Tesla, Inc.'s Loss Widens Amid Model 3 Production Delays

Electric-car maker Tesla (TSLA -5.59%) hit a notable milestone in its third quarter. The company delivered its 250,000th vehicle, making its total vehicle fleet about 100 times larger than it was just five years ago. While the growth is impressive, it's the company's next phase of growth that investors are most focused on. Investors want to see how quickly the automaker can ramp up production of its most affordable vehicle yet -- the Model 3.

In Tesla's third-quarter update, the automaker shared lots of new information about its business, including one on Model 3 production. Here's what investors should know.

Tesla factory. Image source: Author.

The raw numbers

Data source: Tesla's third-quarter shareholder letter. Table by author.

Revenue in increased 30%, driven by a 10% year-over-year rise in automotive revenue and $318 million from energy generation and storage sales (up from $23 million in the year-ago quarter). The energy generation and storage segment was helped by incremental revenue from Tesla's acquisition of SolarCity in the fourth quarter of last year, as well as by further acceleration in storage sales.

As expected, adjusted loss per share widened significantly. The decline in profitability was driven primarily by a much lower automotive gross margin due to a sharp increase in Model 3 manufacturing costs spread across very limited Model 3 unit production.

Third-quarter vehicle deliveries, which were announced at the beginning of October, were up about 5% year over year and 19% sequentially. Vehicle deliveries consisted of 25,915 Model S and X units and 222 Model 3s.

An update on Model 3

After Tesla admitted in October that Model 3 production was behind schedule, the vehicle was bound to be a hot topic in the third-quarter shareholder letter. Investors were looking for an update on Model 3 production targets as well as more color on what bottlenecks are weighing on Model 3 manufacturing. In addition, given the approximately 400,000 net reservations for its Model 3, many investors were likely interested in how demand for the highly anticipated vehicle is faring.

Model 3. Image source: Tesla.

Here's what management said about the vehicle:

• Model 3 production is "steadily increasing."
• Tesla has delayed its target for achieving a weekly Model 3 production rate of 5,000 units. It now expects to achieve this rate by "late Q1," compared to a previous aim for the end of the year.
• Tesla's "primary production constraint for the Model 3 has been in the battery module assembly line at Gigafactory 1, where cells are packaged into modules."

Tesla explained:

Four modules are packaged into an aluminum case to form a Model 3 battery pack. The combined complexity of module design and its automated manufacturing process has taken this line longer to ramp than expected. The biggest challenge is that the first two zones of a four zone process, key elements of which were done by manufacturing systems suppliers, had to be taken over and significantly redesigned by Tesla. We have redirected our best engineering talent to fine-tune the automated processes and related robotic programming, and we are confident that throughput will increase substantially in upcoming weeks and ultimately be capable of production rates significantly greater than the original specification.

• Global net reservations for its Model 3 "continued to grow significantly" during the quarter, pushing customer deposits up 14% sequentially and helping Tesla's cash balance rise to $3.5 billion -- up from $3.0 billion in the second quarter.

Looking ahead

For its fourth quarter, Tesla maintained its guidance to deliver about 27,000 combined Model S and X deliveries. "During Q3, we received record net orders for Model S and Model X, setting the stage for what should be an all-time record for deliveries of these vehicles in Q4," Tesla said. This would bring total Model S and X deliveries in 2017 to about 100,000, up 30% compared to 2016.

Tesla expects its automotive gross margin to continue to worsen again in the fourth quarter, driven by high Model 3 costs associated with low-volume Model 3 production. Specifically, it expects a non-GAAP automotive margin in Q4 of about 15%. But as capacity utilization improves amid a production ramp-up, Tesla continues to expect Model 3's non-GAAP gross margin to improve rapidly in 2018 to its target of 25%.

Despite using over $300 million in operating activities during the quarter, worse than the $200 million it used in Q2, Tesla is optimistic about its cash situation.

Between cash on hand, future cash flows and available lines of credit, we believe that we are well capitalized to accommodate the revised ramp of Model 3 production to 5,000 per week. Upon achieving this production level, we expect to generate significant cash flows from operating activities.

Editor's note: A previous version of this article listed the wrong figures for non-GAAP EPS and its year-over-year change in the table. The Fool regrets the error.