Tesla Inc (TSLA) — Q4 2019 Earnings Call Transcript

Thank you, and good afternoon everyone and welcome to Tesla's fourth quarter 2019 Q&A webcast. I'm joined today by Elon Musk, Zachary Kirkhorn, and a number of other executives. Our Q4 results were announced at about 1:00 PM Pacific Time in the update deck we published at the same link as this webcast. During the call, we will discuss our business outlook and make forward-looking statements. These comments are based on our predictions and expectations as of today. Actual events or results could differ materially due to a number of risks and uncertainties, including those mentioned in our most recent filings with the SEC. During the question-and-answer portion of today's call, please limit yourself to one question and one follow-up. But before we jump in the Q&A, Elon has some opening remarks. Elon?

Thanks, Martin. So Q4 was another strong quarter for the company. Deliveries reached over 112,000 vehicles in a single quarter. It's hard to think of a similar product with such strong demand that can generate more than $20 billion in revenue with zero advertising spend. I think that’s often overlooked, but to have the highest demand electric vehicle in the world with no advertising spend is quite remarkable and speaks to the nature of the product and the fact that the product itself is compelling enough to generate that demand without much advertising. At our Fremont factory, we're producing at a rate roughly the same as the NUMMI factory did in its record year of 2006, and obviously, we expect to exceed that significantly this year. This rate of production was achieved before we even started to produce the Model Y out of Fremont, so there’s a lot of potential to go beyond that number. For the Shanghai factory, I’d like to say congratulations again to the team in Shanghai on launching the Model 3 last quarter and achieving the first deliveries earlier this year. I'm really excited and optimistic about the potential for the Shanghai factory. I think it’s going to be an incredible asset to the company and we also broke ground on the Model Y factory in Shanghai, so a lot of good progress there. Regarding Model Y, it was only 10 months ago that we revealed a Model Y prototype. And now in January this year, we started producing Model Y in limited volumes already. This is thanks to a great effort from our engineering team, and we managed to achieve by far the highest energy efficiency of any electric SUV ever produced at 4.1 miles per kilowatt hour, which means the Model Y four-wheel drive got an EPA rating of 315 miles and this improvement is reflected on the configurator as of today. This is above what we previously stated by a pretty significant margin. With great acceleration and top speed, it’s just incredible specs all around. For the Cybertruck, a few months ago, we revealed the Cybertruck, and that went viral as we tried to build a product that is superior in every way without any preconceptions of how such a product should look. The goal was to create something that resembles a futuristic, armored personnel carrier that outperforms any pickup truck. The demand has been incredible; I've never seen such a level of demand. I have never seen anything like it. I think we will make as many as we can sell for many years. We'll sell as many as we can make; it's going to be pretty nuts. I think the product is better than people realize; they don't even have enough information to understand just how awesome it is. Stepping back to 2018 from a financial standpoint, we were at breakeven cash flow, but in 2019, we managed to generate more than $1 billion in free cash flow while building the factory in Shanghai in record time and while building parts of Model Y in production. For us to have this level of free cash flow while making massive investments in capacity, while developing new products, and while improving core engineering is a testament to the incredible performance of the Tesla team. I’m just so proud to work with such a great team. I’d like to thank the whole Tesla team for their ongoing work on cost control, which has allowed us to get to these compelling financial numbers while growing the company at an incredible pace. In conclusion, when I think of what we have in front of us for the next couple of years, we’ve got Model Y, Giga Berlin, Tesla Semi, Solarglass Roof, Cybertruck, some very exciting improvements in battery technology for full self-driving, the next-gen Roadster, and probably a bunch of other products we will confirm too. It’s hard to think of another company that has a more exciting product and technology roadmap. I’m super fired up about where Tesla will be in the next 10 years. Looking back 10 years from today to 2010, we will produce approximately 1,000 times more cars in 2020 than we produced in 2010, which was 8,000. We also have Solarglass, solar retrofit, Powerwall and Powerpack, and other things too. I’m very excited about where we will be in 10 years.

Thank you very much, Elon. And Zachary, some opening remarks as well.

Yes. Thanks, Martin. This past year has been truly transformational for Tesla, and I want to thank everyone who has been a part of making this happen. A few key points I'd like to highlight about 2019: On demand, while we've mentioned a few times, it’s worth highlighting once again that over the course of the year, we transitioned entirely from generating Model 3 orders from a reservation backlog to generating new and organic demand. We’ve also seen a stabilization of Model 3 ASPs, even increasing slightly in Q4, and we've seen a rise in ASPs of S and X after the launch of the longer-range versions in Q2. Regarding capacity expansion, we've greatly learned from the development and launch of Model 3 in Fremont and Reno. As a result, we've been able to bring new production capacity on board faster and at lower costs. This is evidenced by the launch of Model 3 in Shanghai, as well as Model Y in Fremont, both of which were launched in under one year. Financially, we’ve demonstrated multiple quarters of strong cash generation, enabled by higher volumes, improvements in capital efficiency, progress on working capital management, and continued improvement in our product and operational costs. We achieved positive GAAP net income in both Q3 and Q4 for many of the same reasons that enabled strong cash generation. We've also made progress on recurring and software-based revenue with the implementation of premium connectivity and the beginning of upgrades available for purchase via the Tesla mobile app. Finally, stock-based compensation increased sequentially by $82 million, driven almost entirely by an expense related to the next tranche of the CEO grant. This is a result of our improved expected financial performance, which the CEO stock grant is tied to. Looking ahead to 2020, this again will be an important year for the company. Our task ahead is to execute on the next phase of growth while managing cash flows to support that growth. On Model Y, we expect first deliveries in limited quantities later this quarter and will ramp up over subsequent quarters. As mentioned previously, we are forecasting higher gross margins on Model Y compared to Model 3. This year for the Shanghai-built Model 3, we expect to achieve run-rate production and delivery rates. In addition, we expect to have completed the majority of plant supply chain localization at the factory or in the region. This is one of the most important components to achieve lower production costs for the site. We are also seeing strong order rates for the locally-built Model 3 and remain focused on continuing the production ramp and managing costs. We anticipate significant progress on factory construction of the Shanghai and Berlin-built Model Y, which will result in continued increases in capital spending. Regarding operating expenses, I expect an increase over the course of the year to support our growing product pipeline and international footprint. However, OpEx growth should increase at a lower rate than top-line revenue. Overall, we believe this will set us up for our strongest annual financial performance yet, with sufficient forecasted cash flows to support investments related to our growth and further strengthening of our balance sheet. For Q1, please keep in mind that the industry is always impacted by seasonality. Additionally, we are in the process of ramping two major products: Model 3 in Shanghai and Model Y in Fremont, which I expect will temporarily weigh on our margins. We are also in the early stages of understanding if and to what extent we may be temporarily impacted by the Coronavirus. At this point, we're expecting a 1 to 1.5 week delay in the ramp of Shanghai-built Model 3 due to a government-required factory shutdown. This may slightly impact profitability for the quarter, but it is limited as the profit contribution from Model 3 Shanghai remains in the early stages. We're also closely monitoring whether there will be interruptions in the supply chain for cars built in Fremont. So far we're not aware of anything material, but it's important to caveat that this is an evolving story. However, we have more than sufficient cash to continue our expansion plans while further strengthening the balance sheet. Thank you again for your support, and we will turn to questions.

Thank you. We are going to take the first question from retail investors compiled by SAY Technologies. The first retail investor question is: since solar is required for all new home constructions in California, do you have any substantial orders for Solarglass Roofs from any of the large California homebuilders that you can share? What's the 2020 target for the number of Solarglass Roof installations in California?

Well, I think we are seeing exponential growth in demand and output for our Solarglass Roof from a small base. It’s really hard to predict what that will be this year, except that the demand is very strong. We're working not just through Tesla, but also through new homebuilders and through the roofing industry in general, which includes around 4 million new roofs per year in North America. So we see a lot of interest, and it’s just a question of refining the installation process and getting lots of crews trained to do the installation. Over time, I would expect a significant percentage of new roofs to use solar glass in one form or another. It’s going to be your choice: do you want a roof that generates power or one that doesn’t? I think people will want a living roof that generates power, looks good, lasts a long time, and is the future we want. This will be a significant product, but because it is new and quite revolutionary, there are a lot of challenges to overcome, but they will be overcome, and this will be a major product line for Tesla. And the Buffalo factory is doing great.

Thank you. Second question from retail shareholders is: will you release the Tesla network app before full autonomy and change the terms of Tesla Insurance to allow owners to be drivers on the network? If so, when will this happen? Might want to target California airports first, also a good place to add Superchargers.

It probably will make sense to enable car sharing in advance of the robo-taxi fleet because car sharing can be done before full self-driving is approved by regulators. It’s probably something that we would enable before the robo-taxi fleet is enabled. There were some other questions bundled in there?

Superchargers at airports?

Sure. Yes, we will probably have Superchargers at the airports. We have Superchargers wherever we see that there is a need for them.

Regarding the insurance part of the question, it is our intent to allow people to put their cars into ride-sharing or the FSD network using Tesla Insurance. It’s not currently the case, but by the time this is available, it’s our intent to have that ready.

Yes, thank you. The next question from retail investors is: how many California owners are currently insured with Tesla Insurance? What’s the target for Tesla Insurance in 2020? When will you start to significantly leverage the data you have from the fleet to lower the cost of your coverage? Will we get a premium discount of a certain percent?

Yes. Please go ahead, Zach.

Tesla Insurance is currently available in California. A couple of things that we're working on include expanding it to other locations, and we are preparing the regulatory processes required to do that as well as working on the processes to adjust our rates in California, which also have to go through regulatory processes. There’s a significant amount of innovation, as we've discussed before, in this space related to using our technology to reduce rates. This will be rolled in over time.

The last part of the question was: will there be a discount for using Autopilot with our cars?

Yes, there will be.

The rate card for California Tesla Insurance already considers the safety features associated with Autopilot.

Right, but I think it would make sense for us to close the loop on the higher use of Autopilot, reducing insurance costs as well as the probability of injury. Insurance is going to be a significant product for Tesla in the long term. The amount of money that people spend on car insurance represents a remarkably large percentage of the cost of a car. You can lease a Model 3 for around $400 a month, but a typical owner in California pays somewhere between $100 and $200 a month in insurance. A lot of that insurance cost is just because insurance companies don't have good information about drivers, and there is no good way to provide feedback, leading to a very poor feedback mechanism in terms of insurance rates versus how the car is actually being driven. We can do that in real time, which is a significant information advantage over traditional insurance companies.

Thank you. The next question is: you've set expectations that you would be feature complete on FSD by the end of 2019. Can you provide an update on when will we see this with end-users? Where are you in retrofitting the FSD computer to older models?

Well, to be precise, I said I was hoping we would be feature complete with FSD by the end of last year. We got pretty close; it’s looking like we might be feature complete in a few months. Feature complete means there is some chance of going from your home to work, let’s say, with no interventions. It does mean the features are working well but indicates it has above-zero chance. I think that may be a couple of months from now. What isn’t obvious regarding Autopilot and full self-driving is how much work has been going into improving the foundational elements of autonomy. The core autopilot and FSD hardware and software teams are making great progress. The apparent progress as seen by consumers seems extremely rapid but what’s really going on behind the scenes involves having a strong foundational software system.

Thank you. The last retail investor question comes from Kendall. Since most retail investors seem to understand Tesla better than analysts and generally think they have a larger part of their personal wealth invested in Tesla, doesn’t it make sense to take most questions on these earnings calls from them instead of analysts? Do you even have to answer questions from analysts?

Well, I guess we don’t have to. I do think that many retail investors actually have deeper and more accurate insights than many of the big institutional investors and better insight than many analysts. It seems like if people really looked at some of the smart retail investor analysts and what some of the smaller retail investors predicted about the future of Tesla, they would get remarkable insight from those predictions.

Okay. So now let's switch to institutional shareholder questions. The number one question is: you have previously spoken about Shanghai Giga being 65% lower CapEx per unit of capacity. Have you learned to do anything better or different from an OpEx perspective? If yes, what kind of impact might we expect on the long-term gross margin?

Sure, go ahead, Zach.

The Shanghai factory has been a remarkable cost experience across all line items of COGS for the Model 3 there. We've talked a lot about the CapEx per unit capacity being lower, but you can basically run down an entire list of COGS between labor costs, material costs due to localization, and opening up suppliers that wouldn't have made economic sense from the states. Localizing the supply chain flows into inbound logistics and outbound logistics costs, so we're not shipping cars from California over to China. That has corresponding savings on our lower import-related costs. There is a slide in the shareholder letter that shows the layout comparison between our Fremont facility here in California and the Model 3 factory in China, and the simplification in terms of the flow is evident from that layout. All of this results in significant savings for the operations of the facility. Our internal estimates show a significant reduction in the cost of Model 3 in China relative to Fremont, but it’s also important to keep in mind that the cost of the Standard Plus that we're selling out of Shanghai is lower than that of the similar car coming out of Fremont. I think it’s fair to expect margin coming out of the Shanghai facility to match the same margin for the vehicle in Fremont.

There is a pretty big fundamental efficiency gain that Tesla has by just making cars, especially affordable cars, on the continent where the customers are. It’s really silly to make cars in California and then ship them halfway around the world to Asia and Europe. This created a lot of cost because you need to ship those cars, leading to a lot of finished goods sitting in an order or waiting at the port or going through customs, tariffs, transport. The factory complexity in California is also very high because you have different regulatory requirements in China, North America, and Europe. So having factories in China, California, and North America is an enormous improvement in our operational efficiency, which may not be fully appreciated.

And also on working capital.

Yes, absolutely.

According, you see OpEx here too, but it's not 2010. Okay. The next question from institutional investors is given the recent run in the share price, why not raise capital now and substantially accelerate growth in production, i.e., filling the Gigafactories, investment in Supercharger, and customer service?

We're actually spending money as quickly as we can spend it sensibly. If there's any sensible way to spend money, we're spending it. There’s no artificial holdback on expenditures; anything that looks like it offers good value for money, the answer is yes immediately. So we're spending money efficiently and we're not artificially limiting our progress. Despite all that, we are still generating positive cash. So in light of that, it doesn’t make sense to raise money because we expect to generate cash despite this growth level.

I completely agree with that. I think some of our learnings during the Model 3 launch period, where we grew too quickly and with too much complexity, held back our ability to continue to scale. Part of the journey we've been on in 2019 has been addressing a series of unintentional processes that accumulated within the company over time. That contributes to the reduction in OpEx over the year as we became smarter about that. We laid a good foundation, and we’re not holding back on growth. We have two vehicle products launching right now, which will consume much of the company's bandwidth as we stabilize them over the course of the year. Looking into next year, we have even more products launching and more factories. We want to be smart about how we spend money and grow sustainably.

Yes, absolutely.

Okay. The next question we've already answered regarding Autopilot timelines. The following question would be: can we please talk about cost control and OpEx sustainability in terms of growth versus gross profit growth? How did we achieve the recent OpEx trends, and how should we think about OpEx needs as we grow both vehicles and geographic workloads?

I commented briefly on this in my opening remarks. We did see an increase in operating expenses from Q3 to Q4, even excluding the portion attributed to stock-based compensation. When you look closely at this growth, it supports the Model Y program and Shanghai program as well. We’re at a point where we've learned a lot about cost efficiency and unwound some processes that weren’t in the right place, including automating things that need to be automated. We will continue on that journey. OpEx will begin to tick up annually from 2019 to 2020 to support our international footprint and company growth. Our goal is to grow that significantly slower than the growth of revenue to improve operating leverage, which we are very focused on.

Okay. And the last question from investors is: the sales of Model S and X have stayed flat for several quarters. The main reason is that they still use 18650 batteries. When will S & X use 2170 batteries? The manufacturing capacity of 18650 may be used for battery storage systems since that.

The core chemistry inside the 18650 cell has improved many times over the years. So it's really the form factor rather than the core technology. We're pleased with the energy content and the improvements in the efficiency of both vehicles. We're rapidly approaching a 400-mile range for the Model S. It won’t be long before Model S achieves a 400-mile range. Is there anything you want to add?

No other than to say that the 18650 line is running smoothly for a long time. In a world where self-supply fuels growth, I don't see a reason to turn that self-supply off.

Actually, the Model S and X have a longer range than what we currently state on the website. We just haven't updated the EPA right number yet, but the actual range of Model S and X are above what's stated on the websites.

That has actually been the case for a while.

Yes, it must be somewhere in the 380s.

Thank you very much, and Sherry, let’s go to the Q&A on the phone.

Hi everybody. I actually agree that the retail questions were excellent. So Elon, do you see potential for Tesla vehicles to be fitted with user terminals that are compatible with the Starlink constellation in the near or medium-term future?

It's certainly something that could happen in the coming years. If there are no plans throughout this year, the folks at Starlink are working on high-bandwidth, low-latency connectivity for homes and businesses, as well as aircraft and boats. The antenna for that is about the size of a medium pizza, which could potentially be placed on a car, but the bandwidth might be more than you would need for the car.

Maybe just a follow-up. How are we assuming we get the antenna form factor and cost down to a point where that could be integrated into the roof of a car cost-effectively and aerodynamically? How would compatibility with the Starlink architecture theoretically enhance the Tesla customer experience or network capabilities?

I think in most parts of the world we can just use cellular connectivity. 5G would be recommended in any city. But if you’re in the countryside and cell connectivity is poor, then you could connect using the Starlink antenna. You wouldn't necessarily need gigabit-level connectivity; 20 to 30 megabits should suffice.

Thank you. Let's go to the next question.

Good afternoon, thanks. Could you provide guidance on CapEx for this year and is there a rule of thumb that we can use for capital expenditures per unit of production capacity?

I don’t want to say what our CapEx is going to be this year, except to say that, as I said earlier, we’re spending money as fast as we can in sensible ways. We’re definitely not artificially limiting it. We will spend a substantial amount of money this year for sure. The challenge lies in finding efficient ways to deploy capital.

We will always find ways to become more efficient. We challenge the teams to always enhance efficiency and thus we observe reductions in CapEx.

Yes, there’s so much -- the core technology is improving radically, some of which end customers may not notice, while others may notice. But these improvements will significantly affect operational efficiency.

As your operating cash flow and EBITDA are annualizing at $4.5 billion now, as I look ahead long-term, could this sustain a capital expenditure of around 200,000 to 250,000 units of capacity a year, which would imply a 30% CAGR over five years? Is that feasible for you?

I think we’re aiming for more than 30%. It’s not limited as you described. For context, note that we have a loan facility in place to support growth for the Shanghai facility. Increased production volumes generate more cash, allowing us to fund additional factories. Therefore, I wouldn’t necessarily view it as constrained.

I previously mentioned that Tesla could grow at a compound rate of over 50%, and I hold onto that belief.

Thank you. Let's go to the next question.

Good afternoon and congratulations on the progress. Regarding Cybertruck, you mentioned you will sell as many as you can make. Can you remind us how many you think you can make, and any thoughts on the cost of production for these Cybertrucks?

I don’t want to comment on detailed numbers except to say that demand far exceeds what we could reasonably make in a span of three or four years. So the key for us is increasing battery production capacity, as this is fundamental. If we cannot improve battery production capacity, we end up just shifting unit volume from one product to another without producing more electric vehicles. This is part of the reason we've not really accelerated production of the Tesla Semi because it uses a lot of cells. Accelerating production for the Tesla Semi would mean making fewer Model 3 or Model Y cars. We need to ensure we achieve a steep ramp in battery production, and we continue to improve the cost per kilowatt of the batteries. We'll discuss more about this in-depth during Battery Day, which we tentatively plan to hold in April after the end of this quarter.

I look forward to that Battery Day. Elon, you mentioned other products in your comments, but the only vehicle not announced for Master Plan Part II is a high passenger density vehicle. Any insight into that project?

We need to improve battery capacity first; otherwise, we’re not adding to the number of vehicles on the road. A high-capacity vehicle may make sense in the future, but we must first remedy battery production.

Thank you. Let's go to the next question.

Thanks for taking my call. I want to talk about the differences between the Model 3 and Model Y beyond the 10% rule of thumb, especially in cargo and size. Are there other features that will differentiate the two models? You previously stated that Model S sales grew with the introduction of Model X. Are you planning to set up production facilities aligned with the thesis that Model 3 sales will expand alongside the introduction of Model Y?

We aren’t quite sure what will happen with that, but it’s true that the introduction of Model X actually increased Model S sales. Customers may come in looking at the Model X and decide they prefer the Sedan. We're not too worried about demand; we are focused more on production and ensuring we get the Model Y production ramp going as quickly as possible. The production scaling follows an S-curve; it’s hard to predict, so we're going to do our best with Model Y and ensure it's a great product. I believe there will be differentiating features, but we'll reveal more details soon.

It’s important to keep the Model Y launch in context over the next 18 to 24 months. We’re working to have the Model 3 and Model Y locally produced in every location.

Yes.

Also, the 10% rule of thumb; you need to see the car to understand that it’s not just a 10% different product. There are more changes happening from the customer’s perspective.

Thanks, guys.

Thank you. Let's go to the next question.

Can you speak to the pricing strategy in light of the China price reduction, as well as the mission to increase EV adoption? Is there a target for gross profit or operating profit on a per-vehicle basis that we should consider?

We’re trying to make our cars as affordable as possible while still maintaining reasonable profitability and rapid company growth with good cash flow. Zach, do you want to add anything?

Our order rate supports the pricing that we have right now. We are working very hard to reduce costs and expand production because there is clear interest in our products. The price reduction in China is an initial step towards global localization at more accessible prices while we continue to work on cost reductions.

The significant factor that will profoundly affect our financials is high volume and high margin, which comes from autonomy. Whether people buy the full self-driving package is crucial. Our autonomy is not as strong in China as it is in the US, leading to fewer purchases of the FSD package there. As we improve this, we will see a higher percentage of customers buying FSD, which will enhance our financial situation.

Can you address discussions in the industry around moving to higher voltage on the Powertrain and challenges in the supply chain? What are you focusing on in Powertrain technology driven cost reduction over the next 12 to 24 months?

The Powertrain is excellent, and it's superior to other products globally. For example, the Model S has a 100 kWh pack, while its competitors have lower capacity. We’re efficiently using energy and steadily approaching a 400-mile range for the Model S. We aim to make our Powertrain technology even better.

Our focus is on reducing Powertrain costs while exploring technological innovations that drive costs down, which may involve increasing voltages.

The Powertrain advancements that we will unveil later this year will be groundbreaking; it will feel like alien technology. I think we could potentially achieve remarkable results.

Let's go to the next question, please.

In your slide deck, you mentioned average selling prices being stable in 2020. Can you walk us through the factors impacting that metric, especially with Model Y likely debuting at a higher price and the lower-priced Model 3 in China?

Making the price better is one of our main objectives. It will depend on how demand appears and we will adjust accordingly. Right now, it's looking pretty good, though.

Your description is fair – the current Model 3 has a slightly lower price due to the China Model 3's pricing, whereas Model Y pricing is higher than Model 3 from Fremont. The mix of these three products will dictate ASP throughout the year.

We intend to radically improve the affordability of our vehicles due to lower transport, tariffs, and localization costs.

Let's go to the next question, please.

Why wouldn't it make sense to raise capital to either pay down debt or pursue acquisitions that could help accelerate capabilities in battery technology?

If you know of any acquisitions, we would love to hear about them. We haven't identified anyone we want to acquire.

And concerning debt pay down?

Leading the company while paying down debt doesn't sound wise. We paid down $500 million worth of debt last quarter. We'll continue steadily doing this, but I don't have more to add on that.

Thank you, let's go to the next question, please.

Elon, can you discuss the plans for the Maxwell technology that you acquired? Is this related to capacitors or dry cells?

We will talk about Maxwell technology during Battery Day in April. There will be a compelling story that we present. I believe it will be an eye-opener.

Is Maxwell technology part of the plan?

It's an important piece of the puzzle, yes. Many retail investors have managed to piece together insights better than I expected.

Thank you very much for your questions. We'll speak to you again in three months. Thank you.

Thank you.

Thank you.