Tesla's Cash Conversion Cycle

Not too long ago I posted about the importance of the Buyer at a client’s supermarket chain in Venezuela. His secret sauce, “I have to sell the merchandise three times before I pay for it.” What that means is that if he has 30 days to pay his bills then the merchandise has to be sold in 10 days or less. This is the secret behind making 30% on invested capital while selling thin margin products. Your suppliers supply your working capital!

Americans have a knack of coming up with choice titles, “Cash Conversion Cycle!” That’s what the supermarket buyer was optimizing. I had never heard the term before so the linked video (at 2:29) will explain it.

After watching the video ponder the following, if good Cash Conversion can create 30% on invested capital for a business selling thin margin products, what can it do for a business with a 30% gross margin?

Tesla’s secret sauce, Agile Manufacturing, pumping out product three times as fast as VW.

Tesla’s Cash Conversion Cycle Is Now Negative: What This Means

The Captain

BTW, Dillon Loomis’ Electrified is one of the Tesla uTube channels worth following, most just regurgitate news and rah-rah BS.

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Just looking at Tessy’s profits for the first time in months. The profits are exploding TTM.

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Tesla’s growing profits are due expanding production capacity in China, California, Texas, and Germany. PE ratios using sum of last four quarters for earnings are way too high.

The big issues. 1. Can he continue to sell all the cars he can make. 2. Will supply chain shortages limit production. 3. Will competition eat into sales volumes.

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GM also has similar profits with their market cap being $47 billion.

Tesla’s market cap is not sustainable. This is the auto industry not server farms where Amazon claims to be a retailer and makes money off of other people’s data mostly.

The batteries Tesla is using are the key ingredient.

Does Tesla own the battery plants? How does the ownership work?

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Tesla has a mega battery plant in Nevada in a jv using lithium from China. Musk recently announced plans to build a lithium refinery in Texas. But that could be a negotiating ploy to get better prices for his lithium requirement. He has complained about rising lithium costs.

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He is smart to complain.

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It can be argued that the market cap of traditional auto companies is below what it should be.

Tesla is running its factories flat out and can sell every car they produce. Their plants are new and modern. They and other EV companies plan to produce millions of Evs.

Ford, GM, Stellantis, and the others are facing major new competition. The Evs are taking their market share. Their plants are older and not fully utilized. If Evs hit 50% share, they will convert assembly plants to make Evs, but dozens of plants that make parts for internal combustion engines will be obsolete.

In St Louis, when Chrysler shut down their large plant, the buildings were razed (presumably to save on property taxes). Used car plants are worth less than the value of bare land. A big write off.

The local dealer network is a benefit for auto companies. But their future is in doubt. Parts and maintenance are a major source of income in hard times. Evs require less maintenance. Already Ford has announced keeping its Evs separate. GM has terminated Cadillac dealers who refused to invest in EV facilities. Tesla uses a non-dealer distribution system. The traditional auto industry seems to be adopting the Tesla system for EVs. Auto dealerships are being phased out. Their days could be numbered.

In short, I think the market cap of the traditional auto industry is not an appropriate comparison for Tesla during its growth phase. Maybe one day but not now. Most see growth through 2030 if Evs succeed.

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You do have to be careful how far down that path you travel.

Legacy ICE cars are sold with the understanding that repairs and maintenance will be available at the dealer and usually elsewhere. That understanding affects the price people are willing to pay for the car. The car is more valuable if it’s life can be extended by performing routine maintenance and by repairing minor (and even some major) failures.

EV’s require less maintenance compared to an ICE. But repairs are still important. Potholes will still be hit requiring new suspension parts. Fender benders will still happen requiring new body panels, bumpers, and lights. Motors and electronics will occasionally fail because no production process is ever perfect, in spite of best efforts. Tires and brakes and wiper blades will wear out requiring replacement.

If these repair and maintenance parts are not readily available, and if information about how to repair and maintain the car isn’t readily available to professional mechanics, the car becomes less valuable from the outset. It’s less valuable because when a failure happens the car becomes unrepairable and has to be thrown away and replaced.

If repairing and maintaining EVs becomes unprofitable for a car dealer, where will that service happen? Who will do that work? And if it does not happen at all - or is not available in a timely manner - consumers will not want to pay as much for the car. Auto insurers will also start jacking up insurance rates if collision repairs can’t be done affordably and timely, as they will have to start totaling out cars that can’t be repaired.

I don’t know where this is headed, but it will certainly be interesting to watch it play out in real time.

–Peter

Don’t forget the UAW skim.

The Captain

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Bob Lutz wrote about that in his excellent book “Car Guys vs. Bean Counters”. The #tldr was that the German automakers had even more expensive labor than The Big Three did and that didn’t seem to hurt them any.

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In principle labor unions are a good thing but not when they are operated like Mafia organizations. I was astounded at how the German labor is organized, very different from America but it seems to work with much less confrontation. Every country is different, I wouldn’t invest in French companies because of the horror stories I have read about their unions, possibly even more contentious than American ones.

Lutz might be right about German automakers but Tesla is not German.

The Captain

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German management is also different than American. Not just the labor side. Lutz also said that when Mercedes took over Chrysler (to keep them from going under, again). The top brass at MB could not fathom how the top brass at Chrysler could think they deserved the compensation they got. Especially given how poor they were at it. My dad also worked for a German company (twice) and told me the people running that company were very different than the typical American counter part.

My experience working for Arm when Simon still ran it echo those sentiments. Unfortunately now Arm is run by Rene, and American, and the culture changed.

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Do you find it strange the capitalism ‘red in tooth and claw’ has created the mightiest economy?

The Captain

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Today’s capitalism is not what it was in the 50-70s. Today’s capitalism is creating enormous inequity and destroying the middle class.

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Peter, I agree with the general theme of your post. I also think that at some point Tesla may need to allow some kind of Tesla certified independent service centers in order to get wider coverage. For example someone might want to have a EV service center that handles multiple brands in more sparse regions.

In my experience, most dealers don’t do this kind of body work. Specialty shops do this and some are already Tesla certified.

Tesla does much of this work by sending a service person to your home or work place.

Sure, you can pay through the nose to get these at your dealer or you can go to any auto repair/parts or tire store or Costco to get a better deal. Anyone concerned about saving money knows this already. You can even buy tires on Amazon and they will ship them next day to the tire store of your choice where they get installed.

Maybe a reason why Tesla has been offering insurance (in a few states so far).

Mike

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Yes, but it’s the parts availability that is the issue here. Legacy auto makers are pretty good at providing replacement parts. Dealers in particular can get just about any part for any of their models sold in the last decade or so. And they can usually get those parts very quickly. Plenty are available on the shelf, and many more are available next day. I don’t know the current status of things with Tesla today, but in the not too distant past, Tesla had to actually produce many replacement parts before they could be used for repairs. They simply didn’t have a functioning parts channel. I’m sure that’s improved, but without dealers or reasonably local warehouses stocking parts on the shelf, delivery times can get long compared to the legacy channels.

I’m sure you’re aware that is incredibly inefficient for Tesla, even if customers like it. A mobile repair person doesn’t have all the tools that would be available in a shop, so his work will often be slower. And he can only carry so many parts with him. That means there’s a level of return trips with the right part. And then there’s the time lost with the mechanic driving around and not working on cars. Dealers and independent repair shops just make a lot more sense.

If they are charging less than regular insurers, they are either mis-pricing the risk or they are willing to accept a lower (or no) profit on the insurance operations. Neither option is good for shareholders. More importantly, it’s a distraction to management, who need to be focusing on the core operations of the business while in their high growth mode.

–Peter

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Correct. Most dealers no longer do body work and paint like they used to.

My concern with Tesla and parts centers mostly around the availability of spare parts. Sure my fender will be repaired by an independent body shop, but what if they need a panel? Or a wiring harness? Or an evaporator or condenser coils? (when I hit a deer I had numerous parts like that which needed to be replaced on my Honda, with zero drama). Tesla is not known for having readily available spare parts. They are still not a mature auto company.

I’d rather have a Mach-E, or a Hyundai or VW EV, than a Tesla at the moment.

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It will be interest to see how this works in a sparsely populated state like Montana.

The Germans have an institution called work councils which have certain powers mandated by law. Sort of like an HR department that the company doesn’t control. The work councils can’t authorize strikes, but they can negotiate wages. And by law they get a seat on the corporate board.

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To Paul’s point, Tesla is notoriously and outrageously slow at providing body parts to fix damaged cars - bumpers, quarter panels, hoods, trunks, whatever. 3 months is still common if not expected, and that’s an improvement. Their production is highly prioritized to new car production. One of the risks I took when I bought my M3 in 19, and another benefit of 100% WFH since March '20.

Limited dealerships - excuse me, Service Centers - & limited OEM parts with efficient mobile service = limited expenses and higher profits. As long as people are willing to put up with months-long loss of use if there’s a fender bender, they’ll keep doing it that way.

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