With government regulation driving the sales of ZEVs -- Connecticut, Maine, Maryland, Massachusetts, New Jersey, New York, Oregon, Rhode Island, and Vermont all follow California emission standards -- and with their popularity growing independently, Tesla's future looks bright. The company is set to release earnings on Aug. 7, and that report should give us some further insight into the impact of the missing ZEV credits. But longer term, Tesla looks strong.

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Read/Post Comments (7) | Recommend This Article (2)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 06, 2013, at 8:05 AM, JRP3 wrote:

    So basically this article contradicts it's "hit bait" title. The ZEV credits are a well known and already calculated factor. Worth noting however that the fast fueling requirement was put in place to placate hydrogen fuel cell lobbyists, to give them extra funding for their failed technology. Obviously they are now trying to change the rules to prevent Tesla from taking advantage of it. In the end it won't matter since HFCV's are a dead end, and Tesla is showing everyone exactly how successful a good EV can be.

  • Report this Comment On August 06, 2013, at 8:13 AM, dm2012 wrote:

    Starting to see the Model S on Long Island...

    This is a perfect place for this technology!

  • Report this Comment On August 06, 2013, at 8:33 AM, Marshgre wrote:

    "To achieve the top tier of ZEV credit, a vehicle must have a city range of 300 miles and be able to be 95% recharged in 15 minutes. The Tesla S can only get there by virtue of battery switching."

    So what the author is basically saying is that the Model S can only meet ZEV credit requirements because it is designed to. WHO KNEW!?

    That's definitely a "STOP THE PRESSES" moment right there.

  • Report this Comment On August 06, 2013, at 9:30 AM, SLTom992 wrote:

    Does anyone honestly believe that Tesla is going to be a serious car company? At a shopping center I drive by in an upscale town they have four FREE charging stations and I've never seen even one of them used. That says a lot for the desirability of a Tesla or any other electric car. So watch what happens when the tax incentives disappear.

  • Report this Comment On August 06, 2013, at 9:43 AM, spongeLarry wrote:

    This article makes no sense. The impending restriction of ZEV credits is only "under consideration" by California, it HAS NOT become law yet. It may not pass, we don't know yet. How on earth can you conclude that this will impact the earnings coming up on Aug. 7? This is a purposefully negative article designed to fuel bearish sentiment on TSLA. If this passes, it will affect future earnings only, and TSLA is expecting ZEV to vanish in the future. With production ramping up, we can expect earnings to increase despite the vanishing ZEV credits.

  • Report this Comment On August 06, 2013, at 1:07 PM, jeffhre wrote:

    Your facts are absolutely right SLTom992. Though your conclusions may apply more, for several reasons, to free charging stations than to the Tesla cars.

    IMO 99% of charging will be done at home, not for runs to get snacks, chips and errands. For around town, street speed jaunts and errands, the Tesla S has up to 300 miles of range. And every morning it has a full tank from charging at night.

    This makes charging at the free and very slow, public charging stations like stopping at a gas station, when you have 300 miles more range and will be charging at home, faster, more conveniently in about 20 minutes anyway.

    Further incentive for Tesla drivers not to use slow, inconvenient, public charging is the economics of using electricity over gas. Model S drivers that turn in their expensive European luxury cars and switch to electron powered propulsion, will save tens of thousands of dollars in fueling costs over their previous cars. Saving a nickel by using slow, inconvenient, public chargers is just not proving to be worth the effort.

  • Report this Comment On August 06, 2013, at 5:47 PM, gene132 wrote:

    Quite frankly, electric cars will never be viable without subsidies-and while the intent is good, such subsidies always cause economic distortions. Compressed natural gas (CNG) powered cars are a much better solution-they have greater range, can be refueled faster, and we have a 100 year supply of it. The American taxpayer has lost billions on promoting electric cars (Chevy Volt, Fisker Karma,etc.). Can we just listen to what the market is saying..for a change?

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