"Being unable to increase production fast enough, not lack of demand, is a fair criticism of Tesla."
-- CEO Elon Musk
There may be no company from which the stock market expects more than Tesla Motors (NASDAQ:TSLA). The company's $29 billion market cap is astounding given the fact that Tesla has lost $203 million in the last 12 months and expects to produce only 2,000 vehicles per week by the end of next year.
Tesla Motors is an upstart, and looks tiny compared to a company like Ford, which sells over 7,000 vehicles per day in the U.S. alone, 25 times what Tesla Motors projects to be able to make next year. Yet Ford is worth just over double Tesla, at $61 billion.
That's why Elon Musk's comments about production should be so troubling for investors. Tesla Motors needs to meet the high demand it has today to capture market share and not give customers the opportunity to consider competitors' improving EV offerings.
The lost opportunity for market share and growth
If Tesla Motors is ever going to live up to its hype, it's going to need to grow a lot in the next decade. Its Gigafactory's expected production implies Tesla will grow to 500,000 vehicles produced annually by 2020, a compound growth rate of 57% from 2014's production level of 33,000 vehicles. Even a slight miss could crater the stock.
If Tesla's production hits a snag, as it did this year when production issues reduced output by 2,000 units from 35,000 to 33,000, it could mean far less value for shareholders. Remember that the Model X is about a year and a half behind the original launch schedule, now expected in late 2015 from an originally planned early 2014.
These delays are significant given the high expected growth rate. A 45% growth rate through 2020 would mean just 325,000 vehicles are produced. A 35% growth rate would be 212,000 vehicles. It doesn't take much of a miss or delay in production to impact growth and therefore valuation of Tesla's stock. 2014's production was already hit by challenges, and there's no reason to think similar issues won't pop up over the next six years -- because as any engineer knows, things never go according to plan.
This is key, because if Tesla is losing sales to competitors because it can't meet demand, those sales are lost forever -- and may be building brand loyalty for competitors.
Giving competitors a chance to learn from their mistakes
Long-term, the problem with not taking market share while you can is that you allow competitors to catch up. That's happened extremely quickly over the past three years, and now Tesla has some significant competitors in both lower-cost EVs and high-performance EVs.
The most significant competitor is BMW (OTC:BAMX.F), which introduced the all-electric i3 in the U.S. in May and the hybrid electric i8 in August of this year. If InsideEV.com's numbers are correct, BMW has already outsold Tesla in the U.S. in October -- 1,363 vehicles to 1,300. Worldwide, BMW has reached nearly 13,000 i-Series sales through November, compared to the 33,000 vehicles Tesla is planning to deliver, despite a late start for the year.
There are also lower-cost options that are outselling the Model S this year, like the Nissan LEAF, Chevy Volt, and Toyota Prius PHV. These will also be direct competitors with the "mass-market" Tesla Model 3 when it's launched in 2017.
Most concerning long-term is that competition is learning from Tesla's success and its own past failures in the EV market. Automakers are improving their EVs' range, with the BMW i3 reaching 81 miles, the Mercedes B-Class at 85 miles, and the Kia Soul EV at 93 miles. Nissan has also reportedly been working on a Leaf that will increase range from 84 miles to around 150 miles. Slowly but surely, range is increasing, reducing a big anxiety for EV buyers.
Performance and styling is also rapidly improving in the EV market, as you can see by the names above. BMW's i8 is essentially a sports car with electric power, and the Mercedes B-class is a luxury EV offering. EVs are becoming more stylish and higher-performance, and Tesla has shown the industry that this combination can succeed in the market.
If competitors can incorporate those lessons into their larger manufacturing infrastructure, they could take advantage of Tesla's inability to meet the product demand it has today.
Delays at the Gigafactory could be an even bigger deal
Many Tesla Motors bulls will gloss over the issue I've outlined above, and they may be right in doing so. Tesla Motors may be far more than an EV company a decade from now, and a big step in that direction will be the Gigafactory being built in Nevada. The Gigafactory will not only make batteries for Tesla, it will make batteries for SolarCity's energy storage systems, and potentially supply other manufacturers.
At full volume, the plant will be able to make enough batteries for 500,000 vehicles per year, and will require a $4 billion-$5 billion investment over the next six years, including $2 billion from Tesla itself.
Those are impressive stats, but keep in mind that Tesla's return on investment is dependent on its meeting production goals and having enough demand to run at full capacity. It's easy to lose money quickly if a few billion dollars of capacity is sitting idle.
It's this need for demand that I think has driven Tesla to reportedly talk with BMW about possibly supplying batteries for future BMW EVs (an idea BMW quickly squashed). Tesla Motors knows BMW could steal market share from Tesla, and if it does, this is a way to keep the Gigafactory busy.
Production risk is a big risk
Having a great product is only half the battle for Tesla Motors. The other piece is executing on an aggressive production plan. This is no small talk for a company that's never taken on these tasks before, and it's a bigger risk than most investors might realize.
Investors should be at least a little concerned about the recent production delays Tesla has been having, because the company is not only losing sales, it's allowing competitors to catch up in the EV market. Long-term, that could make it tough to meet the lofty production targets that Wall Street is counting on.