There’s a fairly fundamental concept in most retail industries: the concept of same-store sales (‘like-for-like sales’, ‘equivalent-store sales’, ‘existing-store sales’, etc). This is a pretty intuitive concept, but to recapitulate by example, let’s say I’m a McDonald’s franchisor, and last year I had 100 stores that did $100mm in revenues ($1mm/store), and sold 250k Big Macs at $4 a pop (this is a very minimalist hypothetical McDonald’s :)). That’s great but I want to grow, so let’s say I open another 100 stores. Unfortunately though I over-estimated demand for Big Macs, such that the new stores underperform and draw traffic from my existing footprint (there are lots of other burger joints out there, of course), and I am forced to cut prices on my burgers to $3.5 each to maintain growth in my burger volume (necessary to keep all those grills in the new and old stores busy). At the end of the year I report 350k burgers sold and $122.5mm in revenues – both new ‘records’ for my franchise operation – but clearly a large decline in same-store-sales, and, as a result, profits (I doubled the store count and a huge component of fixed costs but only increased revenues 22%). It’s quite easy in this example to see how revenue growth for its own sake actually destroys value.

Which brings me to Tesla (TSLA), which just reported ‘record’ quarterly deliveries of 95k vehicles, versus the Q4’18 performance of 91k deliveries. Bulls are busy trumpeting this as proof that demand is strong and sustainable; but I think if you break down this theoretical record by analyzing the geographic footprint of where the sales are coming from actually suggests the opposite. Once you realize that unit volume is being driven by a combination of new market entries and price-cutting, it’s pretty clear that TSLA’s unit growth is only so many empty calories.

The analogy to a hypothetical burger chain is not perfect (because TSLA isn’t opening new factories in all of its new locales and therefore doesn’t face the same fixed cost burden on incremental sales), but conceptually it is somewhat instructive. Lost in the bullish headlines this morning is the simple reality that in Q4’18, TSLA was only selling the Model 3 in the US (its core market); by now the Model 3 is available worldwide (with the exception of some very small right-hand drive markets) – tenuously equivalent to opening a vast number of new ‘stores’ to achieve a marginal increase in sales. Instead, if we look purely at the US market, where the Model 3 has been out for the entire year (both 2H 2018 and 1H 2019), the unit performance looks unimpressive to say the least: Model 3 deliveries fell 42% half-on-half in 1H’19 versus 2H’18 (67k vs 116k, per InsideEVs). Incidentally, this half-on-half decline is mirrored in the performance of the Model S (-52% HoH) and Model X (-46%) as well.

In other words, in Tesla’s most mature market – and despite significant price cuts and the introduction of the much lower-priced Model 3 SR+ – unit sales are falling rapidly half-on-half. It is hard to argue there is any seasonality involved, either: since 2014, the average HoH change in US SAAR is negligible (see below), so it’s not as if there is an external reason for the large decline in ‘same-market sales’ in the US:

Rather, it seems fairly self-explanatory what happened: there was a large, one-time surge in demand last year in 2H, as all the pent-up demand for the Model 3 was fulfilled in 2 voracious quarters; thereafter, run-rate demand (in the US) seems to have moderated to much lower levels, even at lower prices (actually there are still one-time pull-forward effects in the US in 2Q, like the halving of the Federal Tax Credit once again, but let’s leave this aside for now). This is not readily apparent in the gross numbers, because of the aforementioned opening up of new markets. But as we lap 2H’19 comps, and as Europe/China mature in the coming quarters, it will most certainly become much clearer (and signs are already pretty bad re run-rate demand in Europe, especially, as daily registrations have rolled over much faster than was seen in the US).

Thus in recent quarters, TSLA has found itself somewhat in the situation of our hypothetical burger franchisor: wanting, needing to show growth (to defend the stock price) but with underlying unit growth receding in its existing core, having to continuously open new markets, as well as cut prices, to maintain gross unit momentum.

The effect of price cuts should be readily understood, but is something the bulls conveniently ignore. Taking the simplest measure of average selling price (total automotive revenue divided by unit deliveries), TSLA’s ASP’s have been declining fairly consistently over the last 5 quarters (ignoring 2Q for now as we haven’t seen the print yet, though I expend the trend to continue):

While of course a good chunk of this is due to the introduction of the Model 3 progressively from 2Q last year, we also know TSLA has cut prices at least 3 times in the last six months on all its models; and has been known to push large end-of-quarter discounts to clear inventory (as happened in 1Q).  Finally, it demonstrates the futility of TSLA achieving unit growth for its own sake, at the price of ASPs. Consider that in this 2Q, ASPs only declined modestly from 1Q (and thus are around $60k blended), TSLA will have shipped 5k more units than in 4Q’18 – a quarter that was only very marginally profitable ($200mm), excluding subsidies – but at the cost of 5k x ~$10000 gross margin per vehicle, or $500mm in total and thus putting the company back squarely in loss-making territory. That doesn’t sound much like a record quarter, to me…but it is a trick Elon and co will have to repeat, ad nauseam, to satisfy a stockmarket pricing in ongoing aggressive unit growth in the coming years.

Since we all learnt in Economics 101 that demand is a function of price, this all goes to the heart of the bull/bear debate and why the bear position – one I occupy – is so intractable. Any fool can tell you that if you sell Rolexes for $500 a pop your unit growth will be incredible; you’d also be hard pressed to find someone arguing such an idea would be a smart business move. Selling something, anything, of value demonstrably below cost will undoubtedly move units – but to confuse this with creating economic value is borderline insanity. If you are marketing a consumer product that is currently unprofitable (check), that has demonstrably sold its highest ASP products ever (check check) and cannot grow units on a like-for-like basis without cutting prices (check check check), how will it be possible to ever generate sustainable profits (let alone an adequate return on capital)? The market may close its eyes and bathe in the glow of ‘record unit volume’ for a day, a month, or longer, but in the end if the business proposition is unsustainable, the stock will follow.

Disclosure: short TSLA