Tesla’s upcoming Model 3 is going to be the final blow that kills Tesla Motors. At this point, it appears that Elon Musk has been so busy regurgitating his spiel about how the public wants electric cars that he actually believes it. He’s literally willing to kill the company to either be proven right or to to be finished with evangelizing.
The EV’s Uphill Climb
The problem is that electric cars are like fluorescent light bulbs. They may make logical sense, but the public won’t buy them unless they’re under duress. Did you know that you can buy an electric lawnmower? Neither did I. Landscapers hate electric lawnmowers or weed trimmers because charging is so inconvenient. Cooks hate electric stoves because you can‘t modulate the current like you can a flame. And the public won’t buy anyone’s $25,000 electric car as long as it takes more than 5 minutes to recharge and there isn’t a charging station on every block with a bathroom and Coke. The ease and portability of liquid power is a miracle we don’t appreciate fully.
If car buyers bought vehicles on the basis of logic, the pickup truck wouldn't perennially top the list of best selling vehicles. Compared to a passenger car, they get worse gas mileage. The high center of gravity leads to spooky handling on curvy roads. Sending power to the rear wheels while all the weight is over the front leads to poor traction. The extra weight a truck carries leads to longer stopping distances. So when die-hard Tesla promoters point out all the logical reasons that the public will flock to buy the Model 3, forgive me for being a little skeptical. The public doesn’t run through a list of pros and cons when shopping for automobiles any more than when they look for someone to date.
The Model 3 Doesn’t Make Financial Sense for the Consumer
From a used-car perspective, you can rebuild an engine but what do you do about a spent battery? After years of experience with laptops and phones, people know one thing for certain about batteries. They will wear out quickly, and then you dump them. Anyone buying an electric car for financial reasons will need to take the dismal resale value and battery replacement costs into the equation. You might gain a few dollars in the short term by spending less on fuel, but the total cost of ownership includes the higher up front cost of an EV, the lower resale value, and replacing a ten- to thirty-thousand-dollar battery in the not too distant future.
But the single biggest problem facing the Model 3 is the issue of convenience. This wasn’t as much of an issue with the Model S because that vehicle is the Gold Apple Watch Edition of the automotive world. It appeals to status conscious people who care more about flaunting their discretionary income than practicality. If it helps them fit into their eco-chic circles at the same time, all the better. These buyers probably have a second or third vehicle they can use to get to Napa Valley when the Tesla is out of juice.
But people who buy $25,000 cars are buying piece of mind. They don’t want to drive an old used car that might leave them stranded on the side of the road. Unfortunately, that also means that they may have to make some sacrifices to make that $500-per-month payment. This may mean no money in the budget to rent a car for a weekend trip. How often they may actually take those weekend trips is a dubious estimate but irrelevant in the mind of the buyer. Few people are going to choose an electric vehicle over models like the four cylinder Honda Accord or Mazda 6, both of which start at under $25,000. Especially when considering their stellar resale values, reliability scores, and ability to drive anywhere anytime.
As I've said before, regular people have a word for those who can afford separate get-to-work cars and weekend toys. Rich. I would no more recommend an EV to a young college graduate than I would an apartment they could only live in Monday through Friday.
Low Margin and High Volume is High Risk
Just for the sake of argument though, let's make the assumption that EVs may be commonplace one day. That day won't come soon enough for Tesla. Tesla has just bet the farm on going large-scale with the Model 3. Do you realize what that means? That means that Musk will need to write a check for billions of dollars in capital investment today. That means Tesla Motors is now on the hook to sell tens of thousands of Model 3s in order to pay his monthly machinery and equipment bill. If the public doesn’t respond, there will be red ink flowing like the river Nile. If you thought last quarter’s losses were bad, that will pale in comparison to the losses that lie in wait for Musk and company when the public drives by their showrooms to pick up their new Chevy Camaros. Another hot new model that starts at close to $25,000.
The Model S captures a high enough sales price to allow Tesla to limp along and bleed a slow death. But the Model 3 is a whole other ball game. Elon Musk just put his company’s ship into a collision course with a planet. With a low selling price, Tesla has to get large volumes from day one. There is no room for error. And they don’t have the luxury of not spending all that money either. In order to sell the Model 3 at it’s target price of $35,000 before tax incentives, they have to spread those tooling costs over massive volume. Otherwise, the price of the Model 3 would easily balloon to over $50,000. And that would kill any hope of success the Model 3 has.
Do you see where I’m going with this? If Tesla doesn’t spend all that money to ensure high-volume manufacturing in the short-term, they can’t sell the Model 3 near their price target of $35,000. If the short term demand doesn’t materialize, they will go belly-up faster than if they never offered the Model 3.
So if the Model 3 has any chance at success Tesla is doing the right thing. My objection is that I think Tesla should recognize that the public is not ready to start buying electric econoboxes on a large scale. Nissan and General Motors have been losing money on their EVs for years, but they can absorb it because they’re making money on their gas-powered pickup trucks and SUVs. If Apple decides to build an EV they could also absorb losses for years if they need to since their iPhone market is the closest thing to growing money on trees this side of a fairy tale. But Tesla? They’re betting the whole farm. When Tesla builds it and they don’t come, it’s going to be lights out. They won’t get a second chance to do it again in ten years when conditions may finally be ripe.
So What Should Tesla Do?
If I were advising Elon Musk, first I’d tell him, recognize your market. You sell to highly-paid professionals who don’t have much of a life outside of going to work and back almost every day. Your market isn’t going to be young people earning less than $60,000 per year and who like to drive out-of-state on a whim to catch a concert, the people who buy new $25,000 vehicles.
Second, focus your product line. After you’ve come to terms with who your market is, kill any thoughts considering low-margin and high-volume vehicles. Target all your R&D spending to making one car and one SUV better than the mediocre products that they are today.
Third, focus on your target cities. Someone at Tesla Motors had better put their sales organization on a leash, or they’re going to be servicing every podunk town in Nebraska if they’re not careful. Tesla doesn’t need to be spending money to sell and service products in low-density areas. If SG&A doesn’t come down soon, I’d start firing people in the sales organization and find someone who can run it responsibly.
Fourth, pay attention to history and let someone with deeper pockets do the heavy lifting developing battery technology and establishing a nationwide standard of recharge stations. Most of today's electric power plants in the United States are in the hands of a single owner, who picked them up from the pioneering trailblazers who went bankrupt. History is full of visionaries who lost their fortunes to someone else who waited to pick up the pieces of their dream at a steep discount. Why? Impatience. You’ve heard the old cliché, “curiosity killed the cat”. Well, I’d like to coin a new one, “impatience bankrupted the visionary”.
Fifth, raise your prices. Yes, they’ll lose some sales volume in the short run, but if you can’t pay the light bill, what’s the use? If nothing changes, they’re already going to be out of business in five years. They have the seeds of a successful boutique business in their rabid-but-small following, but they are under-valuing their vehicles. They need to show their investors that they can be a self-sustaining entity. Once they’ve attained an equilibrium where they’re profitably selling their vehicles, they can plan their next move.
Unfortunately, Elon Musk doesn’t strike me as the kind of guy who is willing to retrench. He wants to wow the world with his blitzkrieg on the auto industry, and he’s started a multi-front war that he can’t win. The famous boxer Sonny Liston’s manager once said of him “Sonny had his good points; the trouble was his bad points.” I can’t think of a better way to articulate Tesla’s predicament with Musk.
The problem is that electric cars are like fluorescent light bulbs. They may make logical sense, but the public won’t buy them unless they’re under duress. Did you know that you can buy an electric lawnmower? Neither did I. Landscapers hate electric lawnmowers or weed trimmers because charging is so inconvenient. Cooks hate electric stoves because you can‘t modulate the current like you can a flame. And the public won’t buy anyone’s $25,000 electric car as long as it takes more than 5 minutes to recharge and there isn’t a charging station on every block with a bathroom and Coke. The ease and portability of liquid power is a miracle we don’t appreciate fully.
If car buyers bought vehicles on the basis of logic, the pickup truck wouldn't perennially top the list of best selling vehicles. Compared to a passenger car, they get worse gas mileage. The high center of gravity leads to spooky handling on curvy roads. Sending power to the rear wheels while all the weight is over the front leads to poor traction. The extra weight a truck carries leads to longer stopping distances. So when die-hard Tesla promoters point out all the logical reasons that the public will flock to buy the Model 3, forgive me for being a little skeptical. The public doesn’t run through a list of pros and cons when shopping for automobiles any more than when they look for someone to date.
The Model 3 Doesn’t Make Financial Sense for the Consumer
From a used-car perspective, you can rebuild an engine but what do you do about a spent battery? After years of experience with laptops and phones, people know one thing for certain about batteries. They will wear out quickly, and then you dump them. Anyone buying an electric car for financial reasons will need to take the dismal resale value and battery replacement costs into the equation. You might gain a few dollars in the short term by spending less on fuel, but the total cost of ownership includes the higher up front cost of an EV, the lower resale value, and replacing a ten- to thirty-thousand-dollar battery in the not too distant future.
But the single biggest problem facing the Model 3 is the issue of convenience. This wasn’t as much of an issue with the Model S because that vehicle is the Gold Apple Watch Edition of the automotive world. It appeals to status conscious people who care more about flaunting their discretionary income than practicality. If it helps them fit into their eco-chic circles at the same time, all the better. These buyers probably have a second or third vehicle they can use to get to Napa Valley when the Tesla is out of juice.
But people who buy $25,000 cars are buying piece of mind. They don’t want to drive an old used car that might leave them stranded on the side of the road. Unfortunately, that also means that they may have to make some sacrifices to make that $500-per-month payment. This may mean no money in the budget to rent a car for a weekend trip. How often they may actually take those weekend trips is a dubious estimate but irrelevant in the mind of the buyer. Few people are going to choose an electric vehicle over models like the four cylinder Honda Accord or Mazda 6, both of which start at under $25,000. Especially when considering their stellar resale values, reliability scores, and ability to drive anywhere anytime.
As I've said before, regular people have a word for those who can afford separate get-to-work cars and weekend toys. Rich. I would no more recommend an EV to a young college graduate than I would an apartment they could only live in Monday through Friday.
Low Margin and High Volume is High Risk
Just for the sake of argument though, let's make the assumption that EVs may be commonplace one day. That day won't come soon enough for Tesla. Tesla has just bet the farm on going large-scale with the Model 3. Do you realize what that means? That means that Musk will need to write a check for billions of dollars in capital investment today. That means Tesla Motors is now on the hook to sell tens of thousands of Model 3s in order to pay his monthly machinery and equipment bill. If the public doesn’t respond, there will be red ink flowing like the river Nile. If you thought last quarter’s losses were bad, that will pale in comparison to the losses that lie in wait for Musk and company when the public drives by their showrooms to pick up their new Chevy Camaros. Another hot new model that starts at close to $25,000.
The Model S captures a high enough sales price to allow Tesla to limp along and bleed a slow death. But the Model 3 is a whole other ball game. Elon Musk just put his company’s ship into a collision course with a planet. With a low selling price, Tesla has to get large volumes from day one. There is no room for error. And they don’t have the luxury of not spending all that money either. In order to sell the Model 3 at it’s target price of $35,000 before tax incentives, they have to spread those tooling costs over massive volume. Otherwise, the price of the Model 3 would easily balloon to over $50,000. And that would kill any hope of success the Model 3 has.
Do you see where I’m going with this? If Tesla doesn’t spend all that money to ensure high-volume manufacturing in the short-term, they can’t sell the Model 3 near their price target of $35,000. If the short term demand doesn’t materialize, they will go belly-up faster than if they never offered the Model 3.
So if the Model 3 has any chance at success Tesla is doing the right thing. My objection is that I think Tesla should recognize that the public is not ready to start buying electric econoboxes on a large scale. Nissan and General Motors have been losing money on their EVs for years, but they can absorb it because they’re making money on their gas-powered pickup trucks and SUVs. If Apple decides to build an EV they could also absorb losses for years if they need to since their iPhone market is the closest thing to growing money on trees this side of a fairy tale. But Tesla? They’re betting the whole farm. When Tesla builds it and they don’t come, it’s going to be lights out. They won’t get a second chance to do it again in ten years when conditions may finally be ripe.
So What Should Tesla Do?
If I were advising Elon Musk, first I’d tell him, recognize your market. You sell to highly-paid professionals who don’t have much of a life outside of going to work and back almost every day. Your market isn’t going to be young people earning less than $60,000 per year and who like to drive out-of-state on a whim to catch a concert, the people who buy new $25,000 vehicles.
Second, focus your product line. After you’ve come to terms with who your market is, kill any thoughts considering low-margin and high-volume vehicles. Target all your R&D spending to making one car and one SUV better than the mediocre products that they are today.
Third, focus on your target cities. Someone at Tesla Motors had better put their sales organization on a leash, or they’re going to be servicing every podunk town in Nebraska if they’re not careful. Tesla doesn’t need to be spending money to sell and service products in low-density areas. If SG&A doesn’t come down soon, I’d start firing people in the sales organization and find someone who can run it responsibly.
Fourth, pay attention to history and let someone with deeper pockets do the heavy lifting developing battery technology and establishing a nationwide standard of recharge stations. Most of today's electric power plants in the United States are in the hands of a single owner, who picked them up from the pioneering trailblazers who went bankrupt. History is full of visionaries who lost their fortunes to someone else who waited to pick up the pieces of their dream at a steep discount. Why? Impatience. You’ve heard the old cliché, “curiosity killed the cat”. Well, I’d like to coin a new one, “impatience bankrupted the visionary”.
Fifth, raise your prices. Yes, they’ll lose some sales volume in the short run, but if you can’t pay the light bill, what’s the use? If nothing changes, they’re already going to be out of business in five years. They have the seeds of a successful boutique business in their rabid-but-small following, but they are under-valuing their vehicles. They need to show their investors that they can be a self-sustaining entity. Once they’ve attained an equilibrium where they’re profitably selling their vehicles, they can plan their next move.
Unfortunately, Elon Musk doesn’t strike me as the kind of guy who is willing to retrench. He wants to wow the world with his blitzkrieg on the auto industry, and he’s started a multi-front war that he can’t win. The famous boxer Sonny Liston’s manager once said of him “Sonny had his good points; the trouble was his bad points.” I can’t think of a better way to articulate Tesla’s predicament with Musk.
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