Why did China let in Tesla?

Despite being based in the US, Tesla has found some of its biggest advocates in China.

In 2019, Tesla sales in China increased by 161% (around 40,000 newly registered cars) in comparison to 2018. Amidst the recent pandemic, where China car sales declined by 42% in the first quarter of 2020; Tesla recovered immediately, breaking records for March and April. But Tesla’s successful launch in China is a result of all the help from tax exemptions on sales to billions of dollars in funding for the construction of Tesla’s Gigafactory in Shanghai.

How did Tesla get there?

Since 2015, China has been the world’s largest electric vehicle (EV) market. In 2016, Tesla’s sales tripled to $1 billion and reached $2 billion by 2017. Upon those metrics, Tesla realized the huge market potential the Chinese consumers represented.

Nonetheless, as other automakers such as GM found, the US trade war with China was a huge impediment to selling cars there. With heavy tariffs imposed on Tesla imports, an $80,000 Model S from the United States would be selling for around $140,000 in China. Therefore, it became clear that to scale car sales within the Chinese market they had to build them locally.

Despite what one might think, production costs in China were not cheap, nor were the main reason why Tesla decided to scale. The truth is the Chinese government had set up a policy for foreign automakers, who planned to build cars in China, to form 50/50 joint ventures with local players. So in 2018, when China began rolling back these restrictions, Tesla was quick to set-up an agreement to build a wholly-owned factory in Shanghai.

By August 2019 the factory was already building cars. As of today, they are making around 3,000 cars/week (around 150,000 per year). By the end of 2021 with the factory operating fully, they plan to produce around 500,000 cars annually. Truth is there’s no telling how many EV giants stand to sell since the government has also granted an exemption from a 10% purchase tax to Tesla Model 3’s.

Why did the Chinese government give Tesla such a warm welcome?

To start, there is a huge amount of money China expects to make off the facility alone. The factory was financed almost entirely by state-controlled banks who expect a significant return on their investment. Additionally, Tesla bought a 50-year lease of the land, and that money goes straight to the Shanghai government. This was key for all arrangements to be expedited since the project interested both the central and local governments in China.

From a supply chain perspective, 30% of Tesla suppliers for Giga Shanghai are localized. The manufacturer plans to get to 100% localized by the end of 2020. 

On a larger scale, Tesla could represent the boost the Chinese declining car market needs. In 2019 China’s total car sales fell by 8%, after falling 3% the previous year. Recently, factory shutdowns due to COVID-19 have had unfavorable effects on this year’s first-quarter sales.

Nevertheless, the industry is steadily recovering primarily due to EV sales (Tesla representing 30%). After-sales surged during March and April, Tesla could greatly stimulate the Chinese automotive industry. Far from just adding competition to China’s huge EV market, Tesla could bring benefits to the country’s domestic brands. 

Chinese EV domestic players 

Several Chinese companies once claimed “Tesla-killers”, such as NIO and Xpeng, are now struggling. This mainly due to the massive investment and time it takes to do EV right. These struggles are similar to what Tesla had to go through to get where it is today (reaching mass production and balancing it with demand, reducing costs to stay competitive, meeting the market expectations, delivering to investors, scaling the supercharger network and service, etc.). 

In 2019, Tesla sued Xpeng for allegedly having stolen its advanced driver assistant systems (ADAS) called Autopilot and Xpilot respectively. Even though the case is currently ongoing, Xpeng made the headlines again recently for copying Tesla’s website design. 

While startups like Xpeng are well-known in the Chinese EV market, they are unknown to the western world. Therefore, a globally known brand such as Tesla could help introduce the country’s EV industry to global market competition, providing exposure to the American and European consumers.

Environmental aspect 

With a population of 1.4 billion and some of the world’s most polluted cities, China has done a lot to prioritize EVs. As of 2016, at least a dozen major Chinese cities enforced even-odd policies, in which internal combustion engine vehicles (ICE) with license plates ending in an odd digit are allowed on roads on odd dates and those with an even digit on even dates. But, EV drivers can take their cars out on any day. 

EVs represent 4.7% of all cars sold in China, and for Chinese consumers, they are cheaper to register and they are significantly more convenient. The country expects that by 2025 EV sales account for 25% of all cars sold (where Tesla could potentially lead the surge).

Survival of the fittest

China welcoming Tesla with such warmth is a risky move, since for years they have invested millions in their domestic EV manufacturers and maturing their domestic market. Today, the Chinese government has shifted direction, welcoming a foreign company on their land. This shift can likely result in two outcomes: Tesla accelerating the globalization of the Chinese domestic players or running them out of business. As Tesla brings its costs down and sells vehicles for lower prices, that will push companies that sell cheaper vehicles to improve their products. Conversely, Tesla could also be overcome by the local competition.

However, this move from China should come at no surprise. Some of the current leaders of its highly demanding smartphone market such as Vivo, Oppo, and Huawei flourished with foreign competition. As well as the country’s e-commerce business (along with other internet-based models) have succeeded with the boost of the intense foreign competition (Alibaba beat both eBay and Amazon in China). Nonetheless, domestic car brands have been less successful in comparison. 

Foreign advocacy for China 

Another important thing to consider is the fact that China has welcomed several tech titans such as Tim Cook (Apple) and Bill Gates (Microsoft). So it makes sense for them to add Elon Musk to the list since there is a high probability for Tesla to boost China’s EV domestic market. Additionally, having these industry giants on their side can be of great benefit, especially as the US-China trade war is getting very precarious. 

China expects Tesla to jumpstart the EV ecosystem both on the demand and supply side as much as Tesla expects to grab a bigger slice of the world’s largest car market. Ultimately, only time will tell how this symbiotic relationship ends up since both Musk and China took a massive gamble upon it.