Tesla unveils first quarter-on-quarter decline since 2020 as Elon Musk ‘disappoints’ Wall Street bulls

Elon Musk couldn't pull a rabbit out of a hat after all. Third-quarter vehicle sales at Tesla fell well short of expectations, with the carmaker suffering its first quarter-on-quarter decline since production of the Model Y started in January 2020.

Deliveries dropped to just over 435,000 in the three months through September, down 6.7% compared to the period preceding it. The carmaker blamed the sequential decline on the upgrades to its manufacturing plants Musk flagged during the second-quarter earnings call.

"Even when factoring in the factory shutdowns with no rose-colored glasses, Tesla clearly missed the Street with bulls left disappointed," said Dan Ives, managing director for equity research at Wedbush Securities.

Hopes now rest on the launch of the all-new Cybertruck and a refreshed version of the Model 3 sedan—long in the tooth at over six years old—to end the year on a strong fourth quarter.

"We see better days ahead," Ives argued.

The stock sold off initially but caught itself soon after as the company affirmed its guidance for production of around 1.8 million vehicles this year remains unchanged. That leaves another 450,000 to be built and ideally sold in the final three months—a feat that is certainly feasible.

Investors closely track production and sales down to each ship leaving the port of Shanghai bound for overseas markets. The company's website is additionally scoured for any information on the size of its unsold inventories. But Tesla itself only publishes figures on an aggregated global basis once a quarter, so it wouldn't have been a first had Musk's team surprised on the upside.

Consensus estimates compiled by Tesla’s own investor relations department and published on Friday had suggested the market anticipated deliveries to customers during the three months through September to drop sequentially to 454,809 vehicles.

Whereas Wall Street once worried more about production than sales, the focus has shifted to sales as fears have since arisen that demand at current prices is tailing off and more discounting is needed.

Tesla reached out to analysts to temper expectations

Investors initially had hoped any decline in volume would not impact deliveries and merely be limited to production, as flagged by Musk during the second-quarter earnings call.

Tesla had plenty of vehicles they could sell from stock, with supply globally in the second quarter jumping to 16 days from just four a year earlier, when they were still capacity-constrained.

Musk furthermore offered incentives to encourage demand, including a “one-time amnesty” for existing owners to transfer their Full Self-Driving software package to a new car when trading in their old one. He followed that up with hefty price cuts for his high-end S and X models that slashed the price of their latest Plaid versions by $20,000 a car.

Optimism that sales could be spared took a dent in early September, after analyst meetings indicated the company was quietly guiding analysts toward a drop in deliveries as well (Musk did caution in May that Tesla is not immune from credit drying up amid soaring interest rates).

The weak Q3 result breaks a streak of uninterrupted growth at the company. Excluding last spring's strict lockdowns in China, Tesla increased volumes sequentially from one quarter to the next even during the first wave of the pandemic—a remarkable feat given the traditional seasonality in the car business.

This time the company shut down production on its own for a brief period during the third quarter in order to flush out remaining Model 3 inventory and retool its Chinese factory in anticipation of building the sedan’s refreshed version, internally dubbed Project Highland. This is a major reason bulls were already willing to dismiss Q3 volumes as an anomaly.

Should this planned runoff of the Model 3 sedan largely be to blame, as analysts anticipate, the company may yet reach its guidance of around 1.8 million cars sold this year as the tag team of a refreshed Model 3 and the hotly anticipated Cybertruck reignite demand.

Mini-refresh for the Model Y in China

Their arrival comes just in the nick of time.

Three of Tesla’s four cars launched in mid-2017 or earlier, making them older than virtually any other new EV on sale today. The semi-commercial truck, despite its much-ballyhooed delivery event last December, is undergoing a kind of glorified field testing with client Pepsico, and only a few dozen have been built.

Problems generating enough demand began to arise for the first time late last year, when Tesla went from being short of supply to suddenly finding itself stuck with an overhang of capacity that forced it to slash prices in order to prevent bloated inventories.

These cuts came at a cost, however. Tesla’s auto gross margin fell below that of its energy business for the first time in the second quarter.

Keen observers would note that Tesla stopped publishing the auto gross margin in its shareholder deck at the start of this year, coinciding with Musk’s flurry of price cuts.

Potentially more important for demand going forward is the effect this has had by angering its loyal customers. Those owners who bought a new Tesla when demand peaked and financed their purchase could be underwater on their car loan.

Nevertheless, in a worrying sign of flagging demand in China, Tesla appears to have rushed out a mini-refresh for its Model Y that includes ambient lighting, different rims, and faster acceleration for free.

This story was originally featured on Fortune.com