Tesla: the Next Game-Changer to Chinese Supply Chain

Crazy China Speed: only 357 days from kick-off a factory building to delivery.

What’s the biggest news this month in China? It must be Tesla’s Gigafactory 3 opening in Shanghai. Tesla opened a plant in Shanghai that will make 150,000 units/year. Elon Musk has called this plant a “template for future growth.”

What’s exciting?

Besides the price reduction of China-made Model 3 announced at the opening (299,000 RMB, around $42,700), another huge news is the unveilinig of Tesla Model Y plan. Just as accessible to the consumers as Model 3, the Model Y is also getting a lot of attention, as the global SUV market has experienced explosive growth recently, with sales of 30 million units in 2018 alone(It's no wonder luxury brands such as Porsche, Bentley, Rolls-Royce have also joined the SUV battlefield).

Tesla CN has updated the price of Model Y(444,000 RMB, around $63,400), also giving a confident signal to the Chinese market that it won’t be an issue to begin delivery in Q2'20 as Elon Musk has committed.

But what makes it really truly exciting, is that Model Y would be manufactured on the same platform as Model 3, making it possible to share over 70% of the parts and components. Given the current cost control of Model 3, Model Y will be very likely to be sold at a lower price, also expectedly the best-seller among all Tesla models considering the SUV market potential.

Crazy China Speed

China is known as the “infrastructure superman”, not just in solving various world-class engineering and construction difficulties(such as Qinghai–Tibet railway), but also in delivering in crazy China speed, which is why Tesla needs China to fulfill the ambition to revolutionize the auto market.

• 2019/01/07 Tesla kicked off its Shanghai Gigafactory.
• 2019/08/19 Tesla got the 1st manufacturing permit issued by Chinese government 3 days after the submission.
• 2019/10/23 Tesla got manufacturing qualification and started manufacturing Model 3.
• 2019/12/30, Tesla delivered 15 China-made Model 3 units to local employees.

It took only 357 days from kick-off to delivery.

According to Tesla, Gigafactory3 has reached a capacity of 1000 units/week so far, and soon to achieve 3000 units/week for mass production.

No one could ever imagine, where Elon Musk danced (and partially stripped) at the opening ceremony was a farmland just 1 year ago.

Tesla’s Chinese Dream?

In contrast, Tesla’s Fremont plant took more than 5 years to reach the weekly manufacturing capacity of 1000 units, where Tesla didn’t have to build from scratch as it was a take-over and a retrofit. Another Tesla plant, the Gigafactory1 in Nevada, took 2 years from deal (2014) to official operation, and to date it has only built 14% as planned.

Not Just China Speed

To fully understand what’s happening in this story, I would like to go back to where China opened the market to foreign auto makers in the late 90s. Around 1984 when auto manufacturing in China was so behind, the Chinese government decided to introduce joint ventures to advance the development of its auto industry. However, for the protection of local automobile players, the government could not fully open its doors to the international auto giants. So when this policy went public in 1984, the joint venture had to follow the share ratio at 50:50, and this ratio had remained unchanged despite the policy changes followed. UNTIL recently.

In 2018, the Chinese government announced that the joint venture restriction on foreign ownership in its auto industry will be exempt in e-vehicle manufacturers.

In addition to regulation support from the Chinese government, Tesla has received up to RMB18.5 billion($2.6 billion) in loans, 45% under unsecured loans at a discounted interest rate of 90% of the central bank’s annual benchmark interest rate(RMB3.5 billion from the syndicate and RMB5 billion from CMB China).

This loan has helped Tesla finish the land purchase and the plant construction, far exceeding the previous estimated cost needed for Shanghai Gigafactory (about RMB14 billion), leaving Tesla with enough cash to also boost its operations in China.

But the Chinese government also has its expectation of returns. In the deal between the Shanghai government and Tesla, Tesla will invest RMB14 billion over the next 5 years, generate output value of more than RMB75 billion by 2023, and contribute to RMB2.23 billion in annual tax revenues.

Tesla Gigafactory3: Unlocked Manufacturing Capability + Massive Chinese Market

With the success of Model 3 in 2018, Tesla achieved its annual revenue to the next level at $21.46 billion, narrowing its net loss from $1.96 billion in 2017 to $980 million in 2018. However, Tesla still couldn’t improve its capacity to the target manufacturing capacity of 5,000 vehicles/week, a crucial issue to Tesla who has not profited for over 10 years. That was why Elon Musk confirmed Shanghai Gigafactory3 plan at 2018 H1 Tesla shareholder meeting.

Tesla Gigafactory3 has a design capacity of manufacturing 500,000 vehicles per year (10,000 vehicles per week) and will manufacture 150,000 vehicles a year by 2020.

Plus, the labor costs would be significantly lower for vehicles produced in China, only about 1/10 of that in the Fremont factory, according to Morgan Stanley. If we follow Tesla’s plan in Gigafactory3 in China that there will be 10,000 employees, the cost savings could even increase profit margins by more than 30%. A huge difference.

Another key factor in cost savings is the Chinese suppliers. Elon Musk already mentioned in public last year that Tesla plans to localize all parts of Model 3 in China by the end of 2020. There are already multiple Chinese suppliers in Tesla's vendor system. So now the new location not only saves a large sum in logistics costs, but also opens up opportunities for local quality suppliers, for instance CATL and LG in the battery solution, which takes up the majority of Tesla's material costs.

Tesla and China mutually need each other. The Chinese market is the largest e-vehicle market worldwide, over 50% in global market share. For every two EVs sold worldwide, there is one in China. With Tesla building a Chinese factory, the high tariffs and labor costs are largely reduced.

Also Tesla plans on adding more than 4,000 super charging stations in mainland China by the end of 2020, doubling the number of stations built in the past five years.

“Our true competition is not the small trickle of non-Tesla electric cars being produced, but rather the enormous flood of gasoline cars pouring out of the world’s factories every day.”

Musk’s mission for Tesla is to accelerate the world’s transition to sustainable energy, so Tesla’s ambition is not beating its EV competitors but improving the overall energy applications.

But energy decides the world's economy and politics, and that is why Tesla has had so many ‘difficulties': as there are conflicts with the interests of oil giants. In the US, 70% of the oil is used in automobiles. But new energy is an inevitable trend, whether one likes it or not.

Tesla + Chinese Auto Supply Chain: The Acceleration of EV

Take a quick look at the EV supply chain:

• Upstream — Resources: companies mainly focusing on metal resources, such as lithium, rare earth minerals, etc.
• Midstream — 3 ‘E-related’ components: suppliers of battery, motors, and electronic control.
• Downstream — Vehicle production and sales: OEMs, wholesalers, and retail stakeholders.
• Post-market — Operation-focused: charging station manufacturing/operation, vehicle maintenance, battery recycle.

EV supply chain highly relies on the ecosystem in upstream and midstream. In those segments, Chinese companies take more than half of the global TOP10. Also driven by large demand of Chinese EV market, there are multiple regional industry ecosystems, such as Northern China(aka Jing-jin-ji, meaning Beijing-Tianjin-Hebei), Yangtze Delta, Southern China(also known as Pearl River Delta, now broadened as Greater Bay Area), Southwestern China, etc.

Will Tesla be another Apple to activate Chinese supply chain?

Starting with iPhone 4, Apple has leaped into one of TOP market cap companies with its smartphone products. iPhone 4 is the 1st iPhone best-seller, especially in phone performance and improving low power consumption. As hardware/software upgraded and configurations/features improved, Apple has successfully introduced a series of new products, taking dominance in the smartphone industry.

7 years ago, Apple had only 8 suppliers from Mainland China out of its 156 worldwide. In 2019, Apple had increased its Chinese suppliers to more than 50, out of its 200 global suppliers.

In addition to the well-known Foxconn, there have been a number of excellent suppliers who have achieved over 10 times' growth in stock returns after joining Apple's supply chain over the past 10 years:

Goertek, audio supplier;

Shenzhen Sunway, antenna supplier;

Luxshare Precision, connector supplier;

Lens Technology, glass cover supplier;

Shenzhen Desay Battery, battery supplier;

Etc….

Relying on Apple’s rapid development, China has established the world’s most comprehensive consumer electronics industry chain. But what’s more fascinating is that, NOT ONLY Chinese phone suppliers can survive and expand their business (some even become leaders in their focused areas), BUT ALSO China's overall mobile phone brands gain access to hyper growth beneficial from the Apple-led ecosystem, such as Huawei, Xiaomi, Oppo, Vivo.

So when we look forward, Tesla seems very able to replicate Apple’s legacy in China in terms of innovation disruption, product recognition, industrial chain impact.

The only question is:

Can Tesla’s Model 3 be as popular as Apple’s iPhone 4?