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Tesla’s Future and ESG Charge Ahead
Tesla is now the most valuable car company in the world by market capitalization, having overtaken Toyota, despite having been projected to sell less than 5% of the latter’s volume for 2020 and accounting for less than 1% of total global volume. Tesla is seen as a key disruptor in the auto space, stemming from its focused all-battery electric vehicle strategy without a need to protect the profitability of a legacy internal combustion engine (ICE) business, as well as being an innovator in battery technology and pioneer in autonomous driving.
At the same time, the world is moving undeniably closer to a low-carbon automotive future. Electric vehicles (EVs) are increasingly seen, even by major manufacturers who still rely on an ICE, as an attractive (and eventually low-cost) way to make this future a reality. The challenge from an environmental, social, and governance (ESG) standpoint is in how EV manufacturers, and especially Tesla, will be able to ensure that they as well as their supply chains remain committed to reaching these goals in a domestic market where there will soon be further home-grown competition. Nonetheless, investments in EV manufacturers, including several others apart from Tesla, are ascending in popularity for ESG investors everywhere, with no signs of this interest abating.
Of key importance, Tesla has demonstrated a legitimate pathway to profitability for electric vehicle (EV) start-ups and has successfully overcome early execution and ramp-up issues. The market expects Tesla to continue gaining market share in the premium auto space and further penetrate the Chinese market. As Tesla looks to extend its leadership in battery technology and further lower its cost base to remain competitive, we believe that setting up a factory in China will allow Tesla to be closer to its supply chain and fully tap into the capabilities of China’s burgeoning EV supply chain.
Tesla’s Shanghai factory is the company’s first car manufacturing site outside the US and key to Elon Musk’s ambition of boosting sales in the world’s largest auto market while avoiding high import tariffs on US-made cars. The new factory (known as Gigafactory 3) is also the first fully foreign-owned auto manufacturing plant in China. Tesla will produce mainly the Model 3 (sedan) and Model Y (compact SUV) for the Chinese market. Tesla’s Model 3 was the top-selling plug-in car in 2019 with close to 14% market share, according to Insideevs.com.2 The goal is to ramp up production to as many as 500k vehicles per year in two to three years. As around 70% of Tesla’s components for production in China are still sourced from overseas, it makes sense to localize production to improve margins or lower the average selling price, depending on the strategy Tesla chooses in China.
Tesla’s Timeline in China
- Oct 2018 – Tesla obtained the right to use 1,200 acres of land in Shanghai Lingang from the Shanghai government for a total of Rmb973mn, which was used for Tesla’s first Gigafactory outside the US.
- Jan 2019 – Tesla held the groundbreaking ceremony of the Gigafactory and started construction.
- Aug 2019 – Tesla’s Shanghai Gigafactory was granted the first comprehensive acceptance certification.
- Sep 2019 – Tesla’s Shanghai Gigafactory passed the second government acceptance check.
- Oct 2019 – Tesla’s Shanghai Gigafactory received the manufacturing certification and started the production of Model 3.
- Dec 2019 – The Chinese-made Model 3 Sedans were officially delivered at Shanghai Gigafactory to employee customers.
- Jan 2020 – The Chinese-made Model 3 Sedans were officially delivered to outside customers; Tesla started the manufacturing of Model Y.
China further reduced subsidies for EVs by 10% in 2020 and made lower subsidies only available to EVs that cost less than Rmb300k. This caused Tesla to cut the starting price of its Chinese-made base model of the Model 3 to below Rmb300k to qualify for these subsidies. The company also cut the price of its longer-range model to offset the subsidy removal as the car otherwise still would have cost more than the Rmb300k threshold required to qualify. This move increases Tesla’s need to lower costs to maintain and improve margins.
According to an interview held with Bloomberg News, Song Gang, Tesla’s manufacturing director of its Shanghai plant, said that Tesla plans to increase local sourcing to 100% by the end of the year from the current 30%. We believe this will benefit the domestic supply chain in China from the import substitution trend. That said, expectations should be tempered given Tesla’s lower level of component outsourcing versus traditional ICE cars (with the majority of costs being allocated to battery makers) and its still-small production volume as a percentage of China’s total passenger vehicle (PV) market. UBS earlier forecast Tesla’s 2020 production volume to account for just 0.5% of China’s PV volume and to reach 2% based on Tesla’s three-year plan to produce 500k units per year.3
Some of the key suppliers to Tesla in China include CATL (EV battery and energy storage), Huayu (seats, large interior, and exterior parts, clusters, central consoles, moldings), Joyson Electronics (seat belt, airbag, steering wheel, sensors), Huada Automotive (auto body stampings), Wuhu Token Sciences (dashboard), Sanhua Intelligent (HVAC), Hongfa Technology (direct current relay), Guangdong Hongtu Technology (aluminum alloy support parts).
If China’s EV supply chain is able to meet Tesla’s stringent requirements on quality and cost, we believe this will help further boost the credibility of Chinese companies and persuade more global original equipment manufacturers (OEMs) to collaborate openly. With more orders, Chinese companies in the EV value chain will have opportunities to improve technology with more funding and reduce costs through economies of scale. This ultimately will elevate the entire EV supply chain in China and represents a win-win situation for the Chinese government, EV suppliers, and OEMs.
Already EVs -- with Tesla (as of now) well ahead of its peers globally and tenaciously holding the top spot in China for the moment -- are deemed the preferred vehicle of the next generation. They are championed by ESG investors and governments that welcome non-polluting technology and self-imposed regulations to limit non-disposable or non-renewable products. This also stands them in good stead with other investors and the public in general. As the environmental impact and liability issues become greater concerns worldwide, many drivers and companies see the switch to EVs as only a matter of time, and with Tesla’s dominance not guaranteed in China, local firms are likely to have more of a market share at home soon, if not elsewhere as well.
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