Last year, with his back to the wall, Elon Musk finally proved that Tesla could ramp up production levels for its new Model 3 significantly — even if it came later and in lower volumes than he once promised.
This year, he will have to go one better. Producing at scale is no longer enough. Mr Musk is finally reaching the moment of truth for his would-be mass market electric car: Can he get the price to a low enough point to generate truly widespread demand, while still generating the sort of profit to justify his company’s valuation? After all, Tesla is still worth more than General Motors, which sold about 40 times as many cars last year.
Based on the evidence released on Wall Street’s first trading day of the new year, the signs are hardly encouraging. By rights, Tesla should have had a blowout quarter at the end of last year. It has finally been producing enough Model 3s to start eating into its demand backlog, and has sorted out the worst of its delivery bottlenecks.
Potential customers in the US, which accounts for almost all the company’s sales at the moment, also had a powerful motivation to complete their purchases. At the end of the year, the federal tax credit they could claim for buying an electric car from Tesla was due to be cut in half, to $3,750.
Fourth-quarter sales figures released on Wednesday showed that Tesla had raised its vehicle deliveries by a factor of three compared with the year before. But that was still lower than some estimates, and it failed to impress the bulls who have protected Tesla from the stock market rout of recent weeks.
Adding to the discomfort for investors, Tesla also said that it was shaving $2,000 off the price of all its vehicles in the US to compensate for some of the lost tax benefit. To put that in perspective: It only made a net profit of about $3,000 for each vehicle delivered in what was widely seen as a stellar third quarter.
The pressure will not let up as the year goes on. The federal tax credit will halve again in the second six months, before disappearing altogether in 2019. As the incentives evaporate, there is a risk that the dream of a true mass-market electric car will recede ever further into the distance.
Nearly three years ago, when Tesla first opened it doors to potential customers for a car that was still a long way from production, Mr Musk talked of a starting price for the vehicle of $35,000. After taking account of the federal tax credit and the extra incentives offered by many US states, like a $2,500 rebate in California, many would-be customers came to believe they would be able to buy one of the most technologically advanced vehicles on the market for a net price of only $25,000.
Mr Musk boasted at the time of the “orders” that were flooding in. But in reality, they were only $1,000 fully-refundable deposits that gave potential buyers a place in line. As it turns out, they were queueing up for a low-priced electric car that has yet to arrive.
Tesla’s strong performance in last year’s third quarter came at a time when the minimum list price for a Model 3 was $49,000. Many customers were paying much more on top for extra features like Autopilot software.
Closing the gap between the promise and reality presents Mr Musk with a difficult choice. Maintain prices at a level where Tesla can prove itself a sustainable company — a goal he has set a high store by in recent months — and the Model 3 may never break out of the premium part of the market. Fewer than a quarter of the orders Tesla received in the fourth quarter came from people already on its reservation list — a sign of how far the Model 3 still has to go to realise its promise.
Cut prices much further, however, and Tesla could find itself trapped in the same low-margin position as other big producers — with a stock market valuation to match. Production costs should decline as volumes rise and Tesla works out cheaper ways to make its vehicles. But finding sufficient savings to bring down the sticker price while also making up for the lost tax incentives will be a stretch.
At a new base price in the US of $43,000, the Model 3 electric car is still a phenomenon. Tesla bragged this week that it became the best-selling premium car in its home market last year, with roughly double the sales of its nearest competitor.
But the risk for Mr Musk is that this will not be enough to turn it into the world-changing car he has always aspired to build. And it may struggle to ever produce the returns that the Tesla bulls hope for.
