Why Big Car Companies Don't Really Care About Tesla

NEW YORK (TheStreet) -- I usually bring up the prospects for other car companies launching cars that will compete more directly with Tesla (TSLA). By seemingly all logic, this competition should intensify dramatically over the next one to three years.

But why hasn't it already?

In the spirit of debate club, or being a good lawyer able to to argue both sides of every argument, allow me to present the case for why competing with Tesla just hasn't been anywhere near a top priority for the major automakers.

This year, Tesla is expected to sell 35,000 cars worldwide, with about half of those in the United States -- flat compared to 2013. The average selling price is approximately $100,000.

Who are losing out on those 35,000 annual car sales? I assume that we can allocate those 35,000 cars into seven buckets of 5,000 cars each.

These seven competitive buckets would be Toyota (TM)/Lexus, General Motors (GM)/Cadillac, BMW/Rolls-Royce, Mercedes, VW/Audi/Bentley, Nissan (NSANY)/Infiniti and Ford (F)/Lincoln. One could also envision Honda (HMC)/Acura, Subaru, Volvo, Tata (TTM)/LandRover/Jaguar and Chrysler-Fiat, but the precise breakdown is not important for this discussion.

Let's say you are one of these seven entities losing 5,000 car sales per year each, what's at stake for each of them? General Motors has annual sales of approximately $150 billion. 5,000 cars at a price similar to Tesla -- $100,000 each -- would mean $500 million in lost sales.

$500 million. Per year. Sounds like a lot, doesn't it? Well, it's one-third of one percent of GM's sales.

One third of one percent is a rounding error for GM. This quarter alone, GM's recall-related charges are estimated to be $700 million. That's $2.8 billion annualized, or almost six times as large as Tesla's sales impact on GM.

$500 million in revenue is what GM books on the average day, seven days a week. So losing one such day is sort of like that once-in-a-year snow day. The day when the kids -- er, factory workers -- get to stay home. And they still have a few sick days to take out.

Lost sales, however, is just one part of the equation. To theoretically "win it back" -- those 5,000 cars -- you would have to invest in R&D. The automotive R&D cycle tends to be five years in length.

How much would you have to invest to create the car that would save you from the 5,000 unit sales loss to Tesla? We can look at how much Tesla spent on R&D over five years, how much GM spent on the Volt program, how much Nissan spent on the Leaf, or how much BMW spent on the i series car development. Broadly speaking, I assume the amount would be approximately $1 billion -- or $200 million per year -- to develop a Tesla Model S competitor.

$1 billion in R&D cost divided by 5,000 cars is $200,000 -- but that's not fair, given the five-year cycle of a model generation. Therefore, the real number is $40,000 per car -- one fifth of $200,000.

$40,000 in R&D cost on a $100,000 car is 40%. Tesla's gross margin is barely over 25%, which is considered a high number in the industry. For a competitor working under these kinds of economics, it therefore means a 15% loss (25% minus 40%) based on R&D expense alone.

That's a $15,000 loss per car, and we haven't even started talking about sales and marketing expense and other overhead. Perhaps FCA (Fiat-Chrysler Automobiles) CEO Sergio Marchionne had a point after all when he said he loses $14,000 per electric car he sells -- the Fiat 500e, which is sold only in California in order to comply with government red tape.

Then you have the issue of how many of Tesla's 35,000 annual sales could even be "won back." We have, after all, a new competitor in the industry. The Tesla product is great. Surely Tesla, while very small, has now secured a greater-than-zero presence in the industry. Why should Tesla somehow lose all of those 35,000 sales even if competition emerges? Just because others too eventually show up with great products?

In other words, perhaps the seven major competitors can't win 5,000 cars back, each, even if they tried. In that case, their economics for trying starts to look even worse.

One of the major counter-arguments against this whole reasoning is obviously this: Yes, we are only talking about 35,000 cars per year in 2014. However, by 2017, 2018 or 2019 Tesla will have a car that it has said it will sell for $35,000.

Clearly the a $35,000 car changes the game. The potential market for a $35,000 car is in the many millions, not anything like Tesla's current volumes where the price starts at approximately $72,000 and averages $100,000.

Fortunately for Tesla's competition, Tesla has told everyone about its intentions far into the future, 2017-2020. It's said that all of its patents are available. It's said that the Tesla's purpose is not profit maximization, but rather a social service in that it wants as much competition as possible.

Shocking as it may have have sounded at first, Tesla's competition is obviously thanking Tesla for this convenient heads-up, and is hard at work to prepare a competitive response to Tesla's mass-market car, scheduled for production in 2017 and significant revenue ramp-up in 2018 and 2019. That's when the rubber meets the road, when the market impact becomes material.

Until then, however, one way to look at the numbers is to conclude that a competitive response to Tesla before this point has been relatively uninteresting, from the vantage point of the major automakers. Their share of any recapture from Tesla's 2014 sales of 35,000 cars just is hard to defend from a financial standpoint. Too little revenue, too small profit -- indeed a loss. Seen in isolation, their realistic economic return from competing with Tesla in 2014 just isn't attractive.

That's why we have not seen any meaningful direct competition to Tesla to date.

In the coming years, this will change.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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