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Tesla Has Been Losing Money In This Business Segment

tesla gigafactory shanghai

Tesla Gigafactory Shanghai, China. Source: Tesla 3Q19 Update Letter.

The “Services and Other” is one of Tesla business segments that contributes the least amount of revenue and is also one that has been losing money for several years. As you will see in the following charts, this segment of revenue makes up about 10% of total revenue and has been having negative gross margin over the past 3 years.

A negative gross margin indicates that Tesla is selling below or at costs for its products and services. This literally translate to the company subsidizing its customers for its products and services in this business segment.

To give your an idea of where the “Services and Other” reportable segment is located in the income statement, here is a snapshot of quarterly filing dated June 31, 2019.

Tesla 2Q19 income statement

Tesla 2Q19 income statement

Before diving further into the detail of the “Services and Other” segment, let’s take a quick look at what this business is about and how it makes money.

Tesla “Services and Other” Business Segment

The “Services and Other” business segment derives sales from several activities below:

  • 1. Repair and maintenance services
  • 2. Extended service plans
  • 3. Sales of merchandises
  • 4. Sales of used Tesla vehicles
  • 5. Sales of electric vehicle components to other manufacturers
  • 6. Sales of non-Tesla vehicle trade-ins

Here are a few brief notes about revenue recognition or how sales is recognized in the income statement for the items discussed above.

Repair and maintenance services

Revenue recognition for repair and maintenance services is done as soon as the services are provided to customers.

Extended service plans

Revenue for extended service plans are recognized over the performance period of the service contracts as the obligation represents a stand-ready obligation to the customers.

Sales of merchandises, used vehicles, components and trade-in vehicles

Revenue are recognized when payments for merchandises, used vehicles, components and vehicles trade-ins are received at the point when control is transferred to the customers or in accordance with payment terms customary to the business.

Revenue Trend, Gross Margin and Growth Rate

In the following series of charts, we will talk about revenue trend of “Services and Other” and find out how profitable the business unit is. For example, the gross margin is one variable that is worth analyzing across a span of a few quarters. From the gross margin, investors can find out the amount of profit made before deducting other expenses such as selling, general and administrative costs.

Moreover, we will also look at the ratio of “Services and Other” revenue to total revenue. This ratio measures the proportion of revenue contributed by this business segment with respect to total revenue.

Finally we will track the quarterly growth rate and year on year growth rate of the revenue generated by the “Services and Other” business segment.

Revenue and Gross Margin of Tesla “Services and Other” Business Segment

Tesla services and other revenue gross margin

Tesla “services and other” revenue and gross margin

The chart above shows that the “Services and Other” business segment has grown tremendously for the past 5 years from 2015 to 2019. Over the span of the 5-year period, the growth rate is more than 10X. Revenue has grown from a mere $47 million in 1Q15 to as much as $548 million in 3Q19.

Although revenue growth has been impressive for this business segment, gross margin has suffered in most of the quarters. The trend shows that gross margin is trending downward and dropped to as low as -40% in 2018 before recovering slightly to -20% in 2019.

Since gross margin has been in the negative territory, the “Services and Other” business segment has been losing money as costs of goods sold has been more than the sale price. In this context, Tesla has been selling its products and services at below costs which has resulted in the negative gross margin.

The negative gross margin may have come from the sales of some items that Tesla needs to get rid of quickly. For example, used vehicles is one such item that the company should get rid of quickly. The reason is that they take up inventory spaces and depreciate in short amount of time.

Ratio of Tesla Services and Other Revenue to Total Revenue

Tesla services and other percentage of total revenue

Ratio of Tesla “services and other” revenue to total revenue

The plot above shows the ratio of services and other segment revenue to total revenue expressed in percentage.

As seen from the plot, this business segment contributes roughly 10% of revenue to total sales. In this context, it does not make much of an impact to the company overall growth. However, this is a negative margin business that Tesla can’t do without.

Again, one of revenue sources for this business segment is from sales of Tesla and non-Tesla trade-in vehicles. Tesla has to accept trade-in vehicles in exchange for its products. Otherwise, Tesla would be losing a lot of customers. But we all know that Tesla is not in the business of selling used vehicles.

For Tesla, the company has to get rid of these used vehicles as fast as it possibly can. A slow sales can spell very serious trouble for the company as these vehicles take up inventory spaces and their respective prices could depreciate significantly in a short period of time.

For this reason, Tesla may have resorted to selling these used vehicles at cost or even at below cost. This may have explained the reason the “Services and Other” business segment losing money in most of the quarters shown in the chart above.

Tesla “Services and Other” Revenue Sequential Growth Rate

Tesla services and other sequential growth rate

Tesla “services and other” segment sequential growth rate

The chart above shows the revenue sequential growth rate from 2015 to 2019.

From a spreadsheet calculation which i did not show here, the average sequential growth of “services and other” business segment for the past 18 quarters is 17%.

Quarterly growth has been quite impressive during 2018 when the company was ramping the production and delivery of Model 3. As seen from the chart, sequential growth rate in 2018 has trended higher substantially, going from negative growth rate in 1Q18 to 63% in 4Q18. The figure tapered down in 2019.

All in all, quarterly growth rate for this business segment has been in the double digit range which is still exceptional considering that the growth rate has been more than that of total revenue growth rate of just 15% for the past 5 years.

Tesla “Services and Other” Revenue Year On Year Growth Rate

Tesla services and other yoy growth rate

Tesla “services and other” segment yoy growth rate

The chart above shows the revenue year on year growth rate from 2015 to 2019.

From a spreadsheet calculation, the average year on year growth rate for the past 15 quarters is 77%. The double digit average growth rate is expected since all quarters in the chart above had positive growth rate for the past 4 years.

Moreover, year on year growth rate is especially strong in 2019 when double digits and even triple digit growth rates were seen in most of the quarters respectively.

Conclusion

In short, Tesla has been losing money in the “Services and Other” business segment as seen from the negative gross margin. The negative gross margin has got worse in 2018 and 2019. The figure reached the lowest point at more than -40% margin in some of those quarters.

Despite non-profitable, the “Services and Other” revenue growth has been trending upward and reached a record high of more than $600 million in 2Q19.

Average sequential and year on year growth rate have been in the double digit range and these figures even exceeded that of total revenue growth rate.

References:

1. All information including financial figures in this article was obtained from Tesla Investor Overview.

2. Featured image was obtained from Wes Gill.

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