American consumers looking to buy electric vehicles may smile. tesla (TSLA) – Get a free report and Chief Executive Elon Musk have just made a decision that will put them back in the driver’s seat:
The world leader in electric vehicles has just slashed prices on its two flagship models: the entry-level Model 3 sedan and the Model Y SUV, which make up 95% of its 2022 deliveries.
The fall in prices ranges from 6% to 20%. That makes both models eligible for the new $7,500 US federal tax credit.
Retail prices now start at $43,990 for the rear-drive Model 3 and $53,990 for the Model 3 Performance, according to the company website.
All popular Tesla models qualify for the tax credit
All Model Y configurations will now be eligible for the tax credit, which was not the case before the price cut.
Last month, the Treasury Department and the Internal Revenue Service released guidelines that did not recognize two variants of the Model Y as SUVs and therefore excluded them from the tax credit.
This meant that the 5-seat Model Y had to cost less than $55,000 to qualify for the tax credit. Musk had criticized the agencies’ decision.
As of January 12, the price of the Model Y Long Range was $65,990. But a few hours later, all Long Range Model Y trims saw their price dropped to $52,990. As a result, all Model Y variants are now eligible for the $7,500 federal tax credit.
To qualify for the federal tax credit, cars, sedans, and trucks must have a retail price of no more than $55,000. SUVs, on the other hand, with a retail price of up to $80,000 are eligible for the credit.
“Customers who receive a qualified new Tesla and meet all federal requirements are eligible for a tax credit of up to $7,500,” Tesla said on its website. “This credit amount is applied to deliveries now and may change during March 2023, at which time the value of the credit may be reduced.”
Here is the potential problem.
The new US electric vehicle law, which aims to facilitate the mass adoption of green vehicles, went into effect on January 1. But the Treasury is still trying to finalize a key criteria: how many battery cells should be produced in the US?
Depending on the amount of EV battery made in the United States, the tax credit given to EVs could be cut in half. The IRS has set a March deadline to issue guidelines related to the origin of the battery elements.
Pressure on GM, Ford and Volkswagen
“There will be a significant impact to TSLA’s near-term gross margin, and the math depends on how long these new price levels last,” Chris McNally, an analyst at Evercore ISI, warned clients in a note.
However, by lowering its prices, Tesla solves a problem pointed out by Toni Sacconaghi, an analyst at Bernstein, in a January 2 note.
“We think Tesla will need to lower its growth targets (and operate its factories below capacity) or maintain and potentially increase recent price cuts globally, putting pressure on margins,” he said. “We see demand issues persist until Tesla can make a lower-priced offer in volume, which may be as early as 2025.”
Tesla’s sharp price cut reflects a question the company and other automakers are trying to answer.
Should Tesla continue to run factories at full capacity and increase capacity at its newer factories, like Austin and Berlin? Or it should cut production to match demand, which has fallen in recent months despite aggressive late-2022 discounts.
The first option means sacrificing short-term profit margins while inventories build up. The second prevents an inventory buildup as consumers wait for more clarity on tax credits before buying new vehicles.
Tesla, which missed its 2022 delivery target, chose the first option.
During a Twitter space in December, Musk explained the logic behind the new pricing strategy: allow margins to compress during a recession so volume can still grow. Tesla can make up the shortfall by selling software and services like Full Self-Driving, its advanced driver assistance system.
Tesla’s decision could force competitors like General Motors (GM) – Get a free report and ford (F) – Get a free report join Tesla in their price-cutting move in the US if they don’t want to widen the sales gap between them and Tesla. Both legacy automakers have had variants of their electric models excluded from the federal tax credit.
Tesla has also put pressure on Volkswagen (VWAGY) – Get a free reportbmw (BMWYY) and Mercedes-Benz (DMLRY) in Europe, as the automaker has also reduced the prices of its vehicles there.
Either all of these rivals stick around, which is a very good thing for consumers, or they don’t budge, which could bolster Tesla’s position as the number one destination for consumers interested in electric vehicles.
