The Business Of
Cars | Tesla | What Are Their Margins?
Morning All!
So, yesterday we dug into how Tesla makes money. And we saw that in 2023, the EV giant sold a whopping ~1.8 million cars. We saw that these cars brought in an average revenue of ~$43k per car. Which meant that Tesla made ~$79 BILLION from selling cars in 2023! And if that wasn’t enough, they made an additional $18bn from servicing those cars, selling solar panels, and home batteries… crazy!
But anyway, that’s enough about revenues. Today, let’s switch our focus to margins and start by looking at how Tesla’s cost structure is split…
As we can see, Tesla’s cost structure is super dominated by one cost line - ‘cost of revenue’. But what costs really come under this ‘cost of revenue’ heading? Well, it’s basically all the things Tesla spends money on to MANUFACTURE their vehicles!
In a moment, we’ll dive into exactly into what these things are. And like we did yesterday, we’ll compare the cost of building a Tesla vs the cost of building a Ford and Ferrari! Let’s crack on!
Raw Materials + People + Factory Machines = Cars!
Alrighty, so let’s have a quite recap from yesterday. We saw that in 2022 (I’m using 2022 figures because Ford and Ferrari haven’t reported their 2023 car sales figures), the average selling price of Tesla’s was ~$51k. For Ford it was ~$35k. And for Ferrari it was a whopping ~$328k. And we said one of the main reasons for this huge variation in prices was because of the differing supplies of the vehicles. Low supply = excess demand = high prices!
But the other main reason for the differing price points is because of how much it costs to actually make the different vehicles! As we’ll see in a moment, Ferrari’s cost a LOT more to make than Ford’s! Now, whilst these car manufacturers don’t give us exact numbers, a good way to approximate is by using their ‘cost of revenue’ figures. Let’s start with Tesla. As we can see in the screenshot below, the company reported that they spent ~$50bn to manufacture cars in 2022 - circled in brown.
But I have a question - how much did Tesla spend on average to manufacture EACH vehicle? Well, in 2022, Tesla sold 1,313,851 cars. And, if we divide ~$50bn by 1,313,851, it shows us that the average cost of manufacturing one Tesla car was ~$38k in 2022! If we do the same calculations for Ford and Ferrari, we get a chart like what we see below…
Now, before we get into why Ferrari’s cost so much to make (?!) - let’s first think about what makes up that ~$38k manufacturing cost per Tesla car. And the 3 main costs that we’ll explore are (i) materials and parts, (ii) people, and (iii) factory costs. Let’s dig a bit deeper into each of these now!
Okay, let’s start with raw materials and parts. What kind of metals and substances do Tesla need to purchase in order to build their cars? Well, as we can see from the graphic below… they need quite a few different things! In their Model S car, Tesla uses aluminium/bauxite to build the body of their cars. They need copper wires to connect their battery to the electronics. And they need lithium and nickel to build their batteries!
Now, there’s something interesting about Tesla’s raw material make-up. And that is the reduced use of steel! The reason I say this is because the car industry is the 2nd largest purchaser of steel in the US - only behind the construction industry. In fact, Toyota is the largest purchaser of steel in the whole of Japan! And steel is used by most car manufacturers to build the body of their cars. However, the reason why Tesla uses aluminium over steel is because aluminium is a lot lighter than steel! And this reduced weight, means less energy is needed to get Tesla’s car moving. Which in turn means that the EVs can travel further on a single charge!
Okay, so that’s raw materials. Now, let’s look at people AND factory costs. And the reason we’re looking at these two costs together is because people and factory equipment work TOGETHER to build cars!
As we can see in the image below, automated robotic arms are used in car factories to do the more repetitive, identical tasks like attaching different parts of the car together. Or painting the bodies of cars in an even, consistent way. Whilst humans are absolutely vital for more complex tasks like connecting electronics to batteries, and inspecting any slight defects in the aluminium/steel bodies.
Tomorrow, we’ll be exploring Tesla’s car factories in much more detail. Because - spoiler alert - this is where the company has spent a huge proportion of their cash. So for now, we’ll leave it there!
Bulletproof Windows + Premium Leather = Expensive Cars To Make!
Alrighty, so we’ve seen the main components that make up the ‘cost of revenue’ for Tesla - (i) raw materials, (ii) people, and (iii) machines. But I have a question from something we saw earlier - why does it cost Ferrari so much more to manufacture their cars vs Tesla? And why does it cost Tesla more to manufacture their cars vs Ford? Well, there’s 3 main reasons;
Premium materials,
Economies of scale, and,
Skilled labour requirements.
Let’s start with premium materials. And what do we mean by this? Well, what we mean is that by having premium (high-quality) materials in your car - it’s going to cost more money to build the car! The premium leather in Ferrari’s cars. The carbon fibre used in the interior of their cars. The bullet proof windows in Tesla’s cybertruck - they cost a fortune. The lithium ion batteries in their EVs - they also cost a lot! In comparison, Ford don’t have a lot of these premium features in most of their cars! And so the cost to assemble most Fords is going to be lower.
Now, the second reason for the vast differences in the cost of manufacture is economies of scale. And this is actually where Ford is the main beneficiary. Let’s think about all those materials we mentioned earlier that are needed in manufacturing cars - steel, aluminium, copper, etc. And let’s use steel as an example.
When Ferrari and Ford go to a big steel supplier (like ArcelorMittal) and ask for their respective amounts of steel needed to make their cars. Which company is going to get the better, lower price? Ford! And why is this? Well, because as we saw yesterday, Ford produce ~4 million cars a year. Whilst Ferrari produce only 13,000/year! Which means Ford will be buying much more steel from ArcelorMittal than Ferrari. And so, like we see in many industries, the company that buys in bulk, will pay a discounted price vs the company that buys on a much smaller scale!
Now, the final reason why Ferraris cost more to build than Teslas and Fords is to do with people. Unlike most other car manufacturers - the majority of the work done to design and build Ferraris is done by human beings, not machines. And what’s more expensive - humans or machines? Humans! In fact, until very recently, only one part of the Ferrari assembly process wasn’t touched by humans!
And quick note - this is very much like what we’ve seen at LVMH. Louis Vuitton’s luxury bags are produced in Italy and crafted by the most skilled people. Similarly, Ferrari produce ALL their cars in the Italian town of Maranello. Using very skilled, higher-paid individuals to create their luxury cars with fine details. As opposed to the more standard, mass-market, Ford cars which are much more machine-made!
Will Cristiano Ronaldo Care About The Price Of His 6th Ferrari… Probably Not!
Okay so, we know Ferrari spend a LOT, LOT more on manufacturing their cars than Tesla or Ford. First, because they use super high-quality materials. Two, because they don’t benefit from economies of scale. And three, because they use a lot of humans in their manufacturing process compared to most car manufacturers! But here’s a question I have - if Ferrari are spending a lot more on manufacturing their cars, surely their profitability (their margins) will be lower, right? Well actually… the answer is no!
The chart below shows us how gross margins have evolved over the last 10 years for all 3 manufacturers. And amazingly, despite having the highest cost of manufacturing cars, Ferrari has the highest gross margin… by far!
Now, the reason for this is because of what we saw yesterday. Ferrari might be spending the most on making their cars, but they’re also selling them at the highest price! And the reason Ferrari are able to sell their cars at >$300k is because their customers are incredibly price inelastic. That’s a fancy, technical way of saying - their customers don’t care about the price really!
One of the most amazing stats I saw when researching Ferrari was that a whopping ~66% of their sales in 2022 went to existing customers! This means that people who already had Ferrari’s sitting in their garage, were coming back to buy another one the following year! For example, look at Cristiano below, posing with one of his 5 Ferraris. When he buys a 6th Ferrari, will he really care if the price is $300k or $400k… probably not! And because of this, Ferrari enjoy healthy pricing power and gross margins!
Now, let’s bring it back to Tesla! And Tesla are a bit of a cross between Ferrari and Ford. Their gross margin of ~26% in 2022 is super impressive when compared to mass market players like Ford/Toyota. And one of the main reasons for this is because of something we mentioned on Monday. Tesla don’t use third-party dealerships like AutoNation! So, instead of selling their cars to dealerships at a wholesale price… Tesla can sell at the higher retail price. Check back to Monday’s newsletter if this isn’t clear!
Gross Margin Decline In 2023… What Next For Tesla?
Alrighty, let’s wrap up! The focus today has been on gross margins and the cost of manufacturing cars. Because as we saw earlier, ~90% of Tesla’s costs come from this area! But let’s quickly mention SG&A and R&D.
So, when we think of SG&A - one of Tesla’s main costs here is their showrooms. We’ve seen that Tesla’s sales strategy to skip dealerships and sell their cars directly from their stores and website is good for their margin. But there are still some costs involved here! The image below shows Tesla’s store in London’s Westfield shopping centre. And Tesla will have to pay rent for this store, and they’ll have to pay employees to look after this store. However, even these costs seem unnecessary for Mr Musk - with Tesla’s CEO going back and forth on whether to completely close Tesla’s stores. And only sell cars online!
Now, when it comes to R&D for Tesla, we could probably write a week’s worth of newsletters dedicated to this topic. The company spends ~3x more than any other car manufacturer on R&D per car! From opening R&D plants in Greece to improve their electric motor technology. To spending billions on Nvidia’s chips to progress their autonomous driving software - R&D is one area Elon Musk likes to brag about!
Okay, let’s put these costs all together now and look at what all these costs mean for Tesla’s EBIT margin! And as the chart below shows us, Tesla’s EBIT margin has grown impressively over the last decade. From a margin of -18% in 2015, the company grew this to 17% in 2022. However, as we can see in 2023, EBIT margin declined back down to 9%. So, what happened here?
Well, the answer is because of the gross margin decline in 2023! To keep it short and sweet - Tesla’s cars are still costing a lot to make. But as we saw earlier, Tesla are selling them at lower prices. What does that do to gross margin? It makes it fall! I’d highly recommend giving this article a read to learn more about how this could affect Tesla going forwards!
31st Jan 2024
And that’s a wrap for today! I hope you enjoyed diving into Tesla’s cost structure. Tomorrow we’ll move on to look at where this EV giant spends all its profits! And we’ll be paying close attention to Mr Musk’s gigafactories!
Have a fabulous day!
The Business Of Team