Elon Musk, the charismatic founder and CEO of Tesla Motors (Nasdaq: TSLA), is many things to people: Brilliant engineer, clever designer and corporate pitch man, all rolled in to one. He'll be the first to say that you can't build a $30 billion company (in market value) from scratch by thinking like a bureaucrat.
Trouble is, government bureaucrats may be ready to ruin Musk's winning streak. A set of policies, put in place a few years ago, could put Musk -- and Tesla -- on the wrong end of a key battle shaping the auto industry.
It's No BS
In an October 2013 speech to auto technicians in Germany, Musk showed his usual flair for the dramatic: "Oh god, a fuel cell is so bullshit." His subsequent rant focused on how fuel cell vehicles (FCVs) received a huge amount of hype, consumed millions in government research dollars, but have been a total dud in the marketplace. As far as he is concerned, battery-powered vehicles hold the key to the future. As a final zinger, he quipped that "Hydrogen is quite a dangerous gas. You know, it's suitable for the upper stage of rockets, but not for cars."
What Musk doesn't want to concede is the fact that fuel cell technology has come a long way in the past half-decade. Honda Motor Co. Ltd (NYSE: HMC), Toyota Motor Corp. (NYSE: TM) and Hyundai are all prepping the market for a 2015 launch of FCVs, and each of those firms believes that scale economies will bend the cost curve to the point that such vehicles will become profitable. What they don't formally say is that the United States, Japanese and other governments will play a key part in that process.
The Credit Shift
Tesla makes what is known as zero emission vehicles and, thanks to a government loophole, the company has garnered four-to-seven credits per vehicle sold. Tesla re-sold those credits to other auto makers, to the tune of $130 million in 100%-margin revenue for Tesla in 2013. Indeed Tesla would have been unprofitable last year without such credits. Trouble is, the government loophole is closing. And one is opening up for FCVs.
To help launch a market for FCVs, California -- which sets the tone for New York and a handful of other states -- is preparing to install a state-wide network of FCV re-filling stations at the government's expense. Toss in a series of tax shifting credits that are even more generous to FCVs than electric vehicles and the FCVs will come out on top.
Car and Driver magazine, in a look at the coming changes in its November 2014 issue, predicts that a Hyundai FCV will generate $13,000 per vehicle in tax credits in 2018, thousands more than what Tesla will be getting. Equally important, the credits that auto makers garner in one state can be transferred to other CARB-compliant (California Air Resources Board) states. Battery-powered electric vehicles will lose that inter-state credit swap option in 2018.
Another twist: a new emphasis on driving range. We're now in the 2015 model year for cars, and by the 2018 model year, credits will be more generously rewarded to any zero emission vehicles that show the greatest range. And that's where FCVs come in. The soon-to-launch FCVs from the Asian automakers are expected to go 350-to-400 miles on a tank of hydrogen, farther than any Tesla vehicle is capable of. Those FCV makers have also noted that they can build larger tanks if needed. Filling hydrogen tanks currently take less than 10 minutes -- a fraction of the time that it takes to recharge a battery-powered electric vehicle.
What about pricing? Well a Hyundai Tucson SUV, with an FCV powerplant, will be offered with a three year $500-a-month lease with a $3,000 down payment. Toyota's 2015 sedan is reported to come to market at around $50,000. Tesla aims to move down market with its next vehicle rollout, but it's unclear what kind of gross margins such vehicles will have. For that matter, the Asian auto makers with their FCVs also have plenty to prove on the profit front. But their stocks aren't pricing in a future profit explosion, as Tesla's stock currently is. (For an extensive look at why Toyota and others are sticking by FCVs, Fast Company gave an extensive insight into the topic).
Risks to Consider: As an upside risk, radical improvements in battery technology could tilt the advantage squarely back to Tesla.
Action to Take --> This isn't an argument to buy shares in the Asian automakers (though Honda's shares hold appeal on other merits). It will be quite some time before FCVs are making a positive contribution to their bottom lines. Instead, it's a wake-up call for Tesla shareholders, many of whom have enjoyed a stellar run with this stock. The regulatory backdrop is set to change and Tesla's crucial technology advantage is also starting to evaporate. If you own shares of Tesla and intend to hold them for a long time to come, then you need to track the FCV developments, which may come to dominate the auto industry headlines in 2015, thanks to a series of product rollouts.
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