Tesla Motors Inc. Has Enormous Risks and Rewards in the World's Largest Automotive Market

As China's luxury and electric vehicle segments surge, it could be a huge boon for Tesla; it also brings substantial risks.

Jul 9, 2014 at 5:50PM

Model S Photo Gallery
Source: Tesla Motors

Automakers of all kinds are increasingly turning their heads to look at China for future growth. Consider that China is already the world's largest automotive market, ye it still grew at nearly twice the pace of the world's second-largest market in 2013, the United States.

While China's overall auto market is booming, niche vehicle segments are still trailing behind its overall growth. That may not be the case for long, as many expect China's the luxury vehicle and electric vehicle markets to become the largest on the planet over the next four to five years.

As the luxury and electric vehicle markets expand in China, it could become a dream market for Tesla Motors (NASDAQ:TSLA) which produces arguably one of the best vehicles ever made, the Model S -- a pure electric that is a unique mix between a sports car and a luxury sedan.

While Tesla's potential sales in China are enough to make investors drool, there are many hurdles looming ahead as Tesla discovers that doing business in the country isn't as easy as it is in developed countries.

Why is China important?
Sure, China offers a heap of potential sales for automakers competing in any vehicle segment, but as Tesla remains supply constrained, doesn't that mean the automaker doesn't really need sales in China to continue its success?

Not exactly.

If Tesla were a private company, that logic would hold true. As a public company, there are expectations and consequences, justified or not, for failing to meet those expectations. Unfortunately for long-term investors, expectations offer a short-term window . Wit such a young automaker, expectations of 7,500 Model S deliveries this quarter could mean that any small hiccup in one market might cause the company to miss delivery guidance -- though, that hasn't been a problem yet.

Although, this type of market hiccup scenario may have played out in a small market during Tesla's second quarter. Deliveries of Tesla's Model S surged in Norway during the first-quarter, up to 2,056, but have since declined; for the second quarter, deliveries in Norway are expected to check in at roughly 820.

Over the long haul, delivery volatility will even out, but if expectations are missed because of a small hiccup, or a prior quarter pulling sales forward, it could cause a sell-off of Tesla's premium-priced stock -- again, justified or not.

This is why China remains very important to Tesla -- it gives a market with substantial sales opportunity right away to help offset potential speed bumps in other markets.

InsideEVs forecast highlights that logic, as it predicts that Model S deliveries to China in the second quarter will come in at 40 units in April, 400 in May, and surging to 760 in June. InsideEVs believes that solid second-quarter performance will help offset Norway's weakness and bring Tesla's global deliveries to 7,850.

So, China may end up being Tesla's hero this quarter, but that doesn't mean everything in the market is peachy for the automaker.

Is any publicity still considered good publicity?
It's unclear whether Tesla rushed into China unprepared and lacking critical information, or whether the fault lies within China. Either way, currently, Tesla's Model S navigation system, which uses Google Maps, is not supported in the country. The company is working on a solution and plans to introduce navigation to Chinese models later this year. Furthermore, Tesla's remote over-the-air software updates aren't yet supported with the Chinese Model S, either.

Closeup

Source: Tesla Motors

For some consumers, this may seem like a minor inconvenience. For others, who paid a substantial price for a prized Model S and waited months for delivery, it can lead to extreme frustration and car bashing. If you don't visit that link, let me summarize: In a protest against "Tesla's arrogance" and small mishaps with a vehicle delivery, a consumer bashed in his windshield once the car was finally received. A video of the scene has apparently gone viral in China, with mixed reactions.

Maybe the video will fade away and Tesla can continue merrily on its path to much success in China and globally. However, you can't discount the fact that such a negative viral video could adversely affect Tesla's sales or brand image -- especially considering the company does zero marketing of its own. I suppose Tesla will be testing the age-old saying that "any publicity is good publicity" in China.

On top of that issue, Beijing is planning to install as many as 10,000 public rapid-charging stations for electric vehicles by 2017, according to Caixin Online, a Chinese news service. That seems like great news initially, which could help fuel Tesla Model S sales in one of China's large cities, except that those stations won't initially be compatible with Tesla's charging systems. While it's almost certain Tesla would simply make an adapter enabling Model S vehicles to use these charging stations in Beijing, and this wasn't exactly an unforeseen choice by China, this situation could have played out as a simpler scenario for Tesla -- just an additional small headache for the automaker's business in China.

Way to be a team player, China. But wait, Tesla fans, it gets better.

A past trademark infringement issue that had supposedly been settled, between Tesla and Chinese businessman Zhan Bhaosheng, has popped up again. Bhaosheng is now taking Tesla to court and demanding $3.85 million in compensation and demanding that Tesla stop all sales and marketing activities in China. It's a long shot for Bhaosheng, and China's government will likely back Tesla, but again, this is just another small headache for the automaker as it tries to ramp up its deliveries in a very important market.

Bottom line
Regardless of the outcomes of the previously mentioned headaches, Tesla is producing a world-class product and has a long-term vision that will find success whether dealing with China remains difficult or not. With that said, investors would be wise to consider the significant risks and difficulties surrounding Tesla's business in China and how it could affect short-term expectations and stock price volatility -- investing in Tesla is clearly not for the faint of heart. 

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Daniel Miller owns shares of Ford. The Motley Fool recommends Ford. The Motley Fool owns shares of Ford. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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