Trump’s China Posture Is Scary For Tesla

In one word, what’s the biggest risk for Tesla right now? China.

Allowed another word? Trump.

Tesla’s (NASDAQ: TSLA) stock is up over 3x this year as investors expect that the Covid-19 related disruption of the auto market will help Tesla pull ahead of traditional automakers. Of course, that’s not all. The bet is also that Tesla’s lead in self-driving software and emerging areas such as robo-taxis will drive long-term growth. (Just How Far Ahead Is Tesla In The Self-Driving Race?)

In the meantime, under President Trump’s leadership, both China and the U.S. have asked each other to close a consulate – China was ordered to close its Houston consulate, and the U.S. was ordered to close its consulate in Chengdu. In addition, the trade war continues with hundreds of billions in tariffs used as weapons, and President Trump’s consistent use of phrases like “China virus” to refer to the Covid-19 bug, have certainly not helped the country’s relationship with China.

That said, Tesla’s core business is manufacturing and selling electric cars, and its China operations are crucial to driving near-to-medium term earnings growth. Now Tesla’s quick build-out of its Shanghai factory, strong Chinese deliveries in Q2 2020, and increasingly competitive pricing in China bode well for the company. However, relations between China and the U.S. aren’t exactly warm – below, we explain how the magnitude of Tesla’s China exposure is outright scary.

For Tesla, China is vital for both: [1] producing, and [2] selling cars

• While China accounted for roughly 12% of Tesla’s total revenues in 2019, we expect the proportion to almost double in 2020, driven by production at the Shanghai Gigafactory, which opened in late 2019.
• For perspective, Tesla delivered roughly 30k vehicles in China over Q2 2020, translating into about a third of the company’s total deliveries for the quarter.
• Overall, the addressable market for Tesla in China is sizeable. China is the world’s largest auto market with over 21 million passenger cars registered in 2019, and EV adoption is also much higher at 4.7% of all vehicles sold vs. roughly 2% in the United States. ^{[1] [2]}
• A closer look at Tesla’s production capacity expansion also underscores how much the company is counting on China to drive growth. The Shanghai Gigafactory now has an annual capacity of 200k Model 3 vehicles, and this compares to Tesla’s total capacity of 490k at its Fremont facility.
• This means that China alone accounts for about 30% of Tesla’s capacity, and this number is likely to rise further as the company scales up capacity for the Model Y, which should be available in China starting 2021. 

Significant Risks As U.S.-China Relations Sour

• While the Chinese market presents a huge opportunity, the risks are also significant.
• Trade relations between the U.S. and China have been strained over the last few years, with the two countries imposing tariffs on hundreds of billions of dollars worth of each other’s goods.
• Although Tesla has de-risked itself to some extent in this regard, given its increasing manufacturing in China, things could change quickly.
• Both countries have targeted key high-tech sectors such as semiconductors and communications in the trade war, and Tesla – which is a highly technology-focused company, could be a soft-target for the Chinese government.
• Besides the trade-related issues, political ties between the U.S. and China are also deteriorating. Last week, the U.S. State Department ordered China to shut down its consulate in Houston, Texas, and China retaliated by closing down a U.S. embassy in Chengdu.
• The deteriorating ties and potential anti-American sentiment could turn the Chinese government and subsequently, Chinese consumers away from American brands such as Tesla, hurting its sales.

Under these circumstances, is Nio – a premium Chinese EV start-up – a better bet to play the Chinese EV market compared to Tesla? Find out more in our dashboard analysis How Does Nio Compare With Tesla? Otherwise, looking for more ways to outperform the broader market with less risk? Our Pershing-inspired portfolio based on the thinking of Bill Ackman’s firm Pershing Square offers a unique risk-reward profile by combining growth, performance, and risk mitigation criteria.

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1. Electric Drive Sales Dashboard [↩]
2. China 2019 Electric Vehicle Market Share Grows To 4.7% Despite Tighter Incentives, Clean Technica, January 2020 [↩]