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Business

In China, Tesla was a too-early bird

Tesla Motors, the California-based maker of cutting-edge electric cars, announced disappointing sales for its most recent quarter. The company cited multiple reasons for the sluggish performance, including weather, delivery problems and capacity issues. Its dismal sales numbers in China stood out.

     Tesla and China may seem like a logical match. China is a massive and growing auto market with a terrible pollution problem, and its cities have lots of wealthy car buyers who covet foreign luxury brands. Elon Musk, Tesla's CEO, created a huge amount of buzz for the company during a trip to China in spring 2014, sparking the interest of Chinese buyers and U.S. investors alike. The company hoped to sell 5,000 cars in China that year.

     But Tesla's big plans have run into myriad problems relating to management, manufacturing, positioning and strategy. It missed its 2014 sales target, and its first-quarter sales in 2015 do not look any better. According to interviews with dealerships by JL Warren Capital, Tesla imported just 63 of its cars to China in February and 10 in January, down from the hundreds that it brought in monthly in the fourth quarter of 2014.

Pinpointing the problems

There are several explanations for the company's weak performance in China. The first two people Tesla picked to lead its efforts there -- Kingston Chang and then Veronica Wu -- came from high-powered positions in the traditional corporate world, but neither of them had any startup experience. It is important to keep in mind that Tesla is still in the startup phase, having not established a profitable business model. 

     Tesla's positioning in China is different from its strategy in the U.S. Its main target in China has always been the uber-rich. In the U.S., the addressable market for high-end electric vehicles includes the middle class, and is therefore much bigger. China's "green" movement is still nascent compared with that in the U.S., and most Chinese customers view a Tesla car as a status symbol rather than a commitment to preserving the environment.

     Deliveries to Chinese customers also involve long cross-Pacific transit times and China's cumbersome customs clearing process.

     Tesla's slow progress in China could reflect its management's long decision-making cycle, too. The company had trouble deciding on showroom sites in major Chinese cities, causing lengthy delays in providing the "customer experience" that is so crucial to sales. When it was clear that its sales model in the U.S. -- the showroom experience coupled with online ordering -- would not work well in China, managers in China suggested experimenting with selling through Taobao, the country's most popular e-commerce platform. But the U.S. headquarters ultimately rejected the plan, arguing that it was not consistent with Tesla's brand image. The Taobao idea may not have been a good one, but the company has yet to successfully adapt its sales and marketing strategy to local preferences.

     Another significant and costly problem is that Tesla has not figured out how to build a network of charging facilities quickly and efficiently. Installing charging stations at customers' homes is even more complex and problematic in China than in the U.S., because most of China's car owners live in high-rise buildings and do not own private garages. Such added complexity means several things, none of which are desirable: a slow acceptance rate among Chinese consumers, longer waiting times for those who buy, and higher expenditures for Tesla. Given these longer lead times and the difficulty of setting up charging facilities, some Chinese buyers have even canceled their orders. Eventually, these issues also translate into thinner margins, since Tesla does not charge higher prices in China than in the U.S, net of taxes and shipping rates.

     These are all major issues for a startup to deal with, and Tesla has yet to solve its most fundamental problem: how to build up its manufacturing capacity.

Lonely road

Unlike Apple, which can readily outsource its production overseas, Tesla has no one to lean on but itself. The automaker's efforts to work with more established carmakers were mostly rebuffed, except for its troubled manufacturing partnerships with Toyota Motor and Lotus in the U.K., which have both lapsed.  

     Tesla's cars take months to manufacture, which means its capital and inventory costs are high. It is building a $4 billion to $5 billion U.S. factory with Panasonic just to make car batteries. It is now struggling to ramp up its overall capacity to clear its long backlog of orders from customers. 

     Like most startups, its products are moving targets -- design and engineering are constantly evolving. This makes volume production even more difficult. For example, the falcon wings on Tesla's new Model X continue to have problems even after years of development.

     At least the company is not struggling to meet orders in China. Unconfirmed reports in the Chinese media said Tesla has more than 2,000 unsold cars languishing in the country. If it had a shorter lead time, or if demand were more predictable, the company would not have had to build up more than $100 million worth of inventory -- assuming the reports are true. 

     This does not mean Tesla is totally without hope in China. It is still a strong global brand with, for now, a technological advantage. China is too large of a market to ignore, and the government is pushing for electric cars -- though Tesla does not enjoy as many subsidies as Chinese manufacturers do.  

     Still, Tesla should not count on China for profits anytime soon. It should never have entered China this early, but now that it is in, it is better to prepare for the long run instead of chasing short-term profitability. First, it needs to solve its in-house problems in product design, sales strategy and production. If it does all of that, one day it may enjoy the benefits.

Z. Justin Ren is a professor of management at Boston University School of Management. Xin Wang is an assistant professor of marketing at Brandeis University International Business School. Ana Swanson is a Washington, D.C.-based writer and analyst for JL Warren Capital, a China-focused research company. 

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