For Tesla, setbacks in overturning the status quo

November 5, 2014, 4:47 PM UTC
Elon Musk, chief executive of Tesla Motors.
Elon Musk, chief executive of Tesla Motors.
Noah Berger/Bloomberg—Getty Images

Elon Musk sure knows how to craft a cliffhanger.

The Tesla Motors chief executive kicked off October with a tweet filled with innuendo and intrigue—”About time to unveil the D and something else,” he wrote—that set off a frenzy of speculation and climaxed nine days later with the electric automaker’s splashy reveal of a dual-motor, autopilot-enabled Model S, its four-door sedan.

Owner forums buzzed. Social media sang. The blogosphere chirped. Tesla’s souped-up Model S was the car of the moment—and Musk confirmed, once again, that he had no intention of running Tesla like any old automaker.

Since that day, it’s been a rough patch of road for the company (TSLA) as its unorthodox practices collided with the auto industry’s status quo. A week after Musk’s announcement, Tesla was unexpectedly hit with legislation that threatened its ability to sell cars directly to consumers in Michigan, a state with 56 auto suppliers that produce nearly $200 million a year in components for Tesla, according to executives with the company.

On Oct. 21, Michigan governor Rick Snyder signed a bill that effectively bans Tesla from selling directly to consumers in the state. On the same day, Daimler AG, an investor and partner, sold its 4 percent stake in the company, a move that gave the German automaker $780 million in cash. A few days later, Toyota, which used Tesla electric powertrains in its Rav4 EV, also sold some of its stake in Tesla.

Tesla ended the month much like it began, with Musk taking to Twitter. The sentiment was markedly different the second time around. This time, Musk vented his frustration over a report in the Wall Street Journal that claimed the company cut its monthly lease price to help sales of the Model S in the United States. The report referenced the industry publication, which wrote that Tesla’s U.S. sales through September were down 26 percent compared with the same period in 2013.

“A lot of this is noise,” says Carter Driscoll, senior analyst at boutique investment bank MLV & Co. “And I don’t know why Wall Street or anyone who follows this company would be surprised. The company said at the end of the second quarter they were going to slow down sales in the U.S. to satisfy international demand.”

Driscoll expects sales will likely be “flattish to potentially modestly down,” but added it will be temporary.

Signal or noise, investors will certainly tune into Tesla’s third quarter earnings call, which takes place on Wednesday at 5:30 p.m. Eastern (2:30 p.m. Pacific). Driscoll says he’ll be focused on the company’s progress towards production of its Model X sport utility vehicle, its construction of its $5 billion battery “Gigafactory” near Reno, Nevada, total units sold globally, and the geographic mix of its sales. Over the long term, Driscoll says he is watching to see which companies become suppliers to the Gigafactory and how Tesla will move beyond electric vehicles into categories such as stationary energy storage.

“Tesla is a technology company first,” Driscoll says. “And while right now they’re also an automotive company, they’re moving beyond that.”

Michigan: All a dream?

At the moment, Tesla is banned from making direct sales in only five U.S. states: Arizona, Maryland, New Jersey, Texas, and now Michigan. If the trend continues, it could become a “hiccup” for the automaker, Driscoll says.

“I think maybe Musk underestimated the strength of the dealerships and the political clout they have,” Driscoll says. “And I think he really underestimates just how disruptive it is to entrenched business in most states.”

All states have laws that prevent manufacturers with existing franchisees from opening up their own dealerships to compete with the same franchisee to which they gave rights. However, dealer associations in a number of U.S. states, including Massachusetts, Missouri, North Carolina, and Washington, have tried—for the most part unsuccessfully—to expand the law to include manufacturers that don’t have franchise dealers. In states that have banned direct sales, Tesla can still operate galleries to educate consumers on the technology. Tesla gallery staff cannot discuss the cost of the car and have to instead, direct customers to the website or a store in a neighboring state for more information.

In Michigan, the state and national automobile dealers associations prevailed despite a last-minute lobbying effort by Tesla and some of its major suppliers.

Michigan’s House Bill 5606 was drafted to prohibit auto manufacturers from dictating fees franchised dealers can charge customers. When it reached the Senate floor, an amendment was added that closed a loophole that would have allowed Tesla to sell directly to consumers. General Motors (GM) issued a statement backing the bill.

When Gov. Snyder signed House Bill 5606 he said it didn’t change existing law, it just clarified and strengthened it. Snyder has insisted state law has always required manufacturers to sell through a franchised dealer. Snyder issued a letter in conjunction with the bill signing saying lawmakers can and should discuss the current business model to determine if it’s best for the state’s consumers.

“We’ve been involved in this fight literally for the past two and half almost three years,” says Jim Chen, Tesla’s vice president of regulatory affairs. Last-minute legislative efforts “seems to be the pattern dealers implement,” he says. Plus, it’s a fight unique to the United States.

Right now, Tesla’s principle aim is to break into Michigan and have the open debate in the state legislature that Snyder alluded to, Tesla executives say.

“We think it’s the way to resolve this problem and we’re optimistic that we can do that, but obviously, if we’re not able to be successful than we’re certainly looking at litigation or other legal means to achieve the same end,” says Todd Maron, general counsel for Tesla. “It’s our preference to take the governor’s word and have that open debate that we’ve welcomed.”

That’s not to say Tesla isn’t afraid of a lawsuit or two. The company filed a lawsuit earlier this year after the New Jersey Motor Vehicle Commission issued its decision that banned Tesla from direct sales in the states. As the lawsuit proceeds, Tesla is working with the legislature to change the law.

Yogen Rahangdale, CEO and owner of Whitehall Industries, a Michigan-based aluminum parts manufacturer, is one Tesla supplier who sent a letter that urged the governor not to sign the bill.

Rahangdale, whose business generates $120 million in annual revenue from Tesla, expects that changing legislation will be uphill battle. Still, he believes its time for laws to adjust to modern ways of doing business.

“As technology changes, the way of doing business changes,” Rahangdale says. “You can’t use the practices that were prevalent 30 or 40 years ago.”