(Tesla (TSLA) filed their 2Q earnings report last night, and while I really should wait until they file their 10-Q to make this more complete, I really just can’t help myself.)

In late January, TSLA reported an optically-impressive Q4’18 result (91k deliveries, 24% automotive gross margins, $140mm in net profits), and on the post-Q conference call, Elon Musk confidently predicted a move towards the sunny uplands of sustained profitability and free cash flow…but at the end of his prepared remarks, the incumbent CFO and longtime lieutenant, Deepak Ahuja, announced he was leaving the company.

When it came time to report Q1, however, all we got was another massive loss ($700mm net), cash burn (-$900mm), and a big decline in automotive gross margins (to 20%). Not to worry, said Musk – 1Q was affected by ‘seasonality in the auto industry’, and ‘logistics hell’ (as the company started shipments of the Model 3 worldwide – 2Q would see a return to delivery growth, positive free cash flow, and perhaps modest profits. Musk doubled down on this prediction barely a month ago, when – in a leaked employee memo – he suggested ‘a record quarter on every level.’ This subsequently goosed the stock (which had been in semi-freefall) into a stunning rebound, pushing it from the $190-ish level at the time to $260+ before this most recent release.

Surprise surprise, TSLA’s latest report arrived with a dud. Despite record deliveries, they lost more money ($400mm net, $200mm operating); automotive gross margins fell further (to 19%), and they only generated some free cash by liquidating inventory ($400mm+ in the Q) and cutting capex to less than 50% below depreciation (something you never see from ‘growth’ companies). And in case you weren’t paying attention – it wasn’t mentioned in any press release, of course – the CTO, JT Straubel (and a 16yr veteran of the company), is quitting as well.

Of course, you needn’t worry – Musk once again proclaimed TSLA would make a profit in 3Q, and be sustainably FCF generating going forward…just like he said in the last three quarters 😉

Wider Implications

Snark aside, this quarter was quite important for bulls and bears alike, simply in that it demonstrated TSLA remains structurally unprofitable even at its current rate of record deliveries (around 100k a quarter). It’s quite easy to see why: as fast as COGS per unit are falling, ASPs are falling faster. Here is ASPs vs COGS, over the last 6qs:

Per the above, blended ASP was 70k per car in 4Q but just 56k in this past quarter – hence, the improvement in COGS/unit (53k -> 46k) was more than undone by lower prices. This is a function of changing mix (more lower-priced Model 3s vs less Model Xs and Model Ss) but also something I have written about before – the ASP-destructive price cuts that TSLA has needed to drive volume. Since the company has further cut prices by another 4-5% at least early in 3Q, it is very difficult to see how this changes in the future (once you cut prices for a consumer product to drive volume it is nigh impossible to start raising prices again).

If gross profits – which, by the way, include all ZEV and non-ZEV credits, so I am giving TSLA for benefit for this non-operating high-margin revenue being viewed as sustainable – even remain flat, though, it is impossible to see how TSLA ever generates operating earnings. Because as per the below, despite significant and widely-publicized cost-cutting (‘efficiencies’ to the bulls, perhaps under-investment to the bears) in recent quarters, TSLA is clearly bumping up against the limits of its opex/unit leverage – even when it is delivering record volumes:

Per the above – opex per unit troughed at just over $11k in 4Q, and is essentially there today, despite all the machinations (closing stores, cutting toilet paper budgets, firing staff, not paying worker bonuses, etc) the company has rolled out this year. And yet back in 4Q, they generated $17k of gross profit per car (hence the profit), versus the $10k today (hence the loss). Since ASPs are still going down (and volumes seem likely to moderate lower as well, despite the price cuts), it is therefore unfathomable to me how TSLA ever makes any money. Yet in today’s day and age, this entity is deemed worth $55bn by the capital markets…

Of course, bulls would posit that this is just the status quo, and that TSLA will continue to grow volumes beyond the current rate. Since, given the evidence, volume growth cannot be accomplished without cutting prices (another pretty obvious conclusion derived from the above and my last blog post), most if not all incremental volume would appear to have come from new models (such as the Model Y), or from China Model 3 demand. But in the former of these cases, unit economics would be highly dilutory from the current situation (since a new model incurs all manner of ramp costs, which the Model 3 launch ramp amply demonstrated), and in any case will not meaningfully affect the PnL until 2021. Meanwhile the China Model 3 volume ramp thesis appears founded much more in fantasy than reality, given that Elon is talking about selling 150k cars a year from the China factory into a market where demand for the car today is barely 40k units a year; where competition is already far higher than any other market they operate in (and is increasing); where government subsidies were massively cut mid this yr (and will tick lower again next year); and where pricing of the local model will not, supposedly, be much lower than it is already (in reality I think they will cut prices massively again if or when the China factory is up and running). Color me skeptical on the China bull thesis, then.

Again, none of this is really revolutionary or even that insightful, and I purposefully avoided getting into the weeds of TSLA’s dodgy accounting in this post, to avoid muddying the main issue, which is this – it is increasingly clear that TSLA is a structurally unprofitable operation, condemned to perpetually chasing volume growth in order to limit the losses it self-imposes by cutting prices to below cost to keep up the illusion of growth.

At this point, there is very little mystery in the fundamentals, or in the mechanics of this operation. The real mystery is why investors continue to support and fund this delusional, dangerous (to conusmers), wasteful (of capital), and ultimately pointless exercise. We live in a time of free money, credulity and fantasy – when the present value of a bullish pipedream drawn from many years hence has never been higher. Figuring out when the market actually cares about the underlying reality – that the dream is over, or more accurately that there was never a true hope of profitability – is the real trick to this investment, and the quest to solve that mystery goes on.

Disclosure: short TSLA