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Trading  | July 2, 2017

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Under Elon Musk’s leadership Tesla’s Model X arrived two years late and subjected the company to six months of self described production hell, only to tie for last place in Consumer Reports’ luxury SUV ratings with a score of 59/100 (Nov 2016). Delays for the falcon winged albatross will allow the Chevy Bolt and second-generation Nissan Leaf to both beat the Model 3 to widespread availability by the end of the year. Tesla’s quality has been poor, the UAW is circling, and Mr. Musk recently tweeted about mixing alcohol and Ambien (zolpidem) — a drug combination not only dangerous in its own right, but that increases the risk of long-term zolpidem addiction. How is this man still Tesla’s CEO?

Yesterday’s Credit, Meet Today’s Criticism

Tesla would not be where it is today without Mr. Musk, who, after agreeing to lead the Series A venture funding round in April 2004, began shaping the company around his singular vision, turning it into one of the world’s most valuable automakers.

What’s more, Tesla’s stock would be nowhere near today’s levels if Mr. Musk had stepped aside as CEO in favor of an industry executive during the development of the Roadster, Model S, or Model X.

But Tesla’s finances and operations would be in better shape, and it would not have needed all of the five capital raises it has sought in the past five years; cash without which the company would have gone bankrupt. And while the company has had ample access to financing, that may not be the case forever; what the market giveth, the market also taketh away.

None the less Tesla the stock has waxed, even as Tesla the company has waned, giving us a business case study worthy of The Picture of Dorian Gray, with shareholders blessing Mr. Musk with all time high share prices, even as he has cursed Tesla with troublesome burdens. Here are three of the heaviest.



Toyota Taunting Trouble

Tesla’s biggest missed opportunity came from wasting the chance to learn from Toyota how to efficiently manufacture and design vehicles during their ill fated partnership. Given how much Tesla stood to gain, it was inexcusable for Mr. Musk to have called fuel cells so bullshit when a respectful disagreement would have been sufficient.

For all his recent bluster about “the machine that makes the machine” (Tesla’s only-robots vision was first disclosed on 31 May 2016, about ten days after the UAW publicly expressed interest in organizing the Fremont facility) Mr. Musk appears unaware that Toyota invented that machine seventy years ago. One of the canonical books on the Toyota Production System (TPS) is even titled The Machine That Changed The World.

For more than thirty years Toyota has shown its inner workings to other companies, even auto industry competitors, confident that its competitive advantage lies not in specific work practices but in the continuous improvement-focused culture it has developed.

As a result, every major automaker has long since adopted TPS (under the name of lean production) in full or in part, with Tesla being the lone exception, as is clear from interviews with workers describing a corporate culture where hitting the production numbers is paramount in importance, even if defects sail through, impairing early adopters’ user experience with vehicle flaws and mounting service center wait times.

This bears repeating. Faced with the choice of impressing customers but disappointing Wall Street or impressing Wall Street and disappointing its customers, Tesla has consistently prioritized Wall Street, as evidenced by the production rush at the end of each quarter for the past few years.

As its long time, hands on, nano manager CEO, Mr. Musk is responsible for Tesla’s culture of putting its (end of quarter) customers second; he must also ultimately bear the responsibility for Tesla spurning the chance to learn the craft of quality from the industry’s master, condemning it to tens (and perhaps hundreds) of millions of dollars of otherwise avoidable warranty expenses. This would have saved Mr. Musk and Tesla both the distraction of going on an annual Tour de Finance to refill the company treasury. In this regard, any other choice of CEO would have done better, and Mr. Musk has been sorely below average.



The X Factor

While Tesla’s Toyota troubles are ancient history, the Model X has been a more current catastrophe. Let us suppose for a moment that for the Model X, Mr. Musk had stepped back from Tesla in favor of an auto-industry executive; what might have happened?

Timelines and testing are both very important in the auto industry, so the Model X would have largely been on-time, arriving perhaps in 2014; to reduce quality risks, it might have shared 70% of its parts with the Model S, instead of having 70% new parts; the falcon wing doors would certainly have been cancelled (saving time and money) and a more pragmatic design would have helped it outsell its sedan cousin (as most crossovers do), generating billions of dollars of revenue and hundreds of millions of gross profits to fund Model 3 development. Finally and most importantly, the 3 would have soundly beaten the Chevrolet Bolt to market.

The scenario above has a major flaw of course in that it did not happen, and a Mr. Musk fan might propose that the auto executive would have steered the Model X into even worse delays and still lower ratings than actually occurred. So let us reverse the exercise.

This time, let us suppose that Mr. Musk had stepped back in favor of a new product architect (Mr. Hugh) and a new CEO (Mr. Briss) and that the Model X development proceeded as it did in real life.

Would Mr. Musk have defended the product architect if Mr. Hugh’s insistence on vanity doors and seats had delayed more than billions of dollars of revenue, or would Mr. Hugh have been fired?

Would Mr. Musk have stood up for a CEO under whose watch these cost overruns, delays and then production hell occurred, or would the Board of Directors have shown Mr. Briss the door long before the first very-belated Model X rolled off the production line?

Given how the Model X turned out, if Mr. Musk were any other person on the planet, would he still be employed by the company? There have been recent calls to reform Tesla’s governance – given the above, would Mr. Musk have survived the cross examination of an independent Board? If so, how badly would he have to underperform to be relieved of his duties? If the Model 3 ramps up late, receives tepid reviews and only one-half of the 500,000 reservations convert to sales, would that still be acceptable? The heartworm of the problem is that until now, Mr. Musk has gotten what he wanted, but what Mr. Musk wants may not be what Tesla needs.

As we all know Mr. Musk has kept both his jobs, which is still more remarkable, considering that the Model S and Roadster were also late. Not only that, Mr. Musk received full credit for his Model X milestone stock awards, which were based on the delivery of an alpha vehicle, beta vehicle and the beginning of production (see page 29 at this link). Neither timeline nor manufacturing quality nor Consumer Reports ratings nor workplace safety were factors in these incentives, so is it any wonder Mr. Musk’s focus was elsewhere? An impartial Martian might conclude the Model X was a company endangering catastrophe for Tesla, but based on his stock awards, Mr. Musk performed flawlessly.

It is true that market capitalization milestones also need to be reached for Musk to receive his stock grants, and this has created perverse incentives; why else would Tesla sacrifice product quality (and new customers’ experience) at the end of each quarter, just to keep Wall Street happy by beating production projections?

Focusing overly on the stock price would also explain Tesla’s preference for splashy announcements and undertakings – generally quietly withdrawn or scaled back at a later date – when more mundane investments would do far more to strengthen the company. Hyping “the machine that makes the machine” probably increased Tesla’s market capitalization far, far more than reading The Machine That Changed The World, but learning from The Machine That Changed The World would improve Tesla’s operations far, far more than talking up “the machine that makes the machine”.

The skeptical view of the Model X is that the drawn out fiasco has cost Tesla its early lead in electric vehicles. Indefensible design choices causing high rework rates during production hell almost certainly meant lots of overtime, leading to fatigue, leading to higher injury rates, leading to conversations between Fremont workers and the UAW. There is a straight line between Mr. Musk’s terrible Model X design choices and the unionization efforts at the Fremont facility, and what is more, being both product architect and CEO, he is doubly culpable for the labor unrest. Can Tesla afford to give him another chance? Should it?

Residential solar is so bullshit

Mr. Musk’s comment about fuel cells being so bullshit came when he explained that fuel cells are about one-third as efficient as batteries at turning zero emission electricity into forward motion, which is true. Every dollar spent on renewable electricity gets you three times as far on a battery electric vehicle. So why waste time on fuel cells? They’re bullshit.

As it is, solar power comes in two main flavors: residential and utility scale. Mr. Musk was the chair of SolarCity, the world’s leading residential solar installer, which achieved segment-leading costs slightly under $3/watt at a time when utility scale solar projects were coming in a bit above $1/watt. Every dollar spent on utility scale solar projects got you almost three times as much renewable electricity. So why waste time on residential solar? It must be bullshit, right?

Whether or not Musk cared about the hypocrisy of dismissing fuel cells while chairing a residential solar company, he regularly dominates the news cycle, keeping Tesla in the public eye, and supporting interest in the stock; President Donald Trump is not the only outrageously outspoken, Twitter happy, model marrying Wharton Business School graduate to generate millions in unpaid publicity for his endeavours. I would like to credit the Twitter user @eriz35 for pointing out those similarities and others.

On its own, Mr. Musk’s recent championing of Tesla’s upscale residential solar roof would not be worrisome, because everyone deserves hobbies. Unfortunately it is not on its own, as Mr. Musk’s non automotive time commitments now include Tesla’s solar and energy storage businesses, The Boring Company, OpenAI, Neuralink, involvement in the Hyperloop community, a full-time CEO role at SpaceX, his role as Tesla’s product architect, alcohol and Ambien™  enhanced tweeting, and a growing repertoire of celebrity appearances.

However hard driving a workaholic Mr. Musk may claim to be, he is definitely spending less time as an auto company CEO than his competition is doing, and it takes an egregious amount of hubris to believe one can run an car company as a part time CEO against focused global titans with full time CEO’s who are willing and able to wage wars of attrition. One must hope that Tesla can weather the storm when it comes, because to this point its finances have not been planned with prudence in mind.



Mr. Musk Must Set Tesla Free

Without Mr. Musk, Tesla would not be where it is today; Eberhard and Tarpenning might have floundered for years without funding, and only Nissan would have released an electric vehicle outside California. (One suspects that Jeff Bezos would have eventually stepped in, much as he did with space exploration firm Blue Origin and nuclear startup General Fusion.) Mr. Musk benefited Tesla tremendously in its early years.

His recent record, however, has been unimpressive, unsatisfactory, and in the case of the Model X, unacceptable. His obsessive pursuit of a falcon winged white whale has shipwrecked Tesla’s electric car leadership – a lucky fluke for GM and Nissan, who will take aggressive advantage. Even BMW has taken advantage of the delay to announce the unveiling of an all electric series 3 in September. A mania for moonshots has ramped up Tesla’s financial commitments, five capital raises have not been sufficient to put the company on firm financial footing, and Mr. Musk likely spends fewer hours per week tending Tesla than do his auto CEO peers with their firms.

In short, Elon Musk has gone from Tesla’s greatest asset to its biggest liability, from the one whose zeal pushed it forward, to the one whose self same zeal is now holding it back (in all aspects except for the stock price).

For Tesla to become self funding and sustainable, it needs a pragmatic CEO who under promises and over delivers, and who can reshape the company into an efficient, modern automotive manufacturer. That CEO will need the freedom to make possibly unpopular decisions without interference or mixed messaging from its iconic principal shareholder, and that will not happen unless Mr. Musk is willing to step away and relinquish control; willing to be ignored by his CEO, overruled by an independent Board, and sidelined at new product announcements.

This is the familiar experience of every parent who knows that for their kids to grow, they need to learn to let them go; as dear as it is to his heart, and as eager as he is to help it succeed, if Mr. Musk truly loves Tesla, he must set it free.

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