Month: July 2018

Coke, Meth, And Booze: The Flip Side Of The Permian Oil Boom

Authored by Tsvetana Paraskova via Oilprice.com,

The fastest-growing oil region in the U.S. is fueling not only the second American shale revolution – it’s fueling a subculture of drug and alcohol abuse among oil field workers.

The Permian shale play in West Texas is once again booming with drilling and is full of oil field workers, some of which are abusing drugs and alcohol to help them get through long shifts, harsh working conditions, and loneliness and isolation.

Drugs are easily accessible in the Permian, which is close to highways and to Mexico. For oil field workers making six-figure salaries, money is not a problem to buy all kinds of illegal substances to shoot, snort and swallow to get through 24-hour-plus shifts. The physically exhaustive work also sometimes causes aches for workers, making them susceptible to getting hooked on prescription painkillers.

The drug and alcohol abuse subculture in the Permian is a known—yet rarely reported or discussed—issue in the most prolific U.S. shale play, where oil production is booming, and relentless drilling attracts oil field workers from all over Texas and all parts of the United States.

In Midland, in the very heart of the Permian oil boom, The Springboard Center—a drug and alcohol addition treatment facility—has many clients from the oil fields, Christopher Pierce, director of marketing for center, tells Rigzone’s Valerie Jones in an interview.

“We get a lot of clients who work in the oilfield because of where we’re located,” says Pierce, 35, a former oil field worker, and a former addict.

Pierce and The Springboard Center in Midland are now working on building a gated living camp community free of drugs or alcohol for people who want to be in a safe place.

Oil workers are not speaking up at work about their addiction for fear of getting fired, Pierce said, adding that he doesn’t have anything negative to say about the oil industry, which is the backbone of the economic growth in the Permian.

Some oil field workers and contractors use drug cocktails or various substances depending on the condition they seek to achieve during their 24-hour-plus shifts. At the beginning of a long or overnight shift, they would use ‘uppers’ like cocaine and methamphetamines, and finish the shift with ‘downers’ such as prescription medication or alcohol, Kayla Fishbeck, regional evaluator for Prevention Resource Center Region 9, a data repository for 30 counties in West Texas, told Rigzone.

“In Region 9, the most screened drug last year was amphetamines and that was largely in the oilfield,” she said.

Thanks to the oil boom, the unemployment rate in Midland is at a record low 2.1 percent, and the unemployment rate in Odessa is also a historically low of 2.8 percent.

According to Fishbeck, Midland and Odessa are the top two Texas cities for drunken-driving fatalities.

“We hear stories of guys getting off their shift, getting a six-pack or 12-pack on their way home and start drinking in their truck,” Fishbeck told Rigzone. 

The Permian’s drug of choice is crystal meth, a stimulant increasingly supplied by Mexican drug cartels, according to law enforcement officials who spoke to the Houston Chronicle in May.

There is a strong correlation between the rise of drilling activity and the number of crystal meth seizures by authorities in the Permian area, Houston Chronicle’s cross-analysis of data from the Texas Department of Public Safety and the rig count shows.

Eddy Lozoya, a former oil field trucker and a recovering addict at 23, has recently found a job at a local department store selling shoes. At least for the next few months, he doesn’t plan to return to the oil field.

“I don’t see myself being able to work 100 hours a week sober,” he told the Houston Chronicle. “The oil field is tough.”

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Pending Home Sales Slump For 6th Straight Month As “Affordability Constrains Would-Be Buyers”

After disappointment for new- and existing-home sales (as well as starts and permits), pending-home-sales managed to rebound from May’s drop, rising a better than expected 0.9% MoM.

The month-over-month gain in contract signings was broad-based with all four major U.S. regions showing gains. Meantime, Portland, Oregon, Seattle and San Jose, California, were among several cities showing big increases in new listings, according to the NAR. While the pickup in inventory is welcome and could help bring down prices, the group says more supply is needed to meet demand.

However, pending home sales fell 2.5% YoY – the 6th straight month of declines. (down 4./0% on a NSA basis)…

“The positive forces of faster economic growth and steady hiring are being met by the negative forces of higher home prices and mortgage rates,” Lawrence Yun, NAR’s chief economist, said in a statement.

“Even with slightly more homeowners putting their home on the market, inventory is still subpar and not meeting demand. As a result, affordability constraints are pricing out some would-be buyers and keeping overall sales activity below last year’s pace.”

As a reminder, economists consider pending sales a leading indicator because they track contract signings. Purchases of existing homes are tabulated when a deal closes, typically a month or two later.

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Why Rand Paul Is ‘Very Concerned’ About Brett Kavanaugh and the Fourth Amendment

“I am honestly undecided. I am very concerned about his position on privacy and the Fourth Amendment.” Those are the words of Sen. Rand Paul (R-Ky.), speaking to Politico last week about whether or not he will vote to confirm Judge Brett Kavanaugh to a seat on the U.S. Supreme Court. With the Senate currently divided almost equally along party lines, Paul’s vote on the Kavanaugh nomination could prove decisive.

“Kavanaugh’s position is basically that national security trumps privacy,” Paul observed. “He said it very strongly and explicitly. And that worries me.”

Paul has reason to be worried. In 2015, Judge Kavanaugh argued that the federal government’s wholesale warrantless collection of every Americans’ telephone record metadata does not violate the Constitution. “In my view,” Kavanaugh wrote, “the Government’s metadata collection program is entirely consistent with the Fourth Amendment.”

Furthermore, Kavanaugh continued, “even if the bulk collection of telephony metadata constitutes a search,” the program is still permissible because the Fourth Amendment “bars only unreasonable searches and seizures. And the Government’s metadata collection program,” he asserted, “readily counts as reasonable” because it “serves a critically important special need—preventing terrorist attacks on the United States.” He concluded: “That critical national security need outweighs the impact on privacy occasioned by this program.”

Such views would seem to put Kavanaugh directly at odds with Paul, who has made a name for himself in the Senate as a prominent voice in favor of broad Fourth Amendment protections.

During his 2013 filibuster over domestic drone strikes, for instance, Paul faulted the Bush administration for “wiretap[ping] phones without a warrant.” Paul then applauded President Obama for saying that “we should have warrants before we tap people’s phones and that we shouldn’t be trolling through people’s records.”

In that same filibuster, Paul lambasted his fellow conservatives for failing to take the Fourth Amendment seriously. “I always kind of joke that if you go to a conservative meeting and you talk about the Second Amendment, everybody pats you on the back and they all love you—until you get to the Fourth Amendment.” But as Paul explained, such conservatives only reveal their constitutionally illiteracy. “How are your guns going to be protected if they can come in your house without a warrant? You have to have the Fourth Amendment.”

Two years later, when he filibustered against the reauthorization of the Patriot Act, Paul doubled down on his Fourth Amendment advocacy while sharply criticizing warrantless government surveillance and bulk metadata collection.

“Is the standard to be if you have nothing to hide, you have nothing to fear but that everything should be exposed to the government, that all of your records can be collected?” Paul asked. His answer: “The bulk collection of all Americans’ phone records all of the time is a direct violation of the Fourth Amendment.” Paul was referring to the very same government program that Kavanaugh described as “entirely consistent with the Fourth Amendment.”

To be sure, it is possible that Kavanaugh has changed his mind about the underlying constitutional issues and now regrets writing that opinion. If so, that would be a welcome development. The members of the Senate Judiciary Committee should press him during his confirmation hearings to further explain his views on this crucial legal matter.

The future of the Fourth Amendment is one of the most significant issues facing the Supreme Court. Given his judicial record in this area, Brett Kavanaugh has given Rand Paul and other critics cause for concern.

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Government Spying While You’re Flying Is Getting Worse: Reason Roundup

A grim picture of privacy and civil liberties at the airport. Under the “Quiet Skies” program, federal air marshals are targeting people who “are not under investigation by any agency and are not in the Terrorist Screening Data Base,” according to an internal Transportation Security Administration (TSA) bulletin from March.

These agents “have begun following ordinary US citizens not suspected of a crime or on any terrorist watch list and collecting extensive information about their movements and behavior,” reports The Boston Globe. The memo says the program aims to catch threats “posed by unknown or partially known terrorists,” but insiders say there’s little consistency or criteria for how or why travelers get tracked.

TSA officials would not confirm to the paper that the program exists. But documents reviewed by the paper show that “thousands of unsuspecting Americans have been subjected to targeted airport and inflight surveillance, carried out by small teams of armed, undercover air marshals,” writes the Globe‘s Jana Winter.

Signs of suspicious behavior include:

  • being “abnormally aware of surroundings” (which apparently includes things like boarding last or watching the boarding area “from afar”);
  • exhibiting supposed “behavioral indicators” of up-to-no-goodness (including sweating, having body odor, rubbing one’s hands together, face touching, or “other”); and
  • sleeping on a flight, either “briefly” or “for most of” it.

Federal agents are also instructed to take notes on whether a traveler has lost or gained wait, changed his or her hair style, shaved, grown a beard, or gotten any tattoos or piercings since last being spied on; whether a traveler checked baggage; whether a traveler possessed a phone and or computer; whether a traveler left the airport via tax, bus, private vehicle, public transit, or a rental car; and how many times he or she go to the bathroom. Winter adds:

Deploying air marshals to gather intelligence on civilians not on a terrorist watch list is a new assignment, one that some air marshals say goes beyond the mandate of the US Federal Air Marshal Service. Some also worry that such domestic surveillance might be illegal. Between 2,000 and 3,000 men and women, so-called flying FAMs, work the skies.

It’s not just federal employees who are spying while you’re flying. The Department of Homeland Security has been training airline and airport staff on how to “spot the signs” of human trafficking, with a list about as asinine and broad as the above TSA criteria. So far, this has led to an array of travelers getting harassed and detained because some airline attendant had a “hunch” that interracial families are probably human traffickers.

The latest example, told in full absurdist splendor by the Daily Mail, involves Hawaiian Airlines flight attendant Wesley Hirata informing the authorities that there was an Asian man with three Caucasian girls on a flight. The Mail calls Hirata and her colleagues “heroes” for “alerting cops to [a] human trafficking suspect who boarded a flight with three young girls.”

Two of the “young girls” were adults. The FBI investigated and found no evidence of anything bad going on. “Regardless,” the Mail reports, “Hirata has said he’s pleased” with himself for calling the FBI on some totally innocent travelers.

FREE MARKETS

Why you can’t download 3D-printed gun plans in Pennsylvania. After Texas nonprofit Defense Distributed published plans for 3D-printing an AR-15 semiautomatic rifle, Pennsylvania authorities filed a lawsuit trying to block residents from downloading the it. In an emergency hearing least night, a federal court agreed that Defense Distributed should block Pennsylvanians from accessing the plans, at least for now.

“In New Jersey, officials also had sought to block downloading of the plans for that state’s residents by means of a cease-and-desist letter,” notes The Inquirer. “But Defense Distributed challenged that effort on Sunday by filing a federal lawsuit in Texas.”

Defense Distributed Director Cody Wilson told the paper: “Americans have the right to this data. We have the right to share it. Pennsylvania has no right to come in and tell us what we can and can’t share on the internet.”

FREE MINDS

New lawsuits accuse federal immigration facilities of quashing freedom of religion. Public defender Lisa Hay filed the suit on behalf of 123 asylum-seekers intercepted by Immigration and Customs Enforcement agents on May 31 and taken to the Sheridan Federal Correctional Facility in Sheridan, Oregon.

The suit claims that the prison is refusing to allow religious accommodations for Sikh and Hindu detainees. “The Sikh detainees have not been allowed to wear turbans and instead have either been uncovered or forced to make do with towels, t-shirts, hats, or other inadequate coverings,” states the suit, and Hindu prisoners are reportedly being denied religious texts.

Hay has also filed petitions on behalf of many of the asylum seekers, alleging a litany of abuses and poor conditions at the facility.

“Here we have come to save our lives but I think we will die here in jail,” one asylum-seeker is quoted in an affidavit.

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Pre-Market ‘Pump’ Becomes Opening-‘Dump’ As FANGs Falter; Dollar, Bonds Slump

So much hope, gone.

Are Treasury yields spooking stocks again?

 

Futures were pumped non-stop from the mid-session in China to the cash open in New York, and then dumped…

All of The FANG stocks are lower, dumped at the open, with Amazon back below its pre-earnings close…

 

Furthermore, the dollar is tumbling..

But, but, but GDP!!

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Gartman: “We Are Concerned About The Demise of the FANGs

Having correctly predicted that deluge of selling by Mark Zuckerberg ahead of Facebook’s dismal results, which he said was a flashing red warning sign, Dennis Gartman is back this morning with a new warning. Whereas he recently noted that the Dow may break out to 30,000 in the near future, the “commodity guru” is less sanguine today about the market’s prospects, and warns that broad market liquidity is emerging as a potential risk to stock euphoria (hardly a new warning in the time of Quantitative Tightening), while cautioning that “we are concerned about the demise of the FANGs.”

And no, there are no directional recos today.

The key excerpt from his note is below:

LIKE WILEY COYOTE AND THE REAL SOURCE OF LIQUIDITY: We are rather doctrinaire Monetarists here at TGL and because we are we do put a great deal of importance into the Fed St. Louis Adjusted Monetary Base for that is, as we’ve always said, the “stock” from which the broader “soups” of the monetary aggregates are derived. This is where the Fed’s true footprints are left behind and as the chart this page makes very, very clear, the AMB peaked in mid- April of ’15 at $4.268 trillion dollars. It was, at its last mark last week, down to $3.670 trillion, or -16.3% from its peak… a material decline.

Further, as evidenced by the chart this page, the trend line toward an increasing AMB that extends back into mid-’09 has been broken. Having held that line four times previous, the fact that it has been broken is of very real… very material… importance. The Fed had been freely and aggressively supplying reserves to the system for years, but since mid-’15 it has stopped doing so.

Further, we are again very concerned that since mid- ’09, the currency component of M1… which is incumbent in the AMB… has risen from $800 billion to nearly $1.6 trillion. Why, one might ask, are we concerned about this steady, inexorable, rise in the currency component of M1? Because cash is deflationary. Cash is lost to the banking system. Cash is not reserved for and re-lent; it is outside of the reserve banking system and this only serves to make our concerns about the decline in the AMB all that much more serious.

So, as intimated above in our discussion of the equity markets, we are concerned about the demise of the FANGs; we are concerned about the weekly “reversals” to the downside; we are concerned that the CNN Fear & Greed Index has turned down after having gotten above 60, but most of all we are concerned that the fuel for the bull market… the Fed’s expanding monetary base… is no longer expanding but has been, for the past several years, contracting.

Stocks have been rising despite the three-year contraction in the AMB, but like Wiley Coyote in the comics who always ran out and over the cliff, eventually to collapse in a heap once his forward momentum had halted, we fear the same for equities. Be careful out there… please!

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Turkish Lira Resumes Freefall After Erdogan Theats

It now costs more than 4.9 Turkish Lira to buy a US dollar once again as President Erdogan’s ‘threats’ that his country will not “make a step back” and that the US will lose a “strong and sincere ally” if President Trump imposes “large sanctions”  until the pastor is freed.

Speaking to the local media, Erdogan said “you can’t make Turkey take a step back with sanctions”, and accused Trump of waging a “psychological war,” the Daily Sabah reported.

Erdogan also said that the US “should not forget that it will lose a strong and sincere partner” if “the U.S. does not change its stance” regarding pastor Brunson.

“Instead of respecting the ruling they are making this a matter of sanctioning Turkey.”

As we noted previously, the drama over the fate of the US pastor escalated after US Congress banned the shipment of F-35 stealth fighter jets to Turkey amid objections over Turkey’s plans to buy S-400 surface-to-air missile systems from Russia. Erdoğan’s government said it was adamant on pushing ahead with the purchase of the American fighter jets, and the Turkish president said he would seek “justice by international arbitration” if the US fails to deliver the fighter jets.

Another key topic of disagreement between the US and Turkey is the fate of Iranian oil imports: Turkey, a long-time client of Tehran, has been resisting US pressure to stop importing Iranian crude which the State Department has demanded its allies do by November 4. Ankara believes that US foreign and economic policy decisions are not binding for Turkey, arguing that any Iranian sanctions must be conducted under the UN-mandated international law.

While the timing and nature of potential sanctions remain uncertain, Bloomberg notes that investors are bracing for any developments that would slow the flow of funds into Turkey and pressure the currency which is already flirting with a record low against the dollar. Turkey relies on short-term portfolio flows for a large percentage of its financing needs, and a further slide in the lira threatens to fuel inflation and hamper companies’ ability to pay back their foreign-currency debts.

“I think the pair will easily test and surpass the all-time high near 4.9745,” said Win Thin, a strategist at Brown Brothers Harriman & Co., adding that the central bank may call an emergency meeting if the pressure on the currency intensifies.

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As Anxious-August Looms, One Trader Explains Which Way Markets Are Leaning

Whether it’s the “storm” of news this week, or August’s anxiety strewn wasteland of low liquidity, high potential chaos events, former fund manager and FX trader Richard Breslow warns, “markets are beckoning traders to come out and play” and as we wait with bated breath to see what happens, here is which way markets appear to be leaning in anticipation…

via Bloomberg,

The most glaring marker is that global bond yields all look like they want to test higher.

A “will they, won’t they” JGB market appears to be salivating to test the BOJ’s yield curve suppression strategy. If you think the 10-year Japanese yield is pushing on its ceiling, just look at the longer durations.

German bunds are doing their bit. So much so that the spread to Treasuries is in danger of tightening instead of breaking out above 260 basis points. The chart says that this is a very tradable level.

We either fail here with all of the implications it will have for relative equity and currency plays or validate the flag pattern that EUR/USD is tracing out. For a market that has been going sideways, it is showing animal spirits rather than lack of interest.

And say what you will about the U.S. 10-year not being able to get above 3%, it isn’t backing off either. And I have to say, if one more person says last Friday’s GDP number was a miss, I might be tempted to be impolitic.

Equity markets seem to be at some sort of crossroads. They have by and large traded well but look very iffy and suddenly undecided. I don’t necessarily see last week’s price action as a failure in the S&P 500 above 2825 as much as a get back to neutral before the data move.

But that remains an important pivot level that must be taken out again forthwith or be looked at in retrospect as a bridge that was too far. And that can be said for a whole range of major indices globally. It’s actually set up to be a fairly straight-forward trade as the chart points are rather obvious and not very far away.

The Bloomberg Commodity Index is valiantly trying to rally. Everyone I hear from is getting all bulled-up on oil prices again. Here’s an easy one. My pivot is only 0.25% above here. Given last Thursday’s price action, I’d be ever-so cautious thinking it is a lay-up trade.

Oddly enough, the dollar is the least interesting trade out there. I’m, temporarily, agnostic. It’s a strange way to fight a currency war. I’m a closet bull, but willing to wait. It should be higher and isn’t and that bothers me.

As Breslow concludes, this is going to be an interesting week, and there is no shortage of assets in play. This isn’t shaping up to be an old-fashioned quiet August.

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Gold Bell Rings: Vanguard Throws In The Towel On ‘Precious Metals & Mining Fund’

Authored by Mike Shedlock via MishTalk,

Vanguard just threw in the towel on a Metals and Mining Fund. It morphs into a Global Capital Cycles Fund.

Sentiment is not a timing mechanism, but gold bearishness is mounting in a market that has gone sideways for years.

Vanguard couldn’t take it any more.

This may not be “the bell” but it is a bell. Despite the recent declines, many miners are up tremendously off the lows.

Newmont

​

Hey, let’s throw in the towel and buy something that trending. Maybe we should short gold. Facebook sure looked attractive last week.

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Goldman Slams Tesla: “Customer Enthusiasm For Model 3 Is Waning”

One month ago, following the latest negative note from Goldman’s auto analyst David Tamberrino, Elon Musk decided to take it personally and in a leaked memo to his employees, said that Goldman is “in for a rude awakening 🙂“

With Tesla stock sliding 15% since then, it is not exactly clear who has had a more rude awakening, the bulls or bears, but in having kept silent for the past month, Goldman (which has a Sell reco and a $195 PT on TSLA), has come out with another negative note on Tesla, just two days before Tesla’s Aug. 1 earnings, in which Goldman details the key investor questions and recent debate on the stock from its conversations with clients.

As Tamberrino writes, “the key focus areas revolve around (1) sustainability of Model 3 production, (2) pace and demand-variants of Model 3 order conversion, (3) margin improvement potential, and (4) FCF burn.“

More importantly, for the first time, the Goldman analyst introduces a new analysis on Model 3 sentiment based off social media posts. “This stems from our work on Model 3 order conversion and customer reception.”

And the punchline: “Ultimately, we believe the data potentially points to waning customer enthusiasm for the vehicle as order availability and test drives have increased.“

We expect another very angry Elon Musk memo to be “leaked” shortly.

* * *

With that out of the way, here is Goldman’s Q&A on several key questions relating to the Model 3 roll out:

1. Post the 5k/week Model 3 production achievement in the last week of 2Q, how is the run-rate so far in 3Q?

We track VIN registrations closely for the Model 3, and following the end of 2Q18 the company has registered another 20,700 VINs. With historical conversion from VIN figures to production numbers (as of the end of 2Q18, TSLA had 56k VINs registered and produced 41k Model 3s), we believe this implies that TSLA has produced approx. 15k vehicles in the past four weeks. This essentially equates to a production figure of approx. 4,000/week. We believe questions on the conference call will focus on the sustainability and potential to increase this rate up to (and possibly beyond) the 5,000/week rate – and what the company eventually does with its GA4 assembly line. The sustainability of this rate – particularly without the aid of the GA4 tent assembly line (which produced 20% of the 5,000 vehicles in the last week of 2Q18), is important as it potentially sets the company up for positive FCF in 3Q18 as well as potential for putting incremental capex into Model 3 assembly to increase the production rate to the 10,000/week target – timing for which has been uncertain after the production delays in late 2017/early 2018.

Are reservation holders converting?

As production improves for the Model 3, our conversations with investors have quickly shifted to (1) reservation conversion to orders, (2) demand by Model 3 variants, and (3) new order rates. With TSLA offering Model 3 variants starting at the $49,000 price point – with options that can take the price up to $80,000 – investors question how many of the 420,000 reservation holders will convert at those higher price points (given the vehicle was originally offered with a base price of $35k). Further, investors have questioned the pace of reservation conversion given the company’s advertised wait times for the Model 3 on the website, quoting 2-4 months from order to delivery – suggesting reservation holders may not be converting immediately.

As we have detailed in the past, we believe that the company could convert approx. 23% of its reservation holders to higher price variants —per our price elasticity of demand analysis on the US sedan market (Exhibit 1). This would imply that approx. 100,000 reservation holders could opt for a vehicle with an average selling price around the mid-to-high $60k range. However, this would imply a vast majority of reservation holders could be waiting for availability of a lower price Model 3 variant.

To help further inform our perspective, we discussed initial customer preferences with various Tesla sales personnel in different regions across the US. What we learned is that most areas have recently received (in the past few weeks) a Model 3 that they can offer for test drives. Most stores are still working through reservation holders within their respective areas, but foot traffic to view the vehicle has increased. Interestingly, customers coming to check out the Model 3 arrive in all types of vehicles – with some looking to potentially trade-up from a Camry or a Civic, others looking to swap out of a 3-Series or a C-Class, while others are looking to trade down (with some noting Model S owners are looking to move into a smaller sedan). Altogether, it appears interest in the vehicle still remains high (at least anecdotally) – particularly as the Model 3 began to hit stores. However, what remains unknown – and hopefully communicated with 2Q18’s earnings release, is how new Model 3 order rates are trending.

Lastly, we also looked to gauge sentiment on the Model 3 with an analysis based on daily Twitter and Reddit posts (Exhibit 2). Posts are categorized into basic positives, basic negatives, and neutral buckets. We then subtract the number of negative posts from the positive posts and divide by total posts to develop the sentiment skew within social media. From the data, we see a few trends:

  1. Weekly posts about the Model 3 are declining: with 2016 averaging 4,400/week, 2017 averaging 3,900/week, and YTD 2018 averaging 3,000/week;
  2. Positive skew has faded: with 2016 carrying a +18% positive skew, 2017 a 12% positive skew, and YTD 2018 tracking at a 4.5% positive skew;
  3. With the recent increased availability of the Model 3 and increased production, we note a lack of peak (which would indicate significant buzz around the product) in social media posts;
  4. Lastly, we find that sentiment has recently declined from a slightly positive skew (i.e., from +5% in 1H18) to a slightly negative skew the past few weeks 0 corresponding with the time period where the vehicle began to hit stores and orders were opened to all.

What is the scope for material cost reduction?

Before (and certainly after) the news reports (from various sources, including Bloomberg and Reuters) that TSLA was  looking for refunds from its suppliers, investors were digging into potential material cost reductions for the Model 3. This comes as the expected growth in Model 3 production would drive increased parts orders from suppliers, and potentially kick in price reductions as certain minimum order quantity thresholds were met. This is typical of a supplier/OEM relationship, where (1) economies of scale and/or (2) new business opportunities (i.e., RFPs for new vehicle programs) are used by OEMs to extract price savings from its supply base. Normal annual price downs can range from 1% to 3%, depending on how commoditized a part is – and potentially higher depending on over-supply within the market. Further, ‘quick savings’ granted from suppliers to OEMs can come as a part of new business awards – where suppliers trade-off price on existing contracts in order to help win new business. For TSLA, the company very likely should achieve contractual price downs as its volumes increase – though the volume thresholds are unknown. That said, with original targets for production of 5k/week exiting 2017 and 10k/week exiting 2018, we believe TSLA is likely behind on its potential for volume break-points with its supply base. As a result, the sequential improvements we forecast in 2018/2019 for Model 3 gross margins are largely driven by a reduction in man-hours per vehicle produced – with achievement of targeted 25% margins on the vehicle further out as volumes continue to ramp.

Last but not least, How much cash will the company burn in 2Q?

Lastly, investors question the ending cash balance and the company’s potential need for a capital raise. As most have  picked through the delivery release, the large increase of vehicles in transit sticks out as a potential working capital headwind for the quarter. This should be somewhat offset by the favorable cash conversion cycle on US Model 3 deliveries. However, altogether with an incremental 9,000 vehicles in transit at the end of 2Q18, we forecast working  capital to be a $170mn headwind for the quarter. This puts our FCF estimate (traditional definition) at a $930mn burn in 2Q18 and an adjusted FCF (TSLA definition, including auto/solar lease added back) burn of $620mn; as a result, we forecast the quarter-ending cash balance to be approx. $2.2bn. Looking ahead to 3Q18, we do forecast working capital to be a major positive (+$590mn from the Model 3) – helping the company show positive FCF; however, we see this unwinding to some degree in 4Q18 and still expect the company to raise capital in order to maintain a cash balance above $2bn.

What does all this mean for Tesla and Goldman’s forecasts? This is how the analyst has revised his estimates and assumptions:

  • 2Q18 actual deliveries —where Model S/X deliveries were n slightly below our estimates but Model 3 deliveries fell a few thousand short (our 2Q18 delivery recap note);
  • Improved Model 3 weekly production in 3Q18 and beyond – we now forecast TSLA sustaining 4,000/week in 3Q, improving to approx. 5,000/week in 4Q;
  • Lowered Model S / X deliveries – we now forecast slightly softer demand internationally, primarily as a result of the price increases announced in China; our full year Model S/X forecast of 90k falls below the company’s guidance for 100k;
  • Slightly lower gross profit margins – the combination of increased manual labor, the incremental production lines, and FX headwinds from the Euro and RMB;
  • Lowered SG&A profile – stemming from the company’s announced headcount reductions, we now forecast a reduction from 1H18 to 2H18 in SG&A expense as well as re-base future expense creep;
  • FCF estimates are also lowered for the quarter on a use of working capital – primarily due to the large increase of vehicles in transit at the end of 2Q18; we now forecast TSLA’s adjusted FCF burning $600mn in the quarter – leaving approx. $2.2bn in cash at the end of 2Q18. For the year, we now estimate a $1.5bn cash burn – and continue to forecast a capital raise in 4Q18a

With all that in mind, Goldman writes that “the net result of this is an increase to our 2018 and 2019 EBITDA estimates, but a reduction to 2020 and 2021.”

For the next two years, a faster ramp in Model 3 production/deliveries and lower SG&A expense accrue to the bottom line of our forecast (GS EBITDA +11% on average). However, in 2020 and 2021 the lower volume trajectory and margin profile for the S/X slightly reduce our estimates (down an average 6%). For 2018 EBITDA, we are still 15% below FactSet consensus – and our 2019 through 2021 EBITDA is an average 30% below the Street.

But the real take home here is that Musk will only focus on Goldman now using twitter to gauge enthusiasm for the Model 3. As such expect a lot of fake troll accounts to be created somewhere in Myanmar praising the electric vehicle at a rate of 60 tweets per minute, or whatever the clickfarm rate is these days.

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