The China Opportunity Is a Game Changer for Tesla Motors Inc.

Despite recent squabbles with various state auto dealer associations, the U.S. remains by far the top market for luxury electric-car maker Tesla Motors Inc. (NASDAQ: TSLA  ) . However, there have been plenty of warning signs in the last six months or so that U.S. demand for the Model S sedan has peaked.

Any diversification of sales would be a good thing for Tesla at this point. Fortunately, China is poised to come to the rescue. Tesla delivered its first Model S sedans in China last month, and it is positioned for massive growth there in the next few years.

Tesla delivered its first Model S sedan in China last month. Photo: Tesla Motors

In fact, China is likely to overtake the U.S. as Tesla's largest market by the end of the decade -- or sooner! Tesla will be just a few years behind other major global automakers, like General Motors (NYSE: GM  ) , that are seeing sales volumes in China overtake sales in their home markets.

Support from the government
There are two key forces that should propel Tesla's growth in China. The first is smog. Smog has become a very serious public health problem in Beijing and many other urban areas in China. As a result, the Chinese government is very interested in promoting electric-vehicle technology.

Some local governments are also hopping on the electric-vehicle bandwagon. In Shanghai, where license plates can cost more than $10,000 in public auctions -- due to strict limits designed to alleviate congestion -- the local government is giving free license plates to Tesla Model S buyers. This creates great value for Tesla customers at no cost to the company.

Tesla's radical pricing move
The second (and even bigger) driver of Tesla's growth in China is its "fair" price policy. Other automakers put massive markups on luxury cars sold in China. For example, General Motors sells its Cadillac XTS full-size sedan for an MSRP starting at just $44,600 in the U.S. By contrast, the starting price for an XTS sedan is more than $80,000 in China.

GM's Cadillac XTS costs almost twice as much in China as in the U.S. Photo: General Motors

GM is just following general industry practice with this pricing scheme. However, Tesla decided to break the mold by selling the Model S in China at a price where it would earn the same margin as it would for a U.S. sale -- increasing the price only enough to compensate for customs duties, taxes, and transit costs.

The result, according to Tesla (link opens a PDF), is that "in China the Model S is priced comparable to a mid-sized premium vehicle, instead of a large luxury vehicle." Considering all of the other benefits of having an electric car, this should allow Tesla to capture a higher proportion of the luxury market in China than it has in the U.S. Most importantly, China is the top luxury car market in the world.

Getting there
According to Tesla executives, the company has already seen strong initial demand for the Model S in China. In fact, on the company's recent conference call, Tesla CEO and founder Elon Musk told analysts that if the company tried to fully meet Chinese demand for the Model S this year, it would starve the rest of the world. (In other words, there would be hardly any Teslas left for customers in other countries.)

Tesla needs to build a big Supercharger network in China to boost sales. Photo: Tesla Motors

Still, for Tesla to reach its full potential in China, it will need to vastly expand its infrastructure there -- which is exactly what it's doing. On several occasions recently, Musk has stated that he is urging the Tesla China group to spend money as fast as possible without wasting it. This primarily entails creating a broad network of Supercharger facilities and service centers.

Foolish final thoughts
There is obviously no guarantee that Tesla will be able to follow through on its potential in the Chinese market. However, the government's push for more clean vehicle technology and Tesla's lower markups in China compared to other luxury automakers create an enormous amount of growth potential for Tesla in China.

Between Tesla's likely growth in China, the arrival next year of its Model X crossover (which fits well with the growing popularity of crossovers and SUVs in China), and the potential for a mass-market vehicle later in the decade, Tesla has plenty of growth catalysts ahead. If Tesla stock continues to pull back this year, it will be worth a look for long-term investors.

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Read/Post Comments (13) | Recommend This Article (3)

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 May 17, 2014, at 4:14 PM, Ustauber wrote:

    ThxTsla

  • Report this Comment On May 17, 2014, at 6:39 PM, drax7 wrote:

    USA sales have not peaked. Elon said they actually grew by 10% last quarter. Why do you spread misinformation.

    Do you think we investors are not informed.

  • Report this Comment On May 17, 2014, at 9:27 PM, london1958 wrote:

    Amazing! America has no guts for glory for long forgotten world respect in technology, innovation and actually producing more than shitty fast food to the world. And I'm assuming you guys aren't backing this race horse, but I cant help but laugh that you are pushing LinkedIn, which has lost a lot of money (33% in the last 6 months).

    Wake up, Elon Musk will show you how it's done....in the US and abroad.

  • Report this Comment On May 17, 2014, at 10:49 PM, CarFanatic wrote:

    Wake up auto industry.

    There is a new kid on the block and he is packing a rocket!

  • Report this Comment On May 18, 2014, at 12:07 AM, MitchK wrote:

    Just a minor correction: Elon Musk (as great as he may be) was not one of the founders of Tesla. He bought the majority of the company, and then fought with and forced out the founders. Under Musk, Tesla burned through that cash infusion to near bankruptcy, and got bailed out by Obama's Energy Department with a huge loan. Then it went public and started selling more cars. But investors beware - a great car does not mean a great stock.

  • Report this Comment On May 18, 2014, at 7:02 AM, weaponz wrote:

    @MitchK - Incorrect. If you read up the history of Tesla, Musk was there pretty much from the beginning. Yes, Tesla Motors was incorporated prior to Musk, but at the time the only goal of incorporation of Tesla Motors was to build the t zero, a limited production car. Since the company that built the t zero (AC Propulsion) did not want to produce the t zero, they sent them to Musk who funded the venture. When they set down to talk, Musk is the one who wanted to go mass production and compete with the Big 3.

    So yes, Musk is a founder of Tesla Motors because prior to Musk, Tesla Motors was only a company in name. It had no product, it had no money it had no goal, no nothing. It was only a name.

    Musk provided the vision, the funding and the necessities for the product. Musk also contributed a lot of engineering talent from Space X to the development of Tesla.. Most of the wasted money was during the previous CEO's time as he was very wasteful and had no clue what he was doing. And he was a bit crazy screaming things like "NO WE WILL NOT USE THE ROADSTER IN A VIDEO GAME BY MICROSOFT, MICROSOFT IS THE DEVIL!".

    So yeah, he had to be removed. Musk then put in an interim CEO who got Tesla back on track. Musk nearly went bankrupt keeping Tesla (and SpaceX) alive. What ended up saving Tesla was an investment from Mercedes.

    Tesla then wanted to accelerate the mass production of the Model S, but needed a loan to do so. Unfortunately at the time due to the stock crash, it was impossible to get a loan at a sane rate. At the time, the cheapest loan was the George W Bush Administration's Energy ATVM loan guarantee program.

    (This program was made as a way to bail out Ford which provided up to 25 billion to Ford to avoid bankruptcy. Ford ended up needing only 5.9 billion and the rest was given to other companies to cover up the loan. So while the majority of the US population are aware that GM and Chrysler was bailed out, most people are not aware Ford took a bail out as well)

  • Report this Comment On May 18, 2014, at 9:20 AM, TMFGemHunter wrote:

    @drax7: Musk said that orders in the U.S. had risen by 10%, but he did not say that orders for the Model S sedan had risen. Many of the orders coming in now are for the Model X, which is supposed to go into mass production around a year from now.

    Tesla has been delivering a steadily increasing proportion of cars to Europe and China over the last couple of quarters. Even though the number of U.S. deliveries has fallen from the peak a few quarters ago, the U.S. wait time has not increased. The only way that could be is if U.S. quarterly order numbers are declining.

    Adam

  • Report this Comment On May 18, 2014, at 9:54 AM, weaponz wrote:

    @TMFGemHunter - I will disagree that the US has stalled. The reason why a lot of US demand has been fulfilled was because in Q4 Tesla unloaded a lot of loaner cars.

    On top of that remember that Tesla manufactured ~7,500 cars. But sold only ~6,500 which means that 1,000 cars are being sent to Europe/China.

  • Report this Comment On May 18, 2014, at 11:50 AM, MitchK wrote:

    @weaponsz - Thanks for the spirited discussion (which I want to keep friendly). RE Musk's "founding" of Tesla, we can probably agree that he saved the company when he entered, and made it what it is today. RE the fighting, when 2+ type A males clash, sparks will fly. Can we also agree that Musk is not exactly the picture of mental stability himself? Didn't he scream and curse about the headlight design? Now, you mentioned a new point - competing with the big 3. I think it's important to look at the financial data in a logical, non-emotional way. Today, TSLA's market cap is almost half of GM's, while their revenue is less than 2% of GMs's. Their forward-looking P/E through end of 2015 is over 60, while GM's is around 7, and Ford's is 10. Isn't it possible that investors are letting fantasy and the Musk-Tesla-Electric mythology take over their judgment?

  • Report this Comment On May 18, 2014, at 1:21 PM, weaponz wrote:

    @MitchK - It isn't just saved the company, he pretty much made the company. As stated, the company prior to him was just a name that existed for only 1 year. It had no product, no goal, no funding. Hence why he is considered a founder.

    And so you know, Musk pretty much ran the company as he was in charge of the funding. But he was not in charge of day to day operations which was the job of the first CEO. There was no epic battle between the two, just the current CEO was not fit for the job.

    There is a difference between being harsh to create a good product. And refusing free promotion in a video game just because the video game.

    When investors invest in Tesla, they are investing in the long term future. That said we also have to understand there are a few differences:

    1) Tesla has higher margins then GM and Ford by a lot. On top of that Ford and GM will not grow 2x next year and the year after, Tesla will

    2) Ford and GM have a lot of "liabilities" an example is the recent GM issue where over 13 people died. And GM recently went bankrupt if we remember.

    3) Tesla is viewed as a technology company, so their business can extend outside of just cars into grid storage.

    At the end of the day, I will tell you this. No stock in existence makes sense. Stock has always been a game of hypothetical values and trend.

  • Report this Comment On May 19, 2014, at 7:42 PM, stainlesssteel77 wrote:

    @TMFGemHunter/Adam:

    Nice article on the huge potential for Tesla in China. However it contains a major misinderstanding on US demand vs. deliveries:

    "...there have been plenty of warning signs in the last six months or so that U.S. demand for the Model S sedan has peaked."

    Not true. According to Tesla on the 1Q2014 conference call, Tesla is seeing increasing US demand. Elon went out of his way to make this clear on the call. US deliveries are down due to diverting cars to the Europe and China pipeline. One of the largest sources of confusion over deliveries vs. demand are various misinformed and illogical Seeking Alpha and blog posts, most notably Paulo "Demand Plateau" Santos.

    On May 18, 2014, at 9:20 AM, TMFGemHunter wrote:

    "Musk said that orders in the U.S. had risen by 10%, but he did not say that orders for the Model S sedan had risen. Many of the orders coming in now are for the Model X, which is supposed to go into mass production around a year from now."

    Not true. Tesla Investor Relations has clarified that yes that 10% is all Model S orders, no Model X reservations included. You most likely got this misinformation from the Santos article below incorrectly making this claim.

    Tesla demand-equals-deliveries fallacy disproved:

    http://seekingalpha.com/article/2202333-teslas-customer-depo...

    Article calling out widely held nonsense about Tesla:

    Don't Let Tesla Bears' Cage-Rattling Knock You Off Course

    http://seekingalpha.com/article/2214243-dont-let-tesla-bears...

  • Report this Comment On May 19, 2014, at 8:24 PM, AnthemFool wrote:

    @stainlesssteel77:

    I'm glad you refuted the Paulo Santos assertion that the 10% was fuzzed up with Model X orders. As pointed out by the second article you linked, Santos was grasping at straws and couldn't be bothered to call Tesla to clarify the statement, as the author of that article did. Santos has been touting his peaking demand thesis for over a year now.

    @TMFGemHunter: For you to repeat Santos' claim without verifying it doesn't show due diligence on your part.

  • Report this Comment On May 20, 2014, at 5:20 PM, TMFGemHunter wrote:

    @AnthemFool and stainlesssteel: I didn't equate Model S demand with deliveries, and I don't think many serious investors are really confused about that at this point. However, this is a mess of Tesla's making -- if they would just report orders as well as deliveries, there wouldn't be a debate about how demand is holding up.

    The issue is this: if the number of U.S. deliveries is dropping due to more Model S sedans being shipped to Europe and China, the U.S. wait time should be increasing rapidly. Just in the past couple of days (after this article went to press) Tesla seems to have pushed back the U.S. wait time. That seems like a possible indicator of steady or increasing demand -- but that wasn't the most current info available last week.

    I will have to dig into this further and contact Tesla IR to see if I can get any useful data -- even if they're not willing to give out actual order numbers.

    Adam

    P.S. I didn't get any data from Santos, although I have read a couple of his Tesla articles. I don't agree with his point of view, but again I think part of the problem is that Tesla has a tendency to be obtuse in its reporting.

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