It’s interesting to see how the automotive business of Tesla (NASDAQ: TSLA) stacks up against its bigger rival General Motors (NYSE: GM). We know that Tesla is relatively new to the automotive industry and is a pure electric vehicle player. On the other hand, General Motors or GM has already been in the automotive industry for more than several decades and has only jumped on the electric vehicle bandwagon as recently as a few years ago.
With both companies getting more and more ambitious in the automotive industry, I would like to see how both companies measure up to each other in terms of revenue and gross profitability despite the different business models adopted by each company. With that said, Tesla is doing a retail-based business model, whereas GM is on a wholesale-based business model.
Theoretically, I would expect Tesla’s gross margin to be worse than that of GM, considering the extra costs required to run its retail stores. Let’s keep our fingers crossed at this point and read on to find out.
In this article, I am making a comparison of both automakers based on revenue and gross margin. The gross margin is a variable that measures the gross profit after deducting the variable cost associated with manufacturing the products.
According to Investopedia, gross margin is a measurement of the efficiency of a company in utilizing its labors and raw materials in producing the goods. Therefore, the more efficient a company uses its resources, the higher the gross margin the company can derive from the sales of the products since it can efficiently control the cost of manufacturing.
Aside from knowing the manufacturing efficiency, the gross margin also tells us about the pricing power of the products. For example, we can have two companies producing goods at the same cost, but one company may have a more reliable brand which allows it to put a higher price tag on its products, and this strong brand effect produces a higher gross margin as well.
With that in context, we could find out a lot of information from just digging into the gross margin alone. Let’s read on!
Apple to Apple Comparison of Automotive Business
Before we proceed further, I want to make it clear that I am comparing only the automotive sector of both companies. Although Tesla and GM are major players in the automotive business, they have non-automotive business segments that contribute significant sales to the company revenue. To do an apple to apple comparison, I have stripped out non-automotive revenue when comparing the automotive revenue and gross margin of both companies.
For GM, GM Financial is a business segment that provides automotive financing services and is not related to any car making activities. As such, I have excluded the portion of revenue related to GM Financial when measuring GM’s automotive revenue and gross margin in subsequent charts. The following snapshot shows the portion of GM Financial in the income statement in which I have excluded in my calculation of automotive revenue and gross margin.
Similarly, Tesla has non-automotive revenue which comes from the energy generation and storage products which I need to adjust as well when comparing the automotive revenue and gross margin with that of General Motors.
Also, Tesla’s automotive leasing revenue was excluded in the comparison. The reason was that GM’s leasing revenue was classified as revenue generated under GM Financial and was not part of the automotive revenue as stated in its financial statements.
Therefore, I have stripped off leasing revenue from Tesla to do an apple to apple comparison with General Motors.
The same goes for Tesla’s automotive regulatory credits which were also excluded when arriving at the final automotive revenue and gross margin. Speaking of regulatory credits, General Motors does not have the privilege of selling any regulatory credits. The reason was that the company had not produced sufficient zero-emission vehicles to offset the emission that comes from fossil-fuel vehicles.
Again, I have stripped off Tesla’s regulatory credits revenue when measuring Tesla’s net automotive revenue and gross margin in order to compare the exact same numbers with that of GM.
You may have noticed that I did not exclude the “Services and Other” portion of revenue in Tesla. Although this portion of revenue mainly relates to sales derived from repair and maintenance services, sales of car components as well as sales of used vehicles, it’s included as part of my measurement of automotive revenue and gross margin because General Motors has the same type of revenue segment in its automotive business.
The worst part is that GM had lumped this portion of revenue together with its automotive sector, which makes it difficult to exclude this portion of the revenue segment.
Here is an excerpt from GM financial statement regarding sales from “Services and Other” and “Used Vehicle”:
Proceeds from the auction of vehicles returned from daily rental car companies and vehicles utilized by our employees are recognized in Automotive net sales and revenue upon transfer of control of the vehicle to the customer and the related vehicle carrying value is recognized in Automotive and other costs of sales.
Services and Other
Services and other revenue primarily consists of revenue from vehicle-related service arrangements and after-sale services such as maintenance, vehicle connectivity, and extended service warranties. For those service arrangements that are bundled with a vehicle sale, a portion of the revenue from the sale is allocated to the service component and recognized as deferred revenue within Accrued liabilities or Other liabilities. We recognize revenue for bundled services and services sold separately as services are performed, typically over a period of less than three years.
Therefore, to compare the similar types of revenue and gross margin of both companies, I have kept the “Services and Other” revenue segment in my measurement of automotive revenue and gross margin for Tesla.
Assumptions That I Have Made
In terms of costs and expenses, GM has lumped its research and development expenses under the automotive cost of sales as shown in the following snapshot and excerpt extracted from its financial statement.
Research and Development Expenditures
Research and development expenditures, which are expensed as incurred in Automotive and other cost of sales, were $7.8 billion, $7.3 billion and $6.6 billion in the years ended December 31, 2018, 2017 and 2016. We enter into cost sharing arrangements with third parties or nonconsolidated affiliates for product-related research, engineering, design and development activities. Cost sharing payments and fees related to these arrangements are presented in Automotive and other cost of sales.
On the contrary, Tesla’s research and development expenses was separated from the automotive cost of sales and was classified under operating expenses.
To compare both companies as similarly as possible, I have added Tesla’s research and development expenses back to its automotive cost of sales.
The problem is that not all research and development expenses were spent in the automotive sector. Some of the R&D expenses may have been spent on the energy business. As such, I have derived a percentage that is consistent with the ratio of automotive revenue to total revenue. This figure comes out to be around 80%. In other words, Tesla automotive revenue as a percentage of total revenue is around 80%.
Therefore, I have assumed that around 80% of research and development expenses were spent in the automotive segment. This 80% of R&D costs were then added to Tesla automotive cost of sales to arrive at a gross margin that is consistent with that of GM.
Finally, it seems like we are all set with the adjustments and assumptions. Let’s continue!
Automotive Revenue: Tesla vs GM
The above graph shows the comparison of adjusted automotive revenue between Tesla and GM over the past 5 years from 2015 to 2020. As discussed in prior paragraphs, Tesla automotive revenue has been adjusted to include the “Services and Other” revenue segment while excluding certain revenue segments such as leasing, energy, and regulatory credits to match that of GM for an apple to apple comparison.
It’s very clear from the chart that GM automotive revenue is much higher than that of Tesla. In fact, in the latest quarters of 1Q 2020, GM’s automotive revenue was nearly 6X bigger than that of Tesla. However, the difference was much bigger 5 years ago at roughly 35X. In just 5 years, Tesla has managed to close the gap with GM, reflecting the remarkable growth that Tesla has achieved in the automotive segment.
Also, GM’s quarterly automotive revenue has declined quite significantly from its high of $40 billion in 2016 to about $30 billion in Q1 2020. Between 2018 and 2020, GM’s automotive revenue has stayed relatively flat at $30 billion. From the trend of the plot, GM’s automotive sales will likely remain flat at the $30 billion levels and may even decline in the future considering the damages that the COVID-19 pandemic has done to the automotive industry.
On the other hand, Tesla’s adjusted automotive revenue has grown from a quarterly revenue of roughly $1 billion in 2015 to nearly $6.5 billion in 2018 before trending slightly lower to about $5 billion in Q1 2020. Throughout the 5 years, Tesla’s quarterly automotive revenue has grown at a sequential rate of roughly 500%.
Despite the revenue difference of about 6 fold in 2020, Tesla’s stock has been trading at a much larger market capitalization than that of GM throughout 2020. As a result, investors are putting a very high expectation on Tesla in terms of growth and expect Tesla to grow even further in the future.
Gross Margin: Tesla vs GM
The chart above shows the comparison of the adjusted gross margin between the two companies. As discussed in prior paragraphs, Tesla’s cost of revenue has been adjusted to include a partial portion of research and development expenses to match that of GM for an apple to apple comparison.
Aside from r&d expenses, some of Tesla’s non-automotive related revenues such as leasing, energy, and regulatory credits were also excluded when measuring the gross margin.
As seen from the chart, Tesla’s adjusted gross margin has been much worse than that of GM from 2015 to 2017. However, the adjusted gross margin improved remarkably from 2018 to 2020. In the early periods, Tesla’s automotive gross margin was mostly negative, indicating that the company had continuously incurred losses.
Tesla’s gross margin started to improve during 2018 as seen from the growing gross margin which hit 15% in Q3 and Q4 2018. However, Tesla’s adjusted gross margin dived in early 2019 and hit nearly 0% in 1Q 2019.
Nevertheless, Tesla’s automotive gross margin increased steadily throughout 2019 and reached more than 10% in 3 consecutive quarters. At the same time, General Motors’ automotive gross margin took a hit in 2019 and dropped below 10% in early 2020.
On a long-term basis, we can see that Tesla’s improving gross margin has surpassed that of GM in recent quarters. During the same period, GM’s automotive gross margin stayed at roughly the same level at 10%, but this level was way below its peak of 15% achieved back in 2017.
Going into 2020, Tesla’s adjusted gross margin was getting close to the level seen in GM and has even grown slightly higher than that of GM in Q1 2020.
In short, Tesla is seen improving its gross margin starting in 2019 but still lags behind the gross margin of GM in some of the quarterly results. Moreover, Tesla’s adjusted automotive gross margin has been fluctuating dramatically over the 5-year period which had gone from as low as -5% to as high as 15%, indicating that the company still hasn’t achieved the sales volume needed to keep costs of sales under controlled.
Is Tesla catching up with GM in sales and gross margin? Yes, Tesla has been fast catching up in both revenue growth and gross margin as seen from the results. However, there is still a lot of improvement to be done for Tesla, especially in revenue growth. However, Tesla has been fast closing the gap with General Motors in revenue. Over the 5 years, Tesla has managed to reduce the revenue difference from 35X in 2015 to only 6X in 2020.
During the same period, GM’s automotive revenue has been stagnant and has even declined since 2017. I believe it is just a matter of time before Tesla finally reaches the size or even outgrows GM in sales.
Although Tesla’s revenue was 6X less than that of GM, Tesla could achieve an adjusted gross margin, which is about the same as GM in Q1 2020. Tesla’s gross margin of more than 10% has lasted for 3 consecutive quarters from 3Q 2019 to 1Q 2020 and has even exceeded that of GM in the same period, illustrating that the company can reach profitability even with significantly fewer sales compared to its bigger rivals.
As seen from its historical results, Tesla has the capability of surpassing the results of GM. If history repeats itself, Tesla will eventually achieve a gross margin that will be higher than its competitor when the company reaches the needed sales volume.
Despite additional costs of running retail stores, Tesla can successfully achieve the level of gross margin which is the same as General Motors.
Therefore, the valuation of over $100 billion in market capitalization that investors have put on Tesla as of this article is written is more or less justified judging from its growth potential in the future.
References and Credits
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