Tesla's Model Upgrade Is a Pure Profit Play (BusinessWeek)

A new study shows giant car batteries are likely far cheaper than automakers let on.

Tesla's Model S sedan is now more impressive—and expensive—than ever. The company said on Wednesday morningthat, effective immediately, the Model S will come with a 17 percent larger battery and a 6 percent larger price, as the window sticker on a bare-bones vehicle shifts from $71,000 to $75,000.

From an economic perspective, Tesla's upgrade is a no-brainer. Chief Executive Officer Elon Musk's mantra is that demand is overwhelming, making supply the big problem. The company simply can't turn out cars quickly enough to catch up to orders. Any student of the dismal science will tell you that raising prices is a good way to even out the equation.

But the model upgrade is also brilliant from an engineering perspective. No one really knows how much it costs Tesla to make its batteries, but it's safe to say that expanding capacity of a unit from 60 kilowatt hours to 70 kwh requires far less than the $4,000 price difference Tesla is charging for it. In fact, using a river of electrons to move a few thousand pounds of metal, rubber, and leather may not be as difficult as we think.

In a paper published in Nature Climate Change, a pair of Swedish scientists contend that the cost of producing batteries for electric vehicles is two times to four times lower than consumers have been led to believe. What’s more, that cost is dropping fast—by about 8 percent a year, according to the study. “I realized that the costs couldn’t be as high as many companies stated because the entire value of the car would be in the battery,” says Bjorn Nykvist, study co-author and a research fellow at the Stockholm Environment Institute. “Of course, automakers are quite secretive with all of their components, not just batteries.”

Nykvist and his colleague, Mans Nilsson, examined some 80 different studies and forecasts from a range of sources, including manufacturers, scientists, government agencies, and corporate consultancies. Their math—namely the trajectory of costs over time—suggests that Tesla and others are now building massive car batteries for about $300 per kwh. At that rate, the battery in Nissan’s Leaf, the best-selling electric vehicle in the world, costs about $7,200. An upgrade to Tesla's battery takes the production price from $18,000 to $21,000, leaving an additional $1,000 in profit. It's quite possible that Musk's battery wizards are already producing units at well below $300 per kwh.

The prospect of even cheaper batteries looms, particularly as companies build bigger battery factories. Tesla has promised that the giant battery plant it's building in the Nevada desert—the so-called Gigafactory—will ratchet down battery costs by more than 30 percent. Nykvist, however, thinks Tesla is already well on its way to that goal: Engineers are quickly improving how to pack battery cells in a container, recharge them, and dissipate the heat they generate. “Things are really happening quite rapidly with all of this,” he says.

Assuming a cost reduction of 8 percent a year, the expense of making a car-driving battery will be halved within nine years. At that point, an electric power train won’t be any more expensive to make than a gas-powered engine, the much sought-after tipping point among champions of plug-in vehicles.

Nissan declined to comment on how much it spends on batteries. Spokesman Brian Brockman says the company produces its Leaf “in-house” and considers battery costs proprietary information. Tesla didn’t respond to interview requests.

The company has plenty of incentives to stay mum. Crowing about major battery breakthroughs would incite three reactions that would keep Musk and Nissan CEO Carlos Ghosn up at night: Consumers would demand cheaper cars, competitors would likely speed up plans for their own electric vehicles, and lawmakers would be inclined to put the brakes on subsidies.

Tesla, meanwhile, has promised a “mass-market” version of its super sedan sometime in early 2017, with a window sticker somewhere around $30,000. If the numbers coming out of Stockholm are correct, Musk might solve the equation on such a model far sooner. In the meantime, he has some more profitable vehicles to stamp out.