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When Should Investors Worry About Tesla Model 3 Pre-Order Cancellations?

By Motley Fool Staff - Apr 21, 2016 at 6:40PM

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If Tesla Motors can’t deliver on its Model 3, people will get impatient and move on.

Tesla Motors (TSLA -5.88%) has a massive amount of pre-orders (nearly 400,000 now) for its Model 3, and its future could be determined by how many of those customers actually want the car.

To pre-order the vehicle, consumers had to put down a refundable $1,000 deposit. That has given the company capital to spend, but it has also created two problems -- a sort of "damned if you do, damned if you don't" situation. Tesla could see lots of consumers cancel their order, leading to it having to give back a lot of cash. More realistically, it could see the order number grow and then it will actually have to deliver the cars.

In this clip from the MarketFoolery podcast, David Kretzmann explains what the numbers for Tesla's pre-orders could mean in terms of sales, and when he'll start to be concerned about pre-order cancellations.

A full transcript follows the video.

This podcast was recorded on April 6, 2016. 

Chris Hill: Have they given any indication of... let's just, for the sake of argument, assume that it ends up being 400,000 pre-orders, just for the sake of this question. What percentage of people -- and maybe they've indicated something along these lines, or maybe you have a number in your head -- but, what percentage of those people, if they come back later this year or sometime next year and say, "You know what? I want my $1,000 back, I'm not waiting anymore," is there a number that, for you, spells trouble? Is it 10%? 20%? Do you have a number in your head where you go, "You know what? This is definitely a red flag."

David Kretzmann: It's really hard to look at, because Tesla is a unique enough company in their own right, but then they're also delivering directly to consumer. They're not going through auto franchises or dealerships. So, that's also something to take into account. But, looking at some numbers, just for what this could mean in terms of the pre-orders and what the implications are for the company in terms of cash -- let's assume that 70% of the people who have pre-ordered as of this latest number, so about 276,000 people -- let's assume 70% of those people end up buying the car. You can assume that with some of the add-ons and upgrades to the car, the average selling price will probably be closer to $40,000 to $42,000. Those are some of the estimates that I've seen around, but obviously, that's a moving target at this point.

So, 70% of people converting to buying the final product, average selling price of $42,000 -- that would represent more than $8 billion in sales, just with those pre-orders. That's more than double the sales Tesla had last year in 2015. So, even with those pre-orders at 276,000 -- it's probably well higher by now, those numbers are from a couple days ago -- there's still a lot of potential with these pre-orders.

In my own head, I would think, if more than 30% of those pre-orders end up not buying the car, that would probably be a red flag. But it's such a unique model, it's hard to really pinpoint the best way to look at this. But, in my head, I think, if you get 70% of those people to actually become a Tesla buyer over the next couple years, once the Model 3 is ready, hopefully on time, I would think that's a success for Tesla, because that's a massive increase in sales, just with pre-orders.

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