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In the last two articles (that I wrote exclusively for CleanTechnica), I explored Tesla’s break-even level and its cost of capital. On this occasion, I would like to explore Tesla’s cost of labor.

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Peeking Behind Tesla’s Labor Curtain

In the last two articles (that I wrote exclusively for CleanTechnica), I explored Tesla’s break-even level and its cost of capital. On this occasion, I would like to explore Tesla’s cost of labor.

Executive Summary

  • Tesla’s total wage cost of labor per car is $3,224 when producing 554,688 cars per year accounting for direct labor and some indirect labor involved in car manufacturing and without accounting for wages included in operating expenses which incurs some double counting of total wages.
  • Tesla’s total wage cost of labor per car is $2,387 when producing 554,688 cars per year accounting only for labor directly involved in car manufacturing and accounting for wages included in operating expenses to avoid double counting total wages.

In the last two articles (that I wrote exclusively for CleanTechnica), I explored Tesla’s break-even level and its cost of capital. On this occasion, I would like to explore Tesla’s cost of labor.

What is cost of labor? Investopedia defines it as:

“The cost of labor is the sum of all wages paid to employees, as well as the cost of employee benefits and payroll taxes paid by an employer. The cost of labor is broken into direct and indirect (overhead) costs. Direct costs include wages for the employees that produce a product, including workers on an assembly line, while indirect costs are associated with support labor, such as employees who maintain factory equipment.”

“Breaking down ‘cost of labor’”

“When a manufacturer sets the sales price of a product, the firm takes into account the costs of labor,  material and overhead. The sales price must include the total costs incurred by the firm; if any costs are left out of the sales price calculation, the amount of profit is lower than expected. If demand for a product declines, or if competition forces the business to cut prices, the company must reduce the cost of labor to remain profitable. A business can reduce the number of employees, cut back on production, require higher levels of productivity or reduce other factors in production cost.”

“In some cases, the cost of labor can be shifted directly toward the consumer. For example, in the hospitality sector, tipping is encouraged, allowing businesses to reduce their cost of labor.”

“The Differences Between Direct and Indirect Costs of Labor”

“Assume that XYZ Furniture is planning the sales price for dining room chairs. The direct labor costs are those expenses that can be directly traced to production. XYZ, for example, pays workers to run machinery that cuts wood into specific pieces for chair assembly, and those expenses are direct costs. On the other hand, XYZ has several employees who provide security for the factory and warehouse; those labor costs are indirect, because the cost cannot be traced to a specific level of production.”

“Examples of Fixed and Variable Costs of Labor”

“Labor costs are also classified as fixed costs or variable expenses. For example, the cost of labor to run the machinery is a variable cost, which varies with the firm’s level of production. XYZ also has as a contract with an outside vendor to perform repair and maintenance on the equipment, and that is a fixed cost.”

“Factoring in Undercosting and Overcosting”

“Since indirect labor costs can be difficult to allocate to the correct product or service, XYZ Furniture may underallocate labor costs to one product and overallocate labor costs to another. This situation is referred to as undercosting and overcosting, and it can lead to incorrect product pricing.”

“Assume, for example, that XYZ manufactures both dining room chairs and wooden bed frames, and that both products incur labor costs to run machinery, which total $20,000 per month. If XYZ allocates too much of the $20,000 labor costs to wooden bed frames, too little is allocated to dining room chairs. The labor costs for both products are incorrect, and the sale price cannot be calculated accurately.”

Where can I find labor cost information for Tesla? This, unfortunately, became a major investigative undertaking since Tesla does not disclose too much information on the subject. One of the few things I found was an item titled “Payroll and related costs” in Tesla’s annual report.

So, what exactly are payroll and related costs? The Accounting Tools site defines payroll costs:

Payroll expense is the amount of salaries and wages paid to employees in exchange for services rendered by them to a business. The term may also be assumed to include the cost of all related payroll taxes, such as the employer’s matching payments for Medicare and social security.” [My underlining]

“In a cash basis company, payroll expense is the cash paid during an accounting period for salaries and wages. In an accrual basis company, payroll expense is the amount of salaries and wages earned by employees during the period, whether or not these amounts were paid during that period.”

“Payroll expense may be the largest expense that a company incurs, especially when it is in a services industry where revenues are directly related to staff hours worked. Conversely, payroll expense may be a much less substantial proportion of total expenses in a business that is fixed-asset intensive, such as an oil refinery.” [My underlining]

I went ahead and took the following literally: “The term may also be assumed to include the cost of all related payroll taxes, such as the employer’s matching payments for Medicare and social security.” Why did I take it literally?

I searched Tesla’s 10-K for payroll tax information. However, I was unable to find much information except for two references. The first one I found in the statement of cash flows under an unusual section titled “Supplemental Disclosures.” There I found a line item called cash paid during the period for taxes, net of refunds for the amount of $65,695,000, which could be an indirect reference to payroll taxes, or perhaps not.

The second, as noted above, reference, note 10 (under Notes to Consolidated Financial Statements) for accrued liabilities and other in the 10-K table is shown below. Tesla had accrued liabilities for payroll and related costs of about $378 million in the annual report. However, the numbers all together did not make sense for me.

If the people at Accounting Tools were correct, then perhaps this was Tesla’s obscure way of disclosing Medicare and Social Security taxes. Why? Tesla had 37,543 employees on December 31, 2017, but the amount of $378 million is too small to be the annual wages of 37,543 employees. However, the amount felt right around the ballpark for taxes.

Medicare and Social Security taxes are usually divided in half between the employer and the employee. Moreover, these two taxes are a fixed percentage that does not vary too much unless the income level of an individual is above some threshold, and in a large company like Tesla that aggregates all the individual taxes owed, this level of information becomes irrelevant unless all the employees qualify.

In addition, at many large companies, the company retains the employees’ portion of Medicare and Social Security taxes and it adds the firm’s portion of taxes to the retained employee taxes, then it pays both portions of taxes to the Internal Revenue Service.

The table above shows two quick attempts at deciding if Tesla had placed the corporate taxes, the retained employee taxes, both corporate and employee taxes, or none into the assumed line item for the payroll taxes for both FICA and MEDFICA. Expressed more formally, my choices were as follows:

  1. Tesla placed the portion of corporate payroll taxes for FICA and MEDFICA under ‘Payroll and related costs.’
  2. Tesla placed the portion of retained employee payroll taxes for FICA and MEDFICA under ‘Payroll and related costs.’
  3. Tesla placed both corporate and retained employee for payroll taxes for FICA and MEDFICA under ‘Payroll and related costs.’
  4. Tesla did not place corporate or retained employee for payroll taxes for FICA and MEDFICA under ‘Payroll and related costs.’

Based on this initial investigation, I decided to assume that “Payroll and related costs” were the same as the annual taxes for FICA and MEDFICA, and of the four possible choices it was possible but not necessarily true that these were the combined corporate and retained payroll taxes. Why? The average wages (cash compensation) made sense for the smaller amount $65,856). The second choice ($131,713) appeared too big for the average wages paid by a manufacturing company — even one growing as rapidly as Tesla.

Now, I had to prove if I was right or wrong. To begin, I looked for public information regarding Tesla’s purchases of various companies. Then I tried adjusting these based on published reports as in the case, for instance, of SolarCity. SolarCity was downsized by 3,030 employees in the same year that Tesla offered to buy SolarCity from 15,273 to 12,243 employees.

Next, I looked at the number of job offerings in different locations known to be Tesla offices. After this, I searched for other related information and news regarding Tesla’s employees. So, who are the guys and gals working at Tesla?

According to a survey conducted from 2013 to 2015 of over 33,500 workers in the technology industry, most of Tesla’s employees were young (30 years old) males (80%) and earning a median early entry salary of $81,400. Their median mid-career salary was around $118,500 based on total cash compensationwhich “combines base annual salary or hourly wage, bonuses, profit sharing, tips, commissions, and other forms of cash earnings, as applicable. It does not include equity (stock) compensation, cash value of retirement benefits, or value of other non-cash benefits (e.g., healthcare).

A translation of the last portion is as follows: Total cash compensation is the sum of cash wages (for either salaried or hourly employees) and bonuses. Benefits are not included in this calculation.

Tesla does appear to provide stock options and stock purchase plans (see below). In addition, it does appear to offer healthcare and retirement benefits (see below).

To make sure, I checked a couple of sources. The first source had the following definition:

What is cash compensation?

Total cash compensation is defined as all cash payments earned by an employee during a year of full time employment. Total cash compensation includes base salary or hourly wages, overtime wages, bonuses, commissions, tips, and profit sharing.

The second source had the following definition:

What are the compensation?

Employer compensation in the United States refers to the cash compensation and benefits that an employee receives in exchange for the service they perform for their employer. Approximately 93% of the working population in the United States are employees earning a salary or wage.

The following information all comes from Payscale.

How much does Tesla Motors pay?

“Tesla Motors pays its employees an average of $92,991 a year. Salaries at Tesla Motors range from an average of $60,620 to $135,477 a year. Tesla Motors employees with the job title Associate General Counsel make the most with an average annual salary of $235,314, while employees with the title Customer Service Specialist make the least with an average annual salary of $30,749.”

It would appeared that the summary from these surveys added evidence that the lower amount extracted from “Payroll and related costs” is the better choice between the both amounts.

Years of Experience

“Average pay is $98K per year for those with five to nine years of experience. Overall, the greater share of Tesla Motors folks have one to four years of experience and earn an average around $83K annually.“

Locations

“When it comes to location, the highest average paycheck (about $118K per year) can be spotted in Los Angeles, Calif.; Palo Alto, Calif. (approximately $102K), Fremont, Calif. ($91K), and San Francisco, Calif. ($89K) are the next top-paying cities. Approaching the lower end of the pay scale (at around $82K) is Sparks, Nev. Within the firm, employees working in California take home the most — $94K annually on average.”

Jobs

“Senior Mechanical Engineers represent the higher end of the earnings spectrum — in fact, median pay for this job is the highest at about $110K per year — though Controls Engineers, Firmware Engineers, and Manufacturing Engineers also do fairly well at approximately $97K, $95K, and $89K, respectively. Near the bottom at Tesla Motors are Industrial Engineers, pulling in an average of just about $79K.”

Certifications and Degrees

“Professional Engineer License Holders earn around $132K annually, far more than their non-accredited counterparts. Project Management Professionals also rank high on the pay scale, with expected average earnings of approximately $122K per year. Tesla Motors compensates Graduate Certificate, Automotive Technology-holders the most at $133K annually.”

Skills

“The highest-paying skill to have may be Manufacturing Process Engineering; employees who claim proficiency also report a higher average salary of $97K per year. One of the more prevalent skills at Tesla Motors is Project Management, with just under one in five considering it a key competency. Three more common skills are Engineering Design, Microsoft Excel, and Microsoft Office.”

How much does Tesla Motors pay in bonuses?

“Tesla Motors pays an average of $7,903 in annual employee bonuses. Bonus pay at Tesla Motors ranges from $1,000 to $30,000 annually among employees who report receiving a bonus. Employees with the title Staff Engineer earn the highest bonuses with an average annual bonus of $30,000. Employees with the title Engineering Technician earn the lowest bonuses with an average annual bonus of $1,000.”

Tesla Motors benefits and perks

A. Retirement savings plans & financial benefits

  1. Profit sharing
  2. Retirement amenities
  3. 401(k) savings retirement plan
    (“The larger part of respondents participate in a 401(k) program.” I found hints that this might not be the case; however, I have nothing to go on at the time to decide one way or the other.)
  4. Defined contribution retirement pension plan to help workers save and invest for retirement
    “To help ensure a stable cash stream later in life, numerous employees use employer-financed retirement plans. Tesla Motors offers defined contribution pension plans. With a defined contribution pension plan, businesses help workers save and invest for retirement.”
  5. Stock options
  6. Stock purchase plan

B. Health and insurance benefits

Employer funded group health benefits through which employers typically pay a sizeable percentage of their employees’ health insurance premiums. These contributions are tax deductible for employers and tax-free for workers.”

    1. Group life insurance
    2. Health insurance
    3. Life insurance
    4. Dental insurance
    5. Vision insurance
    6. Short-term or temporary disability insurance for accidents or illness
    7. Long-term disability insurance

C. Perks

1. Casual work environment

2. Company cell phones

3. Free drinks

A large portion (70%) considered their jobs highly satisfactory, and most (89%) employees considered their jobs as having a high personal meaning to them.

Their on-the-job experience at Tesla was rather low (1.6 years), but they had on average 5.6 years of work experience. The majority (70%) of employees considered their jobs as highly stressful.

According to a recent report commissioned by Tesla, it paid its 20,189 California employees (~54% of all employees) $2.1 billion in cash and equity in 2017. Moreover, Tesla had a total of 37,543 employees in 2017, and 17,354 (~46%) of employees are not employed in California. Therefore, the average cash and equity compensation paid in 2017 to its California employees was $104,017 based on this report.

According to another report, in 2017, about 5,000 employees were working at the California Fremont factory. Moreover, it claimed that the average pay before equity compensation was between $17 and $21 per hour for 60 to 70 work hours per week. At an average of 65 hours per week for 52 weeks at $19 per hour, this is $64,220 per year before equity compensation.

Both of these reports provide further evidence that the lower amount extracted from Payroll and related costs is correct.

A popular wage surveying company claimed that the average hourly rate is $21, and the average salary is $93,000. Moreover, the average employee gets $7,903 in annual employee bonuses. The range of bonuses goes from $1 to $30,000. Benefits include 401 (k), paid holidays, stock purchase plan, stock options, life insurance, dental benefits, and health insurance.

As you can see, the range of information from reports and surveys varies a bit from one source to another. However, when I analyzed the numbers further, about two thirds appeared to be cash compensation, and the rest seemed to be non-cash compensation and taxes. Non-cash compensation appears to be made up from benefits and bonuses.

The weight of the evidence would seem to indicate that the smaller amount, $65,856, extracted from the ‘Payroll and related costs is the better choice between both choices.

With the above information among other things, I adjusted the tables (see above and below). Please note that some of the tables are based on writer’s creativity if you wish. For instance, I do not know for certain that Tesla has a cleaning and maintenance crew at their buildings; however, knowing Tesla’s level of self reliance, I assumed it would develop such a department.

I, also, had to make guesses as to the numbers of workers at the factories, number of solar installers, number of drivers, etc etc. However, the tables were not put together with the intent of building a fallacy. Rather, the motivation was an attempt to understand a possible, realistic labor structure to begin to get an idea of its labor cost.

Keep in mind that for me this is a thought experiment. I am trying to recreate, at least in paper, Tesla’s reality to the best of my ability to recreate it for the purpose of evaluating the company’s feasibility into the near future (several months to a year from now).

Many assumptions, guesses, and allocations were taken to compose the tables presented here. They are based on public information, surveys, news, annual reports, quarterly reports, and the work of a single guy, me. So please excuse any errors in judgment on my part.

Now, to begin, my first attempt was to try to divide the workforce into two major groups. These groups would either manufacture cars, or they would not. This is clearly shown in blue and green in the first tables. The fuchsia or pink rows show my attempt to allocate workers based on revenue percentages between both major work categories. For instance, the number of employees at Gigafactory 1 and at Tesla’s headquarters were adjusted in this way. 75% of them were chosen to remain in the car business, and the rest were not.

Why did I decide on 75%? I made the assumption that about 75% of all employees are directly related to car manufacturing since car revenues are about 75% of total revenue.

Notice that counting all the car workers, technicians, and engineers involved in car manufacturing without these two sites is about 40% of total employees. The remaining 60% of employees are involved in energy generation, energy storage, sales, leasing, installation, office work, mailrooms, drivers, security, cleaning, maintenance, and service mechanics.

Next, not shown, the employees were further separated into two groups of men (80%) and women (20%). After this, employees were separated by seniority into about 5 different groups. Employees with about one year, fewer than 4 years, fewer than 9 years, fewer than 20 years, and more than 20 years. These groups took employees based on their (assumed) years of experience. All of these divisions, by the way, come from public surveys. The reason for the divisions had to do with pay differences. The pay differences were not arbitrary. They were shown as such by these surveys. The sources are the same as shown from the previous survey sources.

Wages were assigned, again, based on surveys to each group, and I started collecting the output of these and other assumptions. The result are shown in the tables. As you can see, the table titled “Tesla’s major employee categories” shows the first aggregated amount of cash compensation for the amount of $2,473,296,662. This is quite close to the first and second tables of the assumed usage of payroll taxes as shown previously while discussing “Payroll and related costs.”

Perhaps it is a coincidence, but the numbers do seem to rhyme. This is a second discovery appearing to provide additional circumstantial evidence to the initial assumption.

The next section of the tables deals only with the employees assigned to car manufacturing. After two more tables, I managed to lay out the structure to obtain the cost of labor per car. In order to assign all costs, I added back benefit costs, bonuses costs, and corporate taxes. I used the approximate number of cars shown in the other two discussions on Tesla’s finances.

This allowed me, at last, to obtain the cost of labor per car — $3,227 when car production is at 554,168 per year — and this made me pause for a while. On the last article, I said that there might be one or two problems left. Well, the waiting is over, this is one of them problems.

Note that the allocation of 75% of headquarters to car manufacture contains among other things an overhead cost. This overhead cost is, alas, not exclusive to headquarters. What is an overhead cost?

“Manufacturing overhead costs (MOH cost) are all manufacturing costs that are related to the cost object (work in process and then finished goods) but cannot be traced to that cost object in an economically   feasible way.”

“Examples include supplies, indirect materials such as lubricants, indirect manufacturing labor such as plant maintenance and cleaning labor, plant rent, plant insurance, property taxes on the plant, plant depreciation, and the compensation of plant managers

“Manufacturing overhead includes other costs in manufacturing that are neither direct materials costs nor direct labor costs. It might also be referred as the factory burden or production overhead.  Its value is essential for determining the cost of products to be manufactured.

“This category of costs includes expenses like:

      1. Electricity for the equipment and lighting.
      2. Cleaning costs of equipment.
      3. Material handling like forklifts
      4. Maintenance of the equipment.
      5. Wages of employees in the factory who for example work on record keeping and inspection  of materials.
      6. Computing the operation of the process of manufacturing the product.
      7. Insurance
      8. Safety and quality cost.
      9. Plant Repairs”

In addition to overhead costs, there are direct and indirect costs. What are direct and indirect costs?

Direct costs are directly attributable to the object and it is financially feasible to do so. In manufacturing or other non-construction industries the portion of operating costs that is directly assignable to a specific  product or process is a direct cost. Direct costs are those for activities or services that benefit specific projects, for example salaries for project staff and materials required for a particular project. Because these activities are easily traced to projects, their costs are usually charged to projects on an item-by-item basis.

Indirect costs are, but not necessarily, not directly attributable to a cost object. It should be financially infeasible to do so. Indirect costs are typically allocated to a cost object on some basis. In manufacturing, costs not directly assignable to the end product or process are indirect. These may be costs  for management, insurance, taxes, or maintenance, for example. Indirect costs are those for  activities or services that benefit more than one project. Their precise benefits to a specific project are often difficult or impossible to trace. For example, it may be difficult to determine precisely how the activities of the director of an organization benefit a specific project. Indirect costs do not vary substantially within certain production volumes or other indicators of activity, and so they may sometimes be considered to be fixed costs.

“It is possible to justify the handling of almost any kind of cost as either direct or indirect. Labor costs, for example, can be indirect, as in the case of maintenance personnel and executive officers; or they can be direct, as in the case of project staff members. Similarly, materials such as miscellaneous supplies  purchased in bulk—pencils, pens, paper—are typically handled as indirect costs, while materials required for specific projects are charged as direct costs.”

These definitions of overhead, direct cost, and indirect costs have a significance in allocating labor to car manufacturing.

There will be labor that is directly involved in the manufacturing of cars. There is certainly indirect labor such as those producing battery packs at Gigafactory 1 for all cars. I would imagine that some of those workers would fall as direct labor for Model 3 cars. However, there might be work or components in common for Model3, Model S, and Model X. For instance, there might be a worker doing the same work for both battery components of all car models. In this case, how is labor more directly linked to Model 3 than some other model?

Very detailed knowledge is required to make a pronouncement one way or another. Therefore, the discussion in this article makes acknowledgment of these boundaries, but it aggregates direct labor at a very large macro level, and it assumes that there will be a certain percentage of overhead and indirect labor for each car without making a detailed accounting of it.

If you remember, I used the publicly stated cost of labor (while analyzing the cost of capital) by Alexander Haissl from the investment Bank Berenberg, who had stated that the Model S car had a labor cost of $4,000 per car, and the latest model, the Model 3, had a labor cost of $1,000.

Well, what he said might be possible and correct, but with the level of information I have, I cannot make the leap of assigning Model 3 one-fifth of all the car manufacturing labor cost per unit. He might have more detailed information regarding the number of employees working on both cars and the number of hours required to finish each. For all I know, he might have access to detailed overhead costs, indirect costs, and direct costs.

I do not have access to this breakdown of labor hours per car. What I can show you is the unit labor cost as production increases. Tesla has been at the steepest portion of the curve in terms of unit cost per car, and this, definitely, would explain a portion of Tesla’s past quarterly losses. The graph (see above) clearly shows that as more units are produced, the unit cost per car due to labor drops.

Several things are going on here to make this happen. To begin you have the “learning curve effect.” The dictionary definition is quite useful in this case:

The rate of a person’s progress in gaining experience or new skills

Another dictionary definition:

A graphical representation of progress in learning

Another way to describe it is that with experience comes mastery or expertise. As Tesla’s employees gain experience in designing and assembling cars, they get better. As they get better, they can make more cars with less mistakes and lost time.

Then there is the effect of “productivity.” Some dictionary definitions for productivity are the following:

“’quality of being productive,’ from productive + ity

in business, a meaśure off worker efficiency, such as one hundred units per hour; in economics, involvement in the creation of goods and services to produce wealth

Now, think back to the previous discussion on capital, and if you remember, capital also behaved like a fixed cost. As more cars were produced, the capital unit cost was reduced. Now, if I was to add both labor and capital unit costs, the graph would behave the same, dropping from left to right as car production is ramped up. In this case, cost is on the vertical axis and units produced is on the horizontal axis.

The reason that my definition of labor is as a fixed cost has to do with its behavior in the graph and in comparing it to materials. Tesla can use less material, for instance, with fewer car sales. However, in the short term, Tesla is not going to order a lot less labor due to lower sales.

Tesla might ask its employees to clean the factories, plant some trees, or play ball, but it will do the best it can to keep its employees. It has a tremendous investment in each and every one of them. In fact, from the tables above, I know that Tesla has invested almost $110,000 per car manufacturing employee per year.

In other words, labor in this case behaves more like capital than it does like materials, or looked at in another way, it behaves more like a fixed cost than a variable cost. Compare this to the definitions shown at the beginning of this article.

Please note that at some point, the downward sloping fixed cost qualities shown in the graph will actually begin to change as labor is saturated in its ability to produce more. At some point, Tesla may have to hire more workers to overcome this situation. A new labor cost will be established (at a higher level), and the downward sloping graph will continue. Therefore, it is sort of a downward sloping step function with discontinuities. This is not graphed.

Tesla’s business model accounts for the above changes in graphing curves. It is designed to do this by having the ability to speed up its robotic lines. It will take Tesla a while to perfect this point, but eventually trial and error make for mastery at a certain skill. It will need more labor to complete more cars, but it should still be less labor intensive than at other car factories.

To summarize, the learning curve effect, the productivity effect, and fixed cost like behavior of labor (with labor’s saturation effect noted above) contribute for the labor unit cost to decrease throughout the curve as more units are produced.

There is some good to come out of all this work. The tables above show that the unit cost of capital is the same as in the previous discussion. The unit cost of capital is $1,282 per car. If more cars are produced per week, this will bring down the cost. If less cars are produced, then the cost will go up. The cost is not static.

The tables above show the ‘new’ cost of labor per car, and it shows a slight difference in material costs between the two columns in blue. In fact the difference is two percent. The column shows Model 3 cars as either 66% or 68% of the average selling price of $35,000. This is going to get interesting in a minute or two.

Below this you can see in red the labor cost per car of $3,224. This makes it less expensive for Model S and Model X, and it makes it several times more expensive for Model 3 than the models presented in previous discussions based on Mr. Haissl’s presentation.

Here it is at last. What is the effect of this labor cost per car? It is possible to obtain a profit with good margins (shown in yellow). Notice that these hard-earned profits are the result of very low average selling prices (a business model stressor).

However, changing the cost of materials for Model 3 by two percent produces a loss on the fourth column. This again shows how sensitive are the material costs of Model 3. Even this loss is not so bad. It manages to cover all the expenses except for the interest expense.

In spite of my initial belief that labor costs would be much greater, this work demonstrates that by separating labor costs and allocating only the direct costs of labor involved in the manufacture of cars, it is possible to obtain a reasonable estimate of the cost of labor per car. Is it valid to ignore the indirect costs. Operating expenses account for some of these.

You may wonder if the methodology to reconstruct the unit cost of labor has not been too aggressive. Perhaps it has in terms of making a few assumptions to obtain it. However, you may have noticed the “margin of safety” built into these assumptions. As I mentioned above, some indirect labor costs are included in operating expenses. Moreover, some direct labor costs are also included in operating expenses.

What are operating expenses? As the income statement below shows, operating expenses are composed of research and development expenses and selling, general, and administrative expenses.

What are research and development expenses?

Research and development (“R&D”) expenses consist primarily of personnel costs for our teams in engineering and research, manufacturing engineering and manufacturing test organizations, prototyping expense, contract and professional services and amortized equipment expense.” [My underlining]

“R&D expenses increased $45.1 million, or 14%, in the three months ended March 31, 2018 compared to the three months ended March 31, 2017. This increase was primarily due to a $47.6 million increase in employee and labor related expenses from increased headcount as a result of headcount growth from the expansion of our business, a $13.6 million increase in stock-based compensation expense related to an increase in headcount and number of employee stock awards granted for new hire and refresher employee stock grants. Additionally, there were increases in facilities expenses and depreciation expenses offset by a decrease in expensed materials to support the development of future products.” [My underlining]

It sounds to me like research and development expenses includes a lot of engineering labor costs, and it sounds to me like these would include cash compensation and non-cash compensation expenses.

What are selling general and administrative expenses?

Selling, general and administrative (“SG&A”) expenses consist primarily of personnel and facilities costs related to our stores, marketing, sales, executive, finance, human resources, information technology and legal organizations, as well as fees for professional and contract services and litigation settlements.” [My underlining]

“SG&A expenses increased $83.0 million, or 14%, in the three months ended March 31, 2018 as compared to the three months ended March 31, 2017. This increase was primarily due to a $63.6 million increase in office, information technology and facilities-related expenses to support the growth of our business as well as sales and marketing activities to handle our expanding market presence. Additionally, the increase was due to a $18.1 million increase in stock-based compensation expense related to the number of employee stock awards granted for new hires, refresher employee stock grants and the 2018 CEO Performance Award.” [My underlining]

This, also, sounds to me like selling, general, and administrative and development includes a lot of sales, office, and others (human resources) labor costs, and it sounds to me, again, like these would include cash compensation and non-cash compensation expenses.

My labor cost lists were supposed to account for all employees. However, operating expenses include some of these as well. This is the “margin of safety” I alluded to earlier. I have actually been double counting the labor expense of some of these employees. In other words, the actual labor cost per vehicle is lower than what I calculated before. How much have I doubled counted labor unit expenses?

The table shown earlier on total wage compensation for employees involved directly and indirectly in car manufacturing included factory engineers making cars and office business people making cars. Assuming that all of them are included in operating expenses, total wage compensation only for employees involved directly in car manufacturing decreases as shown in the table above, and this implies a decrease in the labor unit cost as shown in the following table below.

The annual difference in total wages between both tables is $464,013,747 ($1,788,254,694 – $1,324,240,947) and $116,003,437 on a quarterly basis. This difference is due to total wages for engineers and office business people making cars assumed to be counted under operating expenses.

Does this make sense from the amount shown in the line items under operating expenses? Suppose I added the wages of employees not involved in car manufacture to the wages of engineers and office workers involved in car manufacture. I would expect these to be less than the operating expense line item.

The table below shows total compensation for employees not involved in car manufacture. Factory workers or factory technicians not involved in making cars as well as solar installers are not included in this table. I would expect that their labor expense for their wages will be reflected in cost of revenue of solar generation and cost of revenue of solar storage.

The table below shows total wage cost of employees not involved in car manufacture. This amounts to $1,120,765,611.

If I add to this the total wage cost ($464,013,747) for engineers and office business people making cars assumed to be counted under operating expenses, the result is $1,584,779,357.

The annual report shows operating expenses in the amount of $3,854,573,000. Total wages as added above (with taxes and additional hired personnel during the quarter) amount to 41.1% ($1,584,779,357 / $3,854,573,000) of annual operating expenses, and the adjusted wages of employees not involved in car manufacturing plus the wages of engineers and office workers involved in car manufacture do indeed add up to be less than operating expenses.

This still leaves a large (~60%) amount of total operating expenses ($2,269,793,643) for paying “manufacturing test organizations, prototyping expense, contract and professional services and amortized equipment expense” as well as costs of facilities “related to our stores, information technology and legal organizations, as well as fees for professional and contract services and litigation settlements.”

Below, you will find the tables presented previously on profitability after accounting for this reduction in unit labor costs. Keep in mind that indirect costs have not been entirely accounted in this discussion, and these could end up raising somewhat the unit labor cost. However, I would expect this to be in between the two labor unit cost values obtained before.

This has been a long discussion, but something of value came out of it. At least, I gained some perspective on Tesla’s cost of labor, and it allowed me to better grasp the possibility that the company might be looking at light at the end of a tunnel. I certainly hope it did the same for you.

This leaves one basic problem to examine: the cost of materials, and it also leaves open the possibility of tying up everything together to see how the three major types of costs affect Tesla’s bottom line.

The table above shows Model 3’s material costs differing by 2%. Despite this increase in material costs, this time, the decrease in unit labor costs has lowered the total cost sufficiently to allow a profit.

Does Tesla have a good business model? What do you think?

Let me know if you found the discussion useful and would like these presentations to continue.

Sincerely,
Eric Kosak

Disclaimer: I have, sadly, no positions in the stock of this company. The above is not a recommendation for investment. If you seek investment advice consult with a professional, and if you do invest, then do it wisely and without allowing the loss of any of your investments to injure you financially. Remember that money invested in the stock, bond, option, futures, and real estate markets can and might go to zero.


The following appendices can be seen, if you want more details, in this PDF:

Appendix I — Total wages of employees not involved in car manufacture and doing R&D and SG&A

Appendix II — Total wages of employees involved indirectly in car manufacture through R&D and SG&A

Appendix III — Benchmarking productivity

Appendix IV — Analyzing the effect on profits of including only the total wages of employees involved in car manufacturing in operating expenses

 
 
 
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I live in a magical time of science and technology in which Merlin himself would be amused. I am just learning about it. A goal of mine for many years has been to learn and understand as much as I can about it, and, yet, everyday I find out something new. I hope I can share this. I believe in being independent; therefore, I enjoy reading on a variety of things. For instance, what can I do to improve the energy consumption of my house? How can I reduce the negative impact on my health due to the things I buy and do? Can I improve my life by choosing one type of energy over another? How can I repair a leak in my bathroom? What do I need to do to grow my own vegetables? To improve the world, my mom always says, we start at home. I have learned that to succeed at something I must fail many times, and with each failure I learn something, and I also try to live by the golden rule of doing unto others as I would like them to do unto me.

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