Tesla reportedly has agreed to offshore production to China

If the report is true that Tesla has agreed to build a plant in China, President Trump will not be pleased.  And he's going to visit Beijing next month.  Stand by for either denials or fireworks.  

Billions of taxpayer-dollar subsidies have flowed into the coffers of Elon Musk's Tesla Motors, but apparently nobody ever thought to put any conditions on the loot to keep the benefits in this country.  The theory was that by making it cheaper to buy luxury vehicles, mass production technology could be applied and move toward a mass market.  We wanted America to lead the world in this vital green industry, went the rhetoric.

Now we learn via the Wall Street Journal:

Electric-car maker Tesla Inc. has reached an agreement to set up its own manufacturing facility in Shanghai, according to people briefed on the plan, a move that could help the company gain traction in China's fast-growing EV market.

The deal with Shanghai's government will allow the Silicon Valley auto maker to build a wholly owned factory in the city's free-trade zone, these people said. This arrangement, the first of its kind for a foreign auto maker, could enable Tesla to slash production costs, but it would still likely incur China's 25% import tariff. (snip)

A plant in Shanghai's free-trade zone still has clear benefits, Mr. Russo said. It would give Tesla a base from which to export to the region, while offering proximity to the Chinese supply chain, thereby lowering production costs and the sale price of Tesla cars sold there. Today, a Tesla costs roughly 50% more in China than it does in the U.S.

Manufacturing in Shanghai would also put Tesla in good standing with the Chinese government, said Michael Dunne, an auto-industry consultant who spent years in Asia. Having Tesla cars built on Chinese soil would please Beijing officials, he said, which "in turn, will give Tesla goodwill leverage to negotiate better China market-access terms in the future."

The auto maker reported more than $1 billion in revenue in China for 2016 on sales of roughly 11,000 imported vehicles, representing about 15% of total revenue. Sales in China were up from about $319 million in 2015.

So, for the moment, Tesla will be building luxury cars for the Chinese market at its facility, not exporting them back to the U.S.  Exports from the U.S. will be displaced.  But the company will be developing a supplier network based in low-cost China.  Even if Tesla remains wholly owned, with no Chinese partner, its technology inevitably will leak out.  And eventually, cheaper parts and assemblies from China could be shipped back to the U.S. for use in Teslas still "made in the USA."

Tesla's current production facility in Fremont, California is in a terrible location for mass assembly of vehicles.  It sits at the gateway to Silicon Valley, with ridiculous housing prices and an expensive workforce.  Unsurprisingly, it has reportedly been having problems introducing a new model and ramping up output.

The Wall Street Journal reported a couple of weeks ago that parts of the Model 3 were being made by hand:

The Model 3.

Tesla Inc. blamed "production bottlenecks" for having made only a fraction of the promised 1,500 Model 3s, the $35,000 sedan designed to propel the luxury electric-car maker into the mainstream.

Unknown to analysts, investors and the hundreds of thousands of customers who signed up to buy it, as recently as early September major portions of the Model 3 were still being banged out by hand, away from the automated production line, according to people familiar with the matter.

While the car's production began in early July, the advanced assembly line Tesla has boasted of building still wasn't fully ready as of a few weeks ago, the people said. Tesla's factory workers had been piecing together parts of the cars in a special area while the company feverishly worked to finish the machinery designed to produce Model 3's at a rate of thousands a week, the people said.

Automotive experts say it is unusual to be building large parts of a car by hand during production. "That's not how mass production vehicles are made," said Dennis Virag, a manufacturing consultant who has worked in the automotive industry for 40 years. "That's horse-and-carriage type manufacturing. That's not today's automotive world."

Elon Musk half-denied it, according to Justin T. Westbrook of Jalopnik:

Elon Musk claims the video he uploaded to Instagram shows the Model 3 production line operating at one-tenth of its potential pace (the line itself is operating slower in real-time, the video has not been slowed):

Musk tweeted that the line was "slowed down right now to confirm build consistency and so that a person can stop the robots in time if something goes wrong," which sounds kind of terrifying but seems like an appropriate precaution considering the Model 3 line is just getting started. However, it still shows the company is lagging behind its own projected potential.

Tesla never directly addressed the claims over major elements of the car being assembled by hand, which would be unusual for a mass-market car, which the Model 3 is intended to be. Instead, Tesla simply stated that all of its production lines have both "manual and automated processes" and that there were no fundamental issues, just growing pains.

However, and this is just some conjecture, Tesla failing to meet its production goal of 1,500 Model 3 cars in the third quarter due to this "production hell" is suggestive that it has faced substantial setbacks in establishing a fully-functioning production line for the new car. Tesla also later admitted that "a handful" of manufacturing subsystems "have taken longer to activate than expected." Were cars being assembled while these systems weren't activated? If so, how?

I spent years consulting in the auto industry and have visited production facilities of all sizes and can say that these reported problems are not in the least surprising – especially coming from a brand-new auto industry entrant that prides itself on innovation.  It is such a complex process that a shakedown period is necessary.  Experience helps a lot, but Tesla has little of that.  True global-scale mass production is a somewhat different discipline from production of luxury cars, where yearly output is in five figures at best, as Tesla does in Fremont.  Much of the space remains vacant in the giant facility it got on the cheap from the closed NUMMI factory (a joint venture of Toyota and GM that inherited a GM assembly plant).

Tesla's market capitalization is based on the theory that it can smoothly move from a successful niche product into a global player.  We'll see.

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