Tesla’s inroads to China offer challenges to match the opportunity
Xiaolu Chu

It would be difficult to argue that Teslaâs (NASDAQ:TSLA) bet on China years ago hasnât borne fruit for investors. Only about four years after breaking ground in China, the company announced the production of its millionth car in the country and established a firm foothold in the worldâs largest market for electric vehicles.
However, a growing level of geopolitical tension between the US and China over Taiwan and Chinaâs âno limits partnershipâ with Russia, heavy handed regulatory measures pursued by the Chinese state, tougher competition from domestic competitors, and consistent COVID-related supply chain issues leave the automaker in arguably as precarious a position as it's ever been in the country. 
As such, a report from Reuters that the automaker is âreevaluating the way it sells electric cars in Chinaâ is perhaps unsurprising.
Trade Tensions and Taiwan


Following the election of Joe Biden in 2020, there was a hope among many China-reliant businesses that trade tensions would simmer down from the tumultuous Trump era for Sino-American ties. Indeed, essays from Bidenâs National Security Advisor Jake Sullivan amidst the campaign encouraged continued competition, but also an ability to coexist with China. 


However, the result has been much to the contrary as testy exchanges between diplomats at a 2021 summit in Alaska set the tone for only tenser relations. The desire of Chinaâs diplomats to âtell the China story wellâ clearly included a rebuke of any efforts they saw as constraining Chinaâs ascendance. President Xi Jinping made that clear when declaring that âany foreign forceâ that would attempt to bully China â will find their heads bashed bloody against a great wall of steel forged by over 1.4B Chinese peopleâ in a speech marking the 100th anniversary of the Chinese Communist Party. 


Among the latest flash points, Speaker Nancy Pelosiâs visit to Taiwan, a de-facto independent nation that China considers its territory, only stands to inflame tensions on the topic already stoked by President Bidenâs consistent undermining of US strategic ambiguity. Military drills conducted around the island following the visit have only raised alarms among Taiwanese military officials.


Obviously an invasion of Taiwan would make just about any business operation in China untenable, not to mention its catastrophic impact on tech via the critical hit it would deal to the semiconductor industry. Yet, even apart from that doomsday scenario, the escalation of cross-strait tensions only stands to worsen Sino-American relations and create a politically more difficult situation for a US company drawing the bulk of its profits from China. That could come from US pressure to withdraw, especially if a more openly hawkish administration is installed in coming years, or if China decides to punish one of the more prominent US-based companies operating in the country. Beijing has certainly not been reticent to use its power to punish Western companies it sees as running afoul of its interests.


âAs to the mounting triangular tensions between the U.S., China, and Taiwan, this isn't Tesla's own doing, but they're caught right in the middle of it,â Esquire Digital Chief Legal Analyst Aron Solomon told SeekingAlpha. âMusk's personal hedge against this is that he has not spoken publicly against China or their government officials.â


Indeed, Elon Muskâs typically candid commentary on regulators and politicians has been noticeably absent in regards to China. In fact, Musk even penned a column for Chinaâs state censors in August, a move indicative of Teslaâs eagerness to please regulators rather than rock the boat. Additionally, strong production in China is clearly a benefit for China itself, which could stave off adverse action by the Chinese state.


âThe Chinese government doesnât have a whole lot of incentive to attack Tesla (TSLA),â Wiley Angell, Chief Market Strategist at Ziegler Capital Management, told SeekingAlpha. 


He explained that the major factory that stands to employ a significant amount of Chinese citizens while selling into the Chinese domestic market should appear as a win-win.


âOne of the greatest strengths of Tesla is its diversification into the two largest EV markets in the world,â Angell said.


Nonetheless, Teslaâs (TSLA) status as a US company is undeniable, making it unclear how much goodwill the ultimately foreign automaker can buy in the country.


Increasing Competition




Even aside from its status as a US automaker, competition from the likes of Nio (NIO), Li Auto (LI), Xpeng (XPEV), and BYD Company (OTCPK:BYDDY) add to pressure by pitting Tesla against Chinese firms in a market dictated by ânational championsâ. In fact, BYD recently surpassed Tesla in sales across China. 




For example, BYD delivered 163,042 cars in July, with plug-in hybrids accounting for more than half of its sales. Tesla (TSLA), by comparison, sold 28,217 China-made vehicles in the month. Meanwhile, Li Auto (LI) delivered 10,422 Li ONEs in July, a 21% jump from 2021, XPeng (XPEV) delivered 11,524 Smart EVs, a 43% leap from the prior year, and NIO (NIO) delivered 10,052 vehicles, about a 27% increase from 2021. 




It is worth noting that Tesla notched a record high 78,906 vehicles sold in June, perhaps portending well for the automaker, especially as it emerges from production slowdowns. A clearer picture on ânormalâ delivery rates would provide far more certainty on the path forward for Tesla. In any event, the trajectories of many of its Chinese peers appear extraordinarily positive, begging questions as to just how big the pie to be divided up amongst the automakers can truly be.




Pandemic Production Pauses: A Thing of the Past?






Another open question concerns Chinaâs pursuit of Zero-COVID policies. While Chinese premier Li Kieqang has played âgood copâ to Xi Jinpingâs âbad copâ on draconian lockdowns of late, making maskless visits across the country to promote reopening, the prospect of renewed lockdowns remains a threat. This is especially so as the 20th Party Congress that stands to extend President Xiâs term approaches.






âWhatever the associated social and economic costs, the [Zero-COVID] policy makes sense to Xi in terms of some of his aims for the party congress,â a recent Asia Society report reads. âThe March 17 PBSC meeting readout noted Xiâs admonition that the principle of 'people first, life first' should be paramount in the governmentâs response. This formulation aligns with his effort to be crowned 'the peopleâs leader,' leaving little room for argument.â






The report adds that there is little evidence of any disagreement within the leadership, despite Liâs public tours to reassure businesses. The alternative of Chinaâs hospitals being overrun with patients shortly before the Congress would be the truly unacceptable outcome, the report supposes. Overall, abandonment of the hardline lockdown policy ahead of late October appears overly optimistic.






As such, Teslaâs (TSLA) production problems might not be fully in the rear view mirror. Considering the importance of China to Teslaâs full-year targets, the potential for another shutdown would be a major problem. That is not to mention recent shutdowns, supply chain problems, and even blackouts driven by a heatwave across the country.
âThe elephant in the room for the stock will be the Everest-like uphill climb for deliveries in 2H needed to hit roughly 1.4M units for the year with many on the Street being skeptical about this number IF any Covid shutdown comes back to China the rest of the year,â Wedbush analyst Dan Ives wrote in a note shortly after Teslaâs Q2 report. âThe Austin and Berlin factory ramps are proceeding well, but really do not become major factors until 2023 with all the production pressure on the shoulders of Fremont and Shanghai.â
Wiley Angell, Chief Market Strategist at Ziegler Capital Management, likewise noted this risk. Though, he lauded the companyâs ability to manage the situation and overcome even a production problem as drastic as the one seen in the spring.
âElon Musk was able to navigate that situation pretty well,â he told SeekingAlpha. âHe was able to work with the Chinese government to get workers back to work as quickly as possible given the pretty tight lockdowns that they had.â
Read more on Teslaâs delivery cycle shifts in China.