Tesla's Q3 earnings miss: What investors need to know

Key Concepts

Q3 Earnings: Tesla's financial performance for the third quarter.
EPS (Earnings Per Share): A company's profit divided by the number of outstanding shares.
Revenue: The total income generated by the sale of goods or services.
Gross Margins: The percentage of revenue that exceeds the cost of goods sold.
Free Cash Flow: The cash a company generates after accounting for cash outflows to support operations and maintain its capital assets.
EV Demand: The consumer interest and purchasing behavior for electric vehicles.
EV Tax Credit: Government incentives offered to buyers of electric vehicles.
Robo Taxis: Autonomous vehicles designed to operate as taxis.
Humanoid Robots (Optimus): Robots designed to resemble the human body.
Full Self-Driving (FSD) Software: Tesla's advanced driver-assistance system.
Geofencing: Restricting a device or application to a specific geographic area.
Safety Drivers: Human drivers present in autonomous vehicles during testing phases.
First Mover Advantage: The advantage gained by the first company to enter a market.
Market Cap: The total market value of a company's outstanding shares.

Tesla Q3 Earnings and Analyst Reactions

Q3 Financial Performance

Tesla's Q3 earnings report revealed a mixed financial picture. While adjusted EPS came in at 50 cents, falling short of the consensus estimate of 54 cents, the company beat revenue expectations. Q3 revenue reached $28.10 billion, exceeding the street's forecast of $26.36 billion. Furthermore, Q3 gross margins were better than expected at 18%, significantly surpassing the estimate of 7.2%. Q3 free cash flow also showed a strong performance, with $3.99 billion reported, a healthy beat against the estimate of $1.25 billion.

Initially, the stock saw a marginal decline of about 1.3% following the earnings release. This is noteworthy considering the stock had experienced a significant run-up, increasing by approximately 80% in the preceding six months.

Key Investor Concerns and Questions

Investors are currently grappling with several significant questions:

EV Demand Post-Tax Credit: The outlook for electric vehicle demand in the US, particularly in the absence of EV tax credits, is a major concern.
China Market Performance: Investors are keen to hear commentary from Elon Musk regarding business operations and the competitive landscape in China.
Future Technologies: Any insights or updates on the progress of robo taxis and humanoid robots (Optimus) are also in focus.

Analyst Perspectives on Tesla's Future

Seth Goldstein, Senior Equity Analyst at Morningstar, provided his initial reactions and outlook on Tesla's Q3 report and future prospects.

Initial Reaction to Q3 Results

Goldstein noted that while the strong delivery numbers suggested an increase in revenue and gross profits, and a bounce back in profits after a weaker first half, the lack of detailed commentary on the robo taxi rollout plan in the shareholder deck was a surprise. He expressed a strong desire to hear more on the earnings call about Tesla's plan for moving into more advanced testing of its autonomous driving technology, specifically the transition from early testing with geofencing and safety drivers to operations without safety drivers, similar to Waymo.

EV Demand Outlook in the US

Goldstein anticipates a decline in Q4 deliveries and a potential global delivery decline for Tesla in 2026, primarily due to the expiration of US EV tax credits. He drew a parallel to Germany, where the expiration of subsidies at the end of 2023 led to a double-digit fall in EV sales in 2024. Goldstein believes that many US buyers who intended to purchase an EV likely took advantage of the tax credit in Q3, leading to a "pull forward" of demand. This suggests a period of weak EV sales across all automakers in the US over the next several quarters, with Tesla, as the market leader, being the most impacted.

Counterarguments and Rebuttals on Demand

While bulls point to Tesla's new models priced under $40,000 as a potential boost to US volumes, Goldstein argues that these vehicles, while more affordable, are still at the higher end of the price spectrum compared to comparable gasoline-powered SUVs like the Honda CRV or Toyota Rav 4, which start around $30,000. He also highlighted that these lower-priced Tesla models are "stripped down versions" with fewer features and longer charge times, making them less appealing than the Model Y with the subsidy. Therefore, he maintains that sales are likely to fall despite the introduction of these models.

Tesla's AI Vision and Valuation

The AI vision of Elon Musk and the potential of autonomous driving and robotics are significant drivers for many Tesla investors. Dan Ives of Wedbush has a highly bullish outlook, believing the "AI era" is the most important chapter in Tesla's growth story, with autonomous driving alone potentially worth $1 trillion in valuation.

Morningstar's Perspective on AI Valuation

Goldstein acknowledges the long-term importance of Tesla's AI story, with Morningstar's fair value estimate of over $250 per share attributing more than half of it to full self-driving subscriptions, robo taxis, and Dojo. He agrees that Musk will likely pivot the company towards software and robotics in the future.

However, Morningstar assigns a lower valuation to Tesla's robo taxi business in their base case. This is because Tesla is not entering the robo taxi market with a first-mover advantage, as Waymo is already established. Furthermore, Goldstein cited regulatory uncertainty surrounding autonomous driving and robo taxis in Europe and potential data export issues in China that could limit the availability of Tesla's latest FSD software. Consequently, he believes Tesla will not have the same first-mover advantage as it did in the EV market.

While Morningstar expects Tesla to grow and maintain a significant share of the US ride-hailing market, they believe this will not materialize immediately, with testing still in its early stages. Goldstein suggests that the recent market rally might be pricing in too much optimism and assuming Tesla will gain market share and achieve success in robo taxis next year, leading to a smaller perceived valuation opportunity.

Key Metrics for Robo Taxi Success

From a financial analyst's perspective, Goldstein is looking for specific data points to gauge the success of the robo taxi business. The most crucial metrics are not financial at this stage but rather:

Software Functionality: Whether the software works effectively.
Safety and Reliability: Its ability to operate safely and as intended, specifically without a safety driver and geofencing.
Scalability and Regulatory Navigation: Tesla's capacity to quickly expand and navigate regulatory permitting issues for widespread rollout.

If the software proves successful, Goldstein expects Tesla to monetize it similarly to Waymo, offering cheaper rides than Uber or Lyft to attract new users. He anticipates that positive user experiences, demonstrating safety comparable to human drivers, will lead to rapid adoption in new cities. However, the primary question remains when the software will be ready for widespread deployment, with current testing still considered early. He wants to see Tesla's plan for removing safety drivers where regulations permit to gain confidence in a full launch within the next year.

Shareholder Vote on Musk's Pay Package

Regarding the upcoming shareholder meeting on November 6th, Goldstein expects shareholders to approve Elon Musk's potential $1 trillion pay package. He points to the strong majority approval of the 2018 pay package last year as an indicator. This new package is an extension that incentivizes Musk to grow Tesla's market cap to a maximum of $8.5 trillion, achieve successful robo taxi and Optimus robot rollouts, and increase FSD software adoption. Goldstein believes shareholders will support this as it aligns their interests with Musk's, as significant stock appreciation would benefit them as well.