Tesla’s auto margins recover as operating income falls 56%
Tesla beat third-quarter adjusted earnings expectations as automotive gross margins improved, but rising expenses, lower regulatory credit revenue and battery constraints continued to weigh on the business.
On the Dash:
- Tesla’s automotive gross margin excluding regulatory credits rose to 18.1% in Q3, up from 16.3% in Q2 and 15.4% a year earlier, signaling improved automotive profitability.
- Operating income fell 56% year over year to $718 million as operating expenses climbed 39% to $4.78 billion, despite revenue holding flat at $28.05 billion.
- Tesla said battery availability limited its ability to increase vehicle production, while deliveries declined 2.1% year over year and inventory fell to 11 days of supply.
On October 21, Tesla reported third-quarter revenue of $28.05 billion, essentially flat year over year and in line with Wall Street expectations. Still, operating income fell 56% as spending on artificial intelligence (AI) outpaced improving vehicle margins.
Non-GAAP earnings reached 48 cents per share, topping the 45-cent FactSet consensus but trailing the 50 cents Tesla earned a year earlier. Operating income declined 56% to $718 million, and the operating margin fell to 2.6% from 5.8% a year prior. GAAP net income fell 43% year over year to $787 million, or 22 cents per share, and while that improves on the second quarter’s 1.4% operating margin, profitability remains below last year’s levels.
Margins improve as deliveries beat estimates
The automotive gross margin, excluding regulatory credits, rose to 18.1% from 16.3% in the second quarter and 15.4% in the third quarter of 2025. The EV maker credited regional and product mix adjustments and higher Full Self-Driving (FSD) subscription revenue for the gain, while lower average selling prices partially offset it. Regulatory credit revenue fell 73% year over year to $113 million from $417 million, so the margin excluding those credits offers a clearer view of Tesla’s core automotive performance as the credit stream shrinks.
Tesla delivered 486,532 vehicles in the quarter, a 2.1% decrease year over year but well above Tesla’s company-compiled consensus of 461,974. Production totaled 464,391 vehicles, so deliveries exceeded production by 22,141 units. Tesla said battery availability remains the limiting factor for automotive volume and that it ended the quarter with its largest passenger-vehicle backlog in four years. Inventory fell to 11 days of supply from 15 days in the second quarter. However, average selling prices fell again, complicating the supply-constraint explanation.
Additionally, rising operating costs weighed on earnings, as expenses climbed 39% year over year to $4.78 billion, and research and development spending surged 69% to $2.76 billion as Tesla invested in AI, Optimus and Cybercab. Stock-based compensation rose to $1.17 billion from $663 million a year earlier. Total gross margin improved to 19.6% from 18% a year earlier and 16.8% in the second quarter, but higher expenses offset the gain, explaining the contrast between stronger vehicle margins and weaker operating income.
Services and other revenue rose 33% year over year to $4.61 billion and produced a record gross profit of $734 million, which Tesla attributed to charging, insurance and parts sales. Energy generation and storage revenue fell 16% to $2.88 billion even as deployments grew to 13.7 GWh from 12.5 GWh a year earlier, and Tesla partly blamed tariff-related customer refunds. Deployments still fell short of the roughly 15.9 GWh analysts expected while the energy segment’s gross margin rose to 33% from 20% in the second quarter.
Cash flow & autonomy
Tesla generated $1.53 billion in free cash flow, compared with negative $1.09 billion in the second quarter and $3.99 billion in the third quarter of 2025. Capital expenditures totaled $4.73 billion, more than double the year-ago figure but below the second quarter’s $5.79 billion. The EV maker has spent $13.01 billion on capital projects through the first nine months of 2026, roughly half of the “more than $25 billion” management previously guided for the full year. In a letter to shareholders, it didn’t update its full-year capital spending outlook, leaving the timing of planned investments uncertain. Nevertheless, Tesla ended the quarter with $45.4 billion in cash and investments.