In anticipation of this week’s quarterly earnings announcement, I just finished reading Tesla’s second quarter 10-Q. Overall, it was an interesting read. It had a few details that I found surprising and at least one disclosure all investors should be aware of. 

Financial Statements

Balance Sheet

Tesla now is not the same Tesla that is mentioned in Walter Isaacson’s new book about Elon Musk. In that book, Tesla was on the brink of insolvency and was incapable of producing cars fast enough to pay their bills let alone satisfy demand. This Tesla has enough cash on hand to pay its entire accounts payable without selling a single car. This Tesla managed to produce enough product to grow the inventory in excess of deliveries while still having a positive cash flow. This Tesla doesn’t even need to think about customer deposits as a source of cash because 100% of their operations are completely self-funded.

The increase in inventories did represent a bottleneck in that their car delivery abilities did not keep pace with their car production abilities. They plan on reducing production in the 3rd quarter to reduce this bottleneck and return inventories to the previous level. Keep an eye on inventory levels in the 3rd quarter to see if this came true. 

Income Statement

Operating margins for the quarter fell year over year from 13% in 2022 to 10% in 2023. This was caused by a steep drop in the profitability in the automotive division. In 2022, Tesla made a 28% gross margin on cars. This fell to 19% in 2023. They claim this decrease came from a combination of “lower average selling price on vehicles, margin headwinds from underutilization of new factories, and a decrease in regulatory credits.” These problems will most likely persist into the future leading to lower margins permanently.

The solar business grew much faster than automotive at 74%. It surprised me how little and thus inconsequential that operation has become. Solar makes up less than 6% of total revenues but still manages a respectable 18% operating margin. 

Beginning in 2022, Tesla began directly financing automotive and solar panel deliveries for customers. Having the ability to defer receiving the full purchase price for their products on delivery and make more money on financing it for the customer, shows how far the company has come with their financial solvency.

I found it interesting that in the past six months, Tesla moved about 2 billion dollars from money market funds to less liquid U.S. government securities. I am guessing that this might show Tesla is not anticipating needing those funds in the short term.

Litigation Disclosure

This is the longest litigation disclosure that I have read in quite some time. It is hard to tell if any of these court proceedings will prove meaningful in any way. Here is a quick summary:

Solar City Acquisition – Tesla and Musk won and claims were dismissed. 

CEO Performance Award – A trial was held. Post-trial briefing complete and waiting outcome.

Directors’ Compensation – Settlement reached. Not adverse to results.

Going Private Tweet – Tesla and Musk won one suit at trial. There are still 3 others pending.

Alleged Discrimination – Tesla found guilty but damages were reduced from 136.9 million to 3.175 million. There are two other cases still pending.

Product related – Several lawsuits about Tesla’s claims of using Full Self-Driving Capability. Since their cars don’t have Full Self-Driving Capabilities, Tesla might be in trouble here. 

Geographic Growth

In the second quarter, Tesla grew year over year sales in the US by 18% but grew in China by 51%. China represents a significant opportunity to continue fast growth. Unfortunately, it shows how vulnerable Tesla might be to geopolitical tensions between the US and China in the future. 

Major Risks to Look Out For

Tesla needs to grow their manufacturing capacity. They are working to bring on two new factories. One in Texas and one in Germany. They also need to add to their available sources of battery cell supplies by making their own cells. Unfortunately, there are many moving parts that are outside of Tesla’s control that could adversely affect their ability to execute and grow their manufacturing capacity.

Increased interest rates may cause a weakening of demand for Tesla’s vehicles. They believe their cost reduction initiatives allow them to be more competitive than their competitors in an inflationary macroenvironment but if all car companies have trouble selling cars, Tesla will not be any different.

Summary

All investors should be aware of the decreasing profit margins at Tesla. If they can get some of their new factories up and running this may help, but I am not hopeful that it will happen by Q-3. I am also looking forward to seeing what Tesla’s inventory levels look like in the new 10-Q on Wednesday. Will they actually decrease their production to relieve the delivery bottleneck?

I will post a new summary of Tesla’s Q3 results on Thursday.