700,000 Model 3s per Year? Elon Musk Thinks It's Possible

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There's really no way to refute it: Demand for Tesla's (NASDAQ: TSLA) Model 3 is extraordinary. Yes, there's the 455,000 reservations the vehicle has already garnered. But even this massive number fails to capture the level of interest in Tesla's newest vehicle. When investors consider the Model 3's reservation count, they should keep in mind that the electric-car maker has done very little to drive this demand.

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In response to the Model 3's growing demand, Tesla CEO Elon Musk now believes annual demand for the $35,000 vehicle could surpass 700,000 units, up from his previous forecast for 500,000 units. Musk shared his higher projection for demand during a recent meeting with bondholders, following Tesla's decision to raise $1.5 billion of capital in a debt offering, according to Electrek.

But is Musk getting ahead of himself?

Model 3 demand is off the charts

It's easy to see why Musk is optimistic about the Model 3. Tesla shared some surprising insight into the vehicle's demand in its second-quarter report, which was released shortly after the company fully unveiled the Model 3 on July 28. The "customer response to Model 3 has been overwhelming," Tesla said in its second-quarter shareholder letter. Specifically, net reservations for Model 3 have grown to 455,000, and there are now over 1,800 net new reservations per day, on average. Even more, Tesla said the rate of new Model 3 reservations has been accelerating in recent weeks.

Yet Tesla's marketing campaign for the Model 3 is small -- if not nonexistent. Navigate to the Model 3 page on Tesla's website and you'll find merely a statement informing customers that if they reserve a Model 3 today, they will have to wait 12 to 18 months before their delivery. In fact, Tesla uses the page as an opportunity to pitch its more expensive Model S. The company notes that its Model S inventory cars are available for delivery in about 7 days, and custom orders can be delivered in 30 to 60 days. The page also details the Model S' longer range, faster acceleration, free Supercharging (Model 3 uses a pay-per-use model), and larger storage capacity.

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But even without a strong marketing effort, Model 3 orders continue to grow.

Is Musk's projection realistic?

Still, some investors may wonder: Isn't Musk's projection for Model 3 demand getting out of hand? A look back at how Tesla's Model S has fared suggests the CEO's projection for Model 3 demand may be more realistic than some might think.

Shortly after the first Model S deliveries, test drives, and favorable media reviews in 2012, reservations for the vehicle climbed to about 12,200. In its 2012 second-quarter shareholder letter, the electric-car maker boldly proclaimed that this "accelerating pace of reservations makes us confident that demand will surpass 20,000 Model S units for full year 2013 deliveries."

As it turned out, the hype surrounding Tesla's Model S was only just getting started when the company first brought the car to market. Tesla went on to deliver about 22,500 Model S units in 2013, just under 32,000 in 2014, and more than 50,000 in 2015. Today, Tesla's trailing-12-month Model S deliveries are at just over 54,000 units -- far higher than what initial hype for the vehicle signaled. Interest in the Model S gained significant traction through word-of-mouth marketing and a fast-growing list of impressive accolades -- both of which couldn't occur until after production and deliveries had ramped up.

But we're no longer talking about a $70,000 luxury sedan. With the Model 3, Tesla has made its all-electric experience available for just $35,000 -- a price point that appeals to a much larger market. And Tesla has hundreds of thousands of reservations for the vehicle on its books even as it "anti-sells" the Model 3.

Admittedly, Tesla could run into some major detours in its planned production ramp-up, as it aims to go from an annual production run rate of 100,000 units today for all of its vehicle models to a target for 500,000 total units next year. Musk himself has referred to the first phase of the ramp-up as "production hell." Getting Model 3 production high enough to meet demand for 700,000 Model 3s annually could take several years, or even prove to be impossible.

One thing, however, is almost certain: Demand won't be an issue. Tesla has at least done enough to convince me that there's a significant, growing market for compelling electric vehicles -- and that people will eagerly open up their wallets when these vehicles are available at a much lower price point.

Could annualized demand for Model 3 really rise to 700,000 units? I think so. But we won't know for sure until Tesla actually starts putting some meaningful effort into attracting new customers.

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Daniel Sparks owns shares of Tesla. The Motley Fool owns shares of and recommends Tesla. The Motley Fool has a disclosure policy.