Edited by Brian Birnbaum.
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1.0 Not a Car Company
Both the AI and energy business are rearing their heads in the numbers. This quarter’s financials are a disappointing however and I cover them in the second half of this write up.
This quarter I see compelling quantitative signs of Tesla evolving into an AI and energy company. Tesla makes most of its money selling cars, but in-depth and qualitative analysis is no longer required to see a company evolving into something much bigger.
Here are the three key data points from Q1 2024:
Real world AI is here, at scale: FSD (Full Self-Driving) V12 has been pushed to more than 1.8M cars on the road, with over 50% usage and growing according to management. In the words of Elon Musk, FSD V12 is “pure AI-based self-driving.” Watch this video by Whole Mars Blog to see it for yourself.
FSD costs $99/month. This means Tesla is making 0.5*1.8M*99 = $89.1M/month. Annually, this means Tesla is now making $1.069B from autonomy per year.
Tesla’s energy business is ready to print cash: The energy business has achieved record profitability and gross margins, with the latter coming in at 24.6%. Energy gross margin is up from 11% YoY, which points to a structurally favorable evolution of the business, although total energy storage deployments have not increased significantly since Q1 2023. Notice how the evolution of margins coincides with Tesla’s rapid manufacturing efficiency increase over the past year, which I pointed out in the Q4 2023 earnings digest.
Here’s what Elon said about this business during the Q1 2024 call:
“[…] the Megapack in particular, reached an all-time high in Q1, leading to record profitability for the energy business, and that looks likely to continue to increase in the quarters and years ahead. It will increase. We actually know that it will, so significantly faster than the car business as we expected.”
Tesla’s AI infrastructure goes through another inflection point: In absolute terms, both cumulative miles driven with FSD and total AI training capacity have gone through an additional inflection point, as you can see in the graphs below. Per every additional inflection point, Tesla’s AI infrastructure gets exponentially harder to replicate. In my view, this is yielding a moat equivalent to that of Google Search in its strength.
The fact that Tesla has pushed out real-world AI to 1.8M cars on the road is indicative of an evolutionary step change. Tesla is the only company on Earth with the adequate infrastructure to perform this feat–and by a wide margin. As Tesla continues to put more cars on the road (7M by the end of this year, according to Musk), the chances that any other OEM can compete on the AI front are slim.
AI fundamentally changes the nature of cars, effectively turning them into considerably more productive assets. AI is thus set to turn cars into highly monetizable assets for their owners and, by extension, for Tesla. While Tesla sells FSD for $99 per month, the average revenue per car can be orders of magnitude above that as AI gets smarter.
As Tesla continues to decrease the cost of manufacturing cars, the spread between the cost and the revenue generated per car will continue to increase. Over the coming decade, if indeed Tesla is the only or one of the few companies on Earth with the necessary infrastructure, this dynamic should significantly increase free cash flow per share.
2.0 The Bad News
Q1 2024 financials are disappointing, but lower gross margins are the long term goal.
Electric vehicle adoption is under pressure worldwide, which is leading to lower sales and adding to the widespread pessimism about Tesla. Additionally, in Q1 2024 Tesla experienced delivery disruptions, which led to accumulated inventories. As a result, all key financial metrics are considerably worse than during the same period last year.
As pictured in the graph above, free cash flow came in at negative $2.5B, allegedly as a result of the aforementioned disruptions. During Q1, Houthi militia attacks on shippers in the Red Sea disrupted Tesla's component supply and temporarily suspended production at its German factory outside of Berlin. Additionally, environmental activists set fire to infrastructure near the same factory in March, depriving Tesla of sufficient operation power and causing a pause in production.
Tesla’s cars sell for more than they cost to make at scale. With Tesla’s manufacturing scale and efficiency demonstrably increasing, financial performance will be dictated by whether EV adoption continues trending. My view is that it will, so long as they are more convenient and affordable than their combustion analogs.
Tesla’s most misunderstood financial metric is its auto gross margins. Most investors see a decline as a bad thing. In the graph below, you can see how pronounced the decline has been since Q1 2022. However, Tesla’s core philosophy is continuously increasing efficiency in order to pass it back to consumers, predominantly in the form of lower prices. Every time Tesla attains a new efficiency threshold, it then proceeds to decrease prices.
See Lars Moravy’s response, Tesla’s VP of Engineering, when asked by an analyst during the Q1 2024 earnings call about Tesla’s approach to pricing:
I think Vaibhav said it in his opening remarks, like our cost down efforts, we basically were offsetting the price cut like we’re trying to give it back to the customers.
Free cash flow divided by operating margin indicates how much cash Tesla produces per unit of operating margin. If this metric goes up, it means that Tesla is getting more efficient. In the graph below you can see how this metric exhibits a cyclical tendency, with line with my remarks of Tesla dropping prices periodically. In the last cycle, however, this dynamic has gotten mixed up with higher rates and decreasing electric vehicle adoption.
I use the above metric to cut through the noise and ascertain whether Tesla’s manufacturing and overall efficiency is going up or down. However, due to this quarter’s anomalous free cash flow print, the metric is full of noise and cannot be properly used. We will have to wait until the next quarter, during which management expects to return to positive free cash flow.
I believe that much of the pessimism surrounding the stock comes from a) layering a high price of money, b) a consumer pullback in the electric vehicle space, and c) the aforementioned poorly understood dynamic. Further Tesla’s next generation vehicles will be on the road by late this year or early 2025, according to Musk, and historically new releases have seen high demand.
We've updated our future vehicle lineup to accelerate the launch of new models ahead, previously mentioned startup production in the second half of 2025, so we expect it to be more like the early 2025, if not late this year.
-Elon Musk during Tesla’s Q1 2024 earnings call.
3.0 Conclusion
If we do assume Tesla’s car business continues to prosper over time, the AI and energy businesses together with the equity’s relatively pessimistic price action present a compelling opportunity. I don’t see any other company that’s even close to Tesla in building the infrastructure required to bring autonomy to the world at scale, and I see the company evolving into a winner-takes-all in the emerging autonomy space.
Until next time!
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Twitter: @alc2022
LinkedIn: antoniolinaresc
I agree with what you’re saying but I disagree that you’d think it’s slowly evolving into an energy company.
It’s already happened. Many SEC reports since 2016 after his “Master Plan Deux” considers Tesla an energy company and thats how Elon specifically re-categorized it.
So you’re correct since it’s been correct for 8 years.
AI needs to be confirmed though
Muy interesante y contenido de 10, lo dificil se hace facil de entender.