Tesla Firms Up China Plans As It’s Caught In The Crossfire Of Trade War

by Trefis Team
Tesla Motors
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Earlier this week, Tesla (NYSE:TSLA) signed an agreement with the Shanghai government to open the company’s first factory outside the U.S. with the capacity to produce 500k cars per year. While the company has been mulling a Chinese plant for some time now, it finally took concrete steps, as escalating trade tensions threaten to make its current practice of importing its vehicles from the U.S. to China unviable.

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Tesla Caught In The Crosshairs Of U.S.-China Trade Spat

Trade tensions between the U.S. and China have been mounting over the last few weeks. In response to President Donald Trump’s move to impose tariffs on around $34 billion worth of Chinese imports, China retaliated with tariffs on U.S. goods including automobiles, pushing tariff up from 15% to 40%. The higher tariffs have caused Tesla to increase prices of its Model S and Model X vehicles by between RMB 150,000 to RMB 250,000 (about $22,500 to about $37,500), making them less competitive in the Chinese market. The impact might be more severe for the Model 3, which caters to more price-sensitive customers. While it’s not clear whether the trade war and tariffs will hold over the long term, building a plant in China could help Tesla de-risk its operations and potentially cut costs. Tesla indicated that construction on the plant is expected to start soon, with the first vehicles rolling out in about two years, with full capacity likely to be reached in two or three years.

How Will Tesla Pay For The Plant

While Tesla hasn’t outlined the total cost of the project, a new plant with the ability to produce both the cars and batteries could cost as much as $5 billion, per some estimates. There is speculation as to how Tesla is going to pay for the project, considering that the facility would be wholly owned by the company, which says that it will not raise additional equity or debt this year. While Tesla’s cash burn accelerated over Q1 as the company invested in scaling up Model 3 production at its Fremont facilities, the company says that it expects to be profitable by the second half of this year. That said, we are still of the view that another capital raise will be necessary for Tesla, considering its mixed track record of meeting targets, its planned capital spending (including the Chinese plant) and need to service pending debt maturities. (related: When Will Tesla Have To Raise More Cash?)

Why Establishing A Foothold In China Is Crucial

The Chinese auto market has emerged the largest in the world, with over 28 million vehicles sold over 2017. Moreover, China appears to have embraced the electrification of its auto market at a quicker pace compared to other countries. For example, plug-in electric vehicles held about a 2.1% share of the total Chinese auto market in 2017, well above the U.S. and Europe, where the share stands at about 1.2% and 1.9%, respectively. Tesla currently counts China as its second-largest market after the U.S., and its share of revenues from the market has been growing (17% in 2017, up from 15% in 2016). Tesla’s Chinese sales stood at a little over $2 billion in 2017, marking an increase of about 90% on a year-over-year basis. As the market grows, it’s possible that China will be Tesla’s largest market in the near future.

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