3 Big Surprises in Tesla's Third Quarter Results – The Fool Motley

You're here (NASDAQ: TSLA) Investors surprised investors last Wednesday by announcing a massive profit of $ 312 million in the third quarter. This is the third time in its history that the company has reported a quarterly profit under GAAP accounting rules and easily sets a new earnings record for Tesla.

That said, the mere fact that the electric vehicle pioneer was profitable was not particularly shocking. While analysts on average expected a small loss, Tesla had already forecast that it would be profitable for the quarter. Yet the results report contained many surprises. Here are three big ones.

Gross margin for model 3 exceeds expectations

Three months ago, Tesla said the gross margin of Model 3 was "slightly positive" in the second quarter. At the time, it was expected that the gross margin of Model 3 would increase by about 15% in the third quarter and about 20% in the fourth quarter, in the perspective of a goal to long term 25%.

Tesla began offering more expensive versions of the All Wheel Drive 3 model in the last quarter. It has also increased the rate of production. These two factors clearly favored a sharp improvement in the gross margin. Still, with the combination of 3 models that will evolve over time toward cheaper versions, it was difficult to see the 15% gross margin expected by Tesla for Model 3 in the third quarter by 15% until the end of the year. 39; long-term goal of a gross margin of 25% – even allowing to further reduce manufacturing costs.

Tesla has, however, at least partially responded to this concern by reporting a Model 3 gross margin in excess of 20% for the third quarter. This quickly enabled the company to achieve its long-term margin target for its most recent vehicle. The outperformance of margins was particularly marked, as it represented a clear break from Tesla's history, which had never kept its expectations.

Tesla will still have to realize substantial cost reductions to offset the introduction of cheaper options of Model 3, but the 25% long-term gross margin target looks much more plausible than it is. he was there a week ago.

Operating expenses down

The unexpected gross margin result for Model 3 was the most important factor in the progress of Tesla's results. However, strict control of operating expenses also played an important role.

In the second quarter, while research and development (R & D) expenditures increased by less than 5% from one year to the next, Tesla 's sales, general and administrative expenses increased by 40% and 9% sequentially. Given that Tesla's vehicle shipments doubled in the third quarter compared to the second quarter, it would have been natural to expect a further substantial increase in selling, general and administrative expenses last quarter. .

Instead, selling, general and administrative expenses decreased 3% sequentially to $ 730 million. On an annual basis, selling, general and administrative expenses increased by only 12%. Tesla also announced a sequential decline of 9% and an annual increase of just 6% in the R & D line. Tesla attributed the good cost performance to recent cost-cutting measures and the fact that most development work of model 3 were already finished.

Tesla's model 3 gross margin rate may have been the main factor in the company's ability to achieve profitability in the last quarter, but spending discipline was the difference between making a profit and reporting exceptional results.

An incredible free cash flow

Finally, Tesla's cash was even more impressive than its profits. Operating cash flow reached $ 1.4 billion in the third quarter, after being negative in the first two quarters of the year. Previously, Tesla had never generated more than $ 500 million in cash flow from operations in one quarter.

Tesla Cash from Operations (quarterly), provided by YCharts.

Free cash flow reached $ 881 million in the last quarter, which was significantly higher than Tesla's net earnings. Part of the difference comes from the $ 205 million of stock-based compensation that Tesla distributed, while the working capital improvements also made a modest contribution.

However, Tesla's significant free cash flow primarily reflects strong operational performance. This suggests that there was more to gain than simple accounting tricks. It also means that the goal of Tesla to remain profitable in the fourth quarter – and hopefully in 2019 too – could be at hand.