Tesla’s troubles in China highlight its biggest threat: negative working capital

Following Tesla may seem like a full-time job, but the key for an analyst is to focus on the important topics and filter out the noise. As Model 3 sales slow in the United States, China has emerged as a crucial market for Tesla. This is where two of my favorite Chinese data sources come in.

Caixin reported this morning that 1,600 Model 3s are currently held by customs inspectors in Shanghai, due to incomplete and allegedly false information on vehicle labels. Earlier Monday, Gasgoo reported that Tesla had undertaken a massive price cut across all areas of its model lineup in China. Reducing the prices of Model 3 by 8% on average raised eyebrows and clearly annoyed some Sino-Teslaphiles, but cutting the price of the top-end Model X by 40% was nothing less than a sign of suffering in the market.

From an equities perspective, the odd and opaque worded Tesla earnings warning last Thursday remains the key issue for Tesla stocks. These shares are again massively sold at the start of the session on Tuesday.

Longer term, however, for those who believe in archaic concepts like cash flow and interest coverage ratios rather than moonbeams, fairy tales and personality cult that enveloped Elon Musk, Tesla’s working capital is the most problematic issue the title faces.

This is where Chinese news comes into the analysis. When I read that 1,600 Model 3s were stranded on a dock, I realize that Tesla will not receive much-needed revenue from the cars as quickly as management probably expected. This will lead to growth in accounts receivable. When I read massive price cuts on all models – especially on its larger model and the one just introduced – I realize that Tesla’s revenue per unit will likely be below expectations of The direction. This is problematic for a car manufacturer because production costs are factored into cost accounting well in advance. Pricing and mixing can offer a good profit bonus or elimination margins, and Tesla’s sales in China clearly fall into the latter category.

So, for adults who revere finances rather than disruptors, Tesla’s consistently negative working capital is a harbinger. As of December 31, that working capital shortfall was $ 1.69 billion, fueled by a figure for creditors – $ 3.404 billion, nearly 4 times the figure – $ 949 million – that Tesla held in receivables. .

Every automaker gets paid for their cars before they pay their suppliers. This is a phenomenon known as increased working capital. Tesla’s increase is much higher than normal 2-3x, however, and that leverage is a scary prospect for a company with chronic liquidity issues. Every automaker – other than Tesla – has a full-fledged dealer network where they can drop off their cars and keep increasing working capital. Without those dealers – and even with most of its low-inventory showrooms now slated to be closed – Tesla doesn’t have this cash flow wind.

Conclusion: Tesla must sell cars to pay its bills. While there was rumblings among the supplier community – especially with Tesla’s recovery attempts – I haven’t heard anecdotal evidence from suppliers not having received the Tesla payment form. Supplier relationships involve a delicate balance that requires finesse for any car manufacturer.

Relationships with bondholders, however, are totally different, even though these payments involve the same cash that is used to pay suppliers. Tesla’s $ 920 million payment last Friday – due to its 0.25% convertible notes maturing – was a huge drag on the company’s liquidity by any estimate.

What analysts – not number-blind quasi-futurists – need to focus on is the extent to which that liquidity has been funded by Tesla’s increased working capital. Analysis of Tesla’s balance sheet shows that an increase in debt added $ 1.7 billion to Tesla’s operating cash flow in 2018, and a cumulative total of nearly $ 3 billion for the period 2016-2018 . While part of this increase was offset by the increase in receivables and inventory, Tesla achieved a net profit from all three categories in each of the previous periods.

After more than a quarter of a century of following automakers, I can tell you that it’s a very, very scary proposition when working capital shifts from a tailwind to a headwind – that is, say that debts suddenly decrease without a corresponding decrease in debts. This is a natural consequence of a sudden drop in sales, a phenomenon that seems to occur with the Model 3. Without a group of dealers willing to park unsold models on the grass of their lots, Tesla has no business. natural remedy for such a situation. I saw this with DaimlerChrysler in 1999, Fiat in 2002 and ultimately it was this reversal in working capital that sent GM bankrupt in 2009.

Working capital should be the focus of every Tesla article you read over the next four weeks by the end of Tesla’s first quarter. Of course, it won’t – and that’s what makes it fun – but Musk let the genie out of the bottle with his profit warning last week. Those who have only analyzed this at the level of the adjustment of EPS estimates – and have not analyzed the corresponding impacts on the balance sheet – have made a huge mistake.


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About Donnie R. Losey

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