Most people see Tesla (TSLA) as a car company that makes money from selling and leasing electric vehicles.
While Tesla builds electric vehicles, it also designs and manufactures energy storage and solar generation systems.
Therefore, Tesla also makes money from selling and leasing electricity generated from solar energy systems built and designed by the company.
Best-selling energy storage products such as the Powerwall and Powerpack are another category of products that generate extra revenue streams for the company.
These are the typical money-making revenue streams for Tesla.
However, what you may not know is that Tesla has another source of cash flow that has been contributing hundreds of millions of dollars every quarter, and $1.8 billion in fiscal 2022, to the company’s bank accounts.
And that revenue source, which is created literally out of thin air, comes from the so-called “Regulatory Credits”.
In this article, we will look at several metrics related to Tesla’s regulatory credits, including the annual and quarterly revenue figures, percentage of total revenue, growth rates, gross margin with and without regulatory credits, etc.
Let’s start with the following topics.
What are Regulatory Credits?
Regulatory Credits are credits or points given by the state and federal governments for contributing zero pollution to the environment.
Basically, in the state of California and some other states in the US, auto manufacturers such as Tesla, Ford, General Motors, and so on are required by laws to meet certain minimum emission standards for all the vehicles they produce and sell.
Otherwise, they will face hefty fines or risk having their license revoked by the state government for failing to meet these emission standards.
In simple terms, auto manufacturers are required to meet these emission standards and the only way for them to be in compliance with the requirements is to either improve their own vehicles’ emissions or switch to manufacturing emission-free electric vehicles for 100% compliance or purchase regulatory credits from other automakers that have excess credits such as Tesla.
The laws provide that automakers such as Tesla may keep the excess credits if they earn more credits than the minimum amount required. Auto manufacturers with a surplus of credits may sell their credits to other manufacturers, who can use the credits to comply with the laws.
ZEV and GHG Regulatory Credits
Since the vehicles produced by Tesla emit zero-emission, over the years, Tesla has earned a substantial amount of “Regulatory Credits” sometimes referred to as ZEV (Zero-Emission Vehicles) credits under the state of California, which Tesla can sell to other auto manufacturers.
The GHG credit or Green House Gas credit is another regulatory credit similar to the ZEV credit where it’s applicable at the federal level requiring automakers to comply with the emission standard.
Based on the company’s annual reports, Tesla generated sales that totaled as much as $1.8 billion, $1.5 billion, and $1.6 billion for the years ended December 2022, 2021, and 2020 respectively from selling regulatory credits alone.
That’s quite a lot of money from a “product” literally with zero cost to produce.
Keep in mind that Tesla has only commanded a market share of less than 5% in the automotive sector in most regions of the world as shown in the following snapshot.
For this reason, Tesla’s sales of regulatory credits will most likely be increasing or even surge in the foreseeable future when Tesla builds more zero-emission electric vehicles.
In fact, we are seeing that Tesla’s regulatory credit sales have been increasing by an average of 36% year over year since 2013, according to the results in the plots below.
Tesla’s Automotive Regulatory Credits
The diagram above shows where the regulatory credit revenue belongs in one of Tesla’s business segments.
As seen from the diagram, the sales of regulatory credits are recognized and reported under Tesla’s automotive sector.
Under the automotive sector, Tesla’s regulatory credits revenues are combined and lumped together with other revenue sources, including new vehicle deliveries, sales of Supercharging and autopilot, etc to arrive at the aggregated automotive sales revenue.
In fiscal 2022, Tesla’s carbon credits revenue alone made up around 2.5% of the total automotive revenue, down from 3% in fiscal 2021.
Tesla’s Regulatory Credits Revenue (Yearly)
The chart above shows Tesla’s revenue from regulatory credits for the past 8 years from fiscal 2012 to 2022 on a yearly basis.
According to the chart, Tesla’s sales of regulatory credits have been increasing year over year at an average annual growth rate of about 36% between fiscal 2013 and 2022.
Fiscal 2022 was the best year for Tesla when the respective emission credits sales topped $1.8 billion, a record for the company in the last 10 years.
In fiscal 2021, Tesla recorded $1.5 billion USD from the sales of regulatory credits, down slightly from the prior year.
In terms of growth, Tesla’s regulatory credits revenue grew the most from fiscal 2019 to 2022, which is more than tripling year over year.
From the perspective of margins, Tesla has benefited immensely from the sale of regulatory credits as it helps to boost gross margin and profitability.
Going forward, Tesla’s regulatory credits sales may reach as much as $2.1 billion in fiscal 2023 and $2.8 billion in 2024 based on the projection that the carbon credits sales will contribute about 2% of the total revenue.
Tesla’s total revenue is estimated at an average figure of $106 billion in 2023 and $138 billion in 2024, according to 30 analysts from Yahoo Finance.
For your information, the ratio of Tesla’s emission credit sales to revenue in 2022 totaled 2.2% in 2022.
This ratio will likely get smaller over time as electric vehicle adoption is slowly becoming mainstream.
Tesla’s Regulatory Credits Revenue (Quarterly)
On a quarterly basis, Tesla’s regulatory credits revenue has been increasing steadily over the years as seen from the plot above.
In the past 4 quarters alone, Tesla’s sales of carbon credit revenue averaged more than $400 million per quarter, the highest figure ever recorded in the company’s history.
If this trend continues, Tesla’s total sales of emission credits will likely reach $2 billion by the end of 2023.
In 2022 alone, Tesla recorded $1.8 billion of revenue generated from regulatory credit sales.
In fiscal Q4 2022, Tesla’s regulatory credits sales clocked at $467 million on a quarterly basis, about 49% higher than the figure reported a year ago.
Tesla’s Regulatory Credits Revenue To Total Revenue Ratio
The chart above shows the ratio of regulatory credits revenue with respect to total revenue expressed in percentage.
From the chart, the percentage has dropped drastically from 10% in 2012 to just 2.2% in fiscal 2022.
Prior to 2022, the ratio was seen ticking slightly higher to 5% in fiscal 2020 when Tesla reported a record carbon credits sales of $1.6 billion in the same fiscal year.
As of fiscal 2022, Tesla’s regulatory credits sales of $1.8 billion put the ratio at 2.2%, down 0.5 ppt from the prior year.
The continuous decline of the ratio shows that Tesla’s sales of other revenue segments, the automotive sector, in particular, have grown at a much faster pace.
While Tesla may have posted record sales of regulatory credits in fiscal 2022, the ratio represents less than 5% of the company’s total revenue.
While the 5% ratio may seem negligible, it was actually almost as big as the solar revenue generated in fiscal 2020.
The best thing about carbon credits revenue is that it comes without any costs of sales whereas Tesla has to subsidize every single energy product that gets delivered to customers because of the negative gross margin.
Going into 2023 and 2024, the ratio may get smaller to only 2% when electric vehicle sales become mainstream as adoption increases.
Tesla’s Regulatory Credits Revenue Growth Rates
The plot above shows the year-on-year (YoY) growth rates of Tesla’s regulatory credits revenue from fiscal 2017 to fiscal 2024.
From the plot, the YoY growth rates for Tesla’s regulatory credits sales had been positive in all fiscal years except for fiscal 2021 where the growth rate declined to -7.3%.
In fiscal 2020, Tesla reported the best YoY growth rate at 166% when regulatory credits revenue surged beyond $1 billion for the first time.
Tesla’s regulatory credit sales in 2022 grew 21% year-over-year and are projected to grow 19% in 2023 as well as 30% in 2024.
Projected figures are calculated based on a ratio of 2% of emission credit revenue to total revenue.
Effect of Regulatory Credits on Gross Margin (Quarterly)
The chart above shows Tesla’s quarterly gross margin comparison for automotive revenue with and without regulatory credit revenue.
Critics have argued that the sales of regulatory credits have artificially boosted Tesla’s gross margin and thus the company’s profitability.
These arguments are valid to some degree because Tesla’s revenue from the sales of emission credits may not be sustainable in the long run.
Tesla may run out of emission credits buyers in the future when most, if not all, automakers switch to producing EVs.
According to the chart, Tesla’s regulatory credits revenue has certainly helped to boost automotive gross margin.
In Tesla’s case, the improvement in gross margin can be as low as 2% to as high as 6%.
For instance, Tesla reported the biggest jump in gross margin, an improvement of as much as 6% in Q2 2020, when regulatory credits revenue was recognized as part of the automotive sales.
Similarly, we are seeing a 3% boost in gross margin in Q4 2020 when ZEV and GHG credits sales were taken into consideration.
The effect of the carbon credits sales continued into fiscal 2022 4Q when Tesla’s automotive gross margin reached 26%, one of the record highs for the company.
However, the automotive gross margin would have come to only 24% if emission credits revenue was excluded from the measurement in the same fiscal quarter.
In short, Tesla’s regulatory credits revenue has artificially boosted the gross margin.
Effect of Regulatory Credits on Gross Margin (TTM)
To smooth out the quarterly plot and to better show the trend, I created the trailing 12-months (TTM) plot as shown in the chart above.
Again, Tesla reported the biggest improvement in the automotive gross margin throughout 2020 when regulatory credits sales were the highest.
On a TTM basis, Tesla’s automotive gross margin with and without regulatory credits sales differed by as much as 4% in most quarters in 2020.
As of 4Q 2022, the gap between Tesla’s automotive gross margin with and without emission credits revenue was slightly smaller when the respective gross margins clocked 28.5% and 26.7% on a TTM basis.
A trend worth noting is that the gap with and without emission credit revenue started to diverge significantly since 2020, indicating that the effects of regulatory credits on gross margin have increased considerably.
Tesla’s Operating Profit Without Regulatory Credits Revenue
Is Tesla profitable without the regulatory or emission credits revenue?
That’s the question that we will answer in this discussion.
Let’s first look at Tesla’s operating profit which is shown in the chart above.
The chart shows 2 operating profit plots, one with regulatory credits and the other one without.
As seen, Tesla made $13.7 billion of operating income as of fiscal 4Q 2022 on a TTM basis.
However, this figure turned out to be slightly lower at $11.8 billion after excluding regulatory credits sales.
The difference is huge, notably at $1.8 billion USD in fiscal 4Q 2022.
Therefore, Tesla’s regulatory credits helped not only the operating profit but also the operating margin.
Nevertheless, Tesla was profitable from an operational perspective with and without regulatory credit revenue.
Tesla’s Net Profit Without Regulatory Credits Revenue
Similarly, Tesla’s net profit came in at $12.6 billion in fiscal 4Q 2022 on a TTM basis after accounting for sales of regulatory credits.
Without regulatory credits revenue, Tesla’s net profit would have come to only $10.8 billion on a TTM basis in the same quarter.
Additionally, as the plots move closer to the right, the gap between the 2 plots gets larger, indicating that the effect of emission credits on Tesla’s profitability has been getting bigger.
A trend worth mentioning is that Tesla was unprofitable in the past without the help of regulatory credit revenue.
However, this trend has reversed in recent years.
Therefore, even without regulatory credits revenue, Tesla was still profitable and raked in as much as $10.8 billion of net income as of 4Q 2022 on a TTM basis.
To recap, Tesla’s regulatory credits revenue has been growing at an average annual growth rate of 36% between fiscal 2013 and 2022, with 2022 having the largest emission credit sales at $1.8 billion, the largest figure ever reported.
In fiscal 2020, Tesla reported a regulatory credit revenue of $1.6 billion USD, beating the $1 billion threshold for the 1st time.
This figure declined slightly to $1.5 billion in fiscal 2021, down roughly 7% from fiscal 2020.
While Tesla’s regulatory credits revenue contributes to less than 5% of total revenue, it helped to inflate gross margin and boost profits.
As of 2022, Tesla’s regulatory credits revenue made up only 2.2% of total revenue and this ratio may get smaller going into 2023 and 2024, projected to be at 2%.
At this ratio, Tesla’s sales of carbon credits will reach $2.1 billion and $2.8 billion in 2023, and 2024, respectively.
References and Credits
1. All financial figures in this article were obtained and referenced from Tesla’s quarterly and annual reports which are available in Tesla Update Letters and Presentations.
The content in this article is for informational purposes only and is neither a recommendation nor a piece of financial advice to purchase a stock.
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