Tesla's Q3 operating profit halves to $720 million; Musk leans on SpaceX merger to support valuation

[[**Tesla's Q3 2026 operating profit halved to $720 million, the core auto business stagnated, and Musk is propping up the valuation with a SpaceX merger story, but Chinese automakers are closing in on all fronts.**

**Key points**

**1. Auto profit halved**

Q3 deliveries were 486,500 units, down 2.1% year over year; revenue was $28.05 billion, flat; operating profit halved to $720 million. Excluding regulatory credits, gross margin was 18.1%, but R&D spending rose 69%, and the capex target was cut.

**2. SpaceX merger supports valuation**

Musk confirmed that both boards are evaluating a merger, with a combined valuation of about $3.5 trillion; SpaceX revenue rose 161% and net profit was $4.4 billion. The deal requires approval from more than half of Tesla shareholders and is not yet settled.

**3. Chinese automakers closing in on all fronts**

BYD's first three quarters of BEV sales reached 1.63 million units, more than 300,000 ahead of Tesla; its auto gross margin of 22.3% is higher than Tesla's 18.1% excluding credits. Xiaomi YU7 surpassed Model Y in a single month, and Tesla's China ranking fell to sixth.

**4. FSD advantage window narrows**

FSD subscriptions reached 1.74 million, up 67% year over year, with a 90% gross margin—recurring revenue that Chinese automakers lack; but Chinese automakers are competing for the market with faster hardware iteration, putting pressure on the software story. 2026-10-22 13:01 Tesla, with profit halved, needs a rocket to save it? Dingjiao One quick look

This article is from the WeChat public account: Dingjiao One, author: Dingjiao One team, editor: Wei Jia

Musk is telling a new story again, this time a Tesla and SpaceX "merger."

At dawn Beijing time on October 22, Tesla released its Q3 2026 financial report: deliveries of 486,500 units, about 5% above market expectations, but still down 2.1% year over year; total revenue of $28.05 billion, almost identical to the same period last year; auto revenue down 3%; operating profit halved year over year to $720 million.

Meanwhile, SpaceX had just reported quarterly revenue growth of 161% and net profit of $4.4 billion, with AI business revenue up 830% year over year. The stock rose nearly 8% the next day, and JPMorgan doubled its target price from $240 to $500.

The day before Tesla released this financial report, Musk confirmed on a SpaceX conference call that the boards of both companies had each set up special committees to evaluate a merger. On the call, Musk listed five major synergy areas after the merger: superintelligent software, chip design, Terafab, robotics, and Starlink connectivity. Cars are just one data-collection terminal in this puzzle.

When selling cars falls into red-ocean competition, the most rational strategy is not to keep fighting but to shift the battlefield to a place where one still has an absolute advantage. This is a strategy Musk has used repeatedly: whenever the car-selling business is questioned, he throws out a bigger story. When European sales collapsed in 2025, he talked about Robotaxi; when deliveries fell for the first time this year, he talked about Optimus mass production; now that profit has halved, he is talking about merging with the rocket company.

Thanks to the "merger" news, Tesla rose 2.2% after the financial report, but after the conference call ended, the stock turned lower, with after-hours losses once widening to 2.5%. The main reason for the decline was that the call lowered the full-year capex target from over $25 billion back to over $20 billion; Tesla's capex this quarter was $4.73 billion, 40% below market expectations of about $7.95 billion. There was also good news this quarter: free cash flow turned positive at $1.53 billion, while the market had expected negative $4.99 billion.

How should the capex cut be understood? An investor following Tesla told "Dingjiao One" that, on the bright side, Tesla is starting to live within its means and no longer spending lavishly; on the dark side, money is being spent more slowly, indicating that the profitability timetable for these new AI businesses will also be pushed back.

Whether or not the merger happens, Tesla must answer the old question about its core business: BYD's cumulative BEV sales in the first three quarters lead Tesla by more than 300,000 units, Xiaomi YU7 has repeatedly surpassed Model Y in domestic segments, and how deep is the moat in autos?

01. Gross margin rebounds, profit halves

Tesla 2026 Q3 results

Total revenue this quarter was $28.05 billion, almost identical to the same period last year, but the business structure changed. Auto revenue fell 3%, mainly dragged down by lower average prices year over year and fewer deliveries, partly offset by add-on sales driven by FSD subscriptions; energy storage fell 15.6%, the only segment below expectations this quarter, but the conference call revealed that energy storage gross margin rose from 20.4% to 33.1%, and 2027 Megapack capacity is almost sold out; services and other revenue rose 32.5% to $4.61 billion. FSD subscribers reached 1.74 million, a net increase of 260,000 in the quarter, the fastest growth yet.

It should be noted that vehicle deliveries this quarter were 486,500 units, beating expectations, but there was some "water" in that. Of these, 22,000 units came from drawing down inventory, and actual production was only 464,000 units.

The rebound in auto gross margin was the biggest highlight. Excluding credit revenue, the auto business gross margin reached 18.1%, up nearly 2 percentage points from the second quarter. More importantly, "free-money" carbon credit revenue was only $113 million this quarter, down 73% year over year, meaning the gross margin improvement came almost entirely from selling cars themselves.

A rough per-vehicle calculation: excluding credits, gross profit per vehicle sold was about $7,600, about $700 more than the previous quarter. This came from a higher share of high-priced models such as the Model Y long-wheelbase version and an improved product mix.

The car-selling profitability is recovering, so why did operating profit still halve? Because Tesla is burning too much cash. Operating expenses rose 39% year over year to $4.78 billion, of which R&D spending surged 69% to $2.76 billion, burning $30 million a day on average. That money went to AI projects, Cybercab and Optimus production preparation. There was also $1.165 billion in stock-based compensation, the bulk from the 2025 CEO pay package. Do the math: if expenses were pulled back to last year's level, operating profit this quarter would have grown.

On the earnings call, Musk's expectation management for Optimus was noticeably conservative. He said the production ramp would be quite bumpy, "there are ten thousand things that must go right, and progress depends on the slowest one of them," and he expects these problems to be fully resolved only by the end of 2027. Robotaxi is similar; Tesla repeatedly says the precondition for expansion is safety, but rival Waymo has already driven its robotaxis into 15 US cities, with a fleet of about 4,000 vehicles and 500,000 paid rides per week. Is Tesla unable to beat its rivals? The market has begun to doubt it.

02. BYD, Xiaomi, Leapmotor: Chinese automakers closing in on all fronts

Fifteen years ago, in a Bloomberg TV studio, a reporter asked Musk what he thought of BYD as a rival. Musk shot back, "Have you seen their cars?" Fifteen years later, BYD's BEV sales have surpassed Tesla's globally for two consecutive years, and in the first three quarters of 2026 its cumulative sales (1.63 million vehicles) lead Tesla (1.325 million) by more than 300,000.

Beyond overtaking in sales, China's leading automakers are also speeding up in profitability and product iteration speed.

The market previously treated BYD as a "traditional automaker" and Tesla as a "tech company redefining cars with software." But looking at the financials, BYD's automotive gross margin in the first half was 22.3%, while Tesla's figure this quarter, excluding carbon credits, was 18.1%. A company given a traditional manufacturing valuation makes four percentage points more selling cars than a tech company—so what exactly supports Tesla's "tech premium"?

Why can Chinese automakers catch up so fast? The aforementioned investor told "Dingjiao One" that Chinese automakers have compressed a car's development cycle to around two years, continuously rolling out facelifts and adding features after launch, installing smart-driving hardware first and activating functions later, keeping things fresh within a year or two. BEVs have a much simpler structure than fuel cars, making them faster to modify, and costs fall with scale. Tesla, meanwhile, still relies on classic models to carry the day.

In the global market, Tesla still has the edge, but the window is narrowing.

Tesla has indeed recovered in Europe, with EU sales up 65.9% year over year in the first eight months, climbing out of the low point of Musk's political controversy. Meanwhile, Chinese brands' share in Europe doubled from 5.3% to 11.3% within a year, and BYD's local registrations in the first two months of this year have already surpassed Tesla's for consecutive periods.

Tesla global production capacity table (Shanghai plant 950,000 vehicles)

Source/Tesla 2026 Q3 financial report

Not to mention the Chinese market: Tesla has been overtaken by Leapmotor and HIMA on China's domestic NEV retail ranking, falling to sixth. Model Y was still the top-selling SUV in China by retail volume in the first nine months of this year, but in January it was overtaken in monthly sales by the Xiaomi YU7. In the above-200,000-yuan sedan market where Model 3 competes, the top spot went to the Xiaomi SU7. The Chinese market can hardly drive Tesla's growth anymore; in September China wholesale was 95,000 vehicles, up 5% year over year, of which exports grew 58% while domestic retail actually fell about 9%. The Shanghai plant has annual capacity of over 950,000 vehicles, with more and more capacity serving overseas markets.

The only thing still keeping Tesla in position is the FSD software ecosystem. 1.74 million active subscribers, up 67% year over year, with subscription gross margin as high as 90%—Chinese automakers have no equivalent recurring revenue. But Chinese automakers are using faster hardware iteration to contest this time window. When consumers find they can buy cars with newer hardware and stronger features for less money, the software story will have to be told differently.

03. Merging with SpaceX: a $3.5 trillion market-cap management exercise

As Tesla's valuation is dragged down by the auto industry's cyclicality and increasingly fierce competition, Musk raising the topic of a merger with SpaceX can be described as yet another market-cap management move. The two companies together are valued at about $3.5 trillion; if it happens, it would be the largest corporate M&A deal in history.

On the October 20 SpaceX earnings call, Musk confirmed that both boards had each set up independent special committees of directors to evaluate the merger; he expressed support but recused himself from discussion citing a conflict of interest. The next day on the Tesla earnings call, he gave no further information. On the Tesla shareholder side, approval requires more than half of all shareholders, a very high threshold; Musk himself admitted that saying the merger is a done deal is an exaggeration.

But the groundwork has been ongoing. The proxy statement for the December 3 shareholder meeting has been filed, director Ehrenpreis joined SpaceX's board back in February this year, Musk's pay package includes a clause for accelerated vesting upon a change of control, and Barclays predicts the announcement could come before the shareholder meeting. The two companies' equity has long been cross-pollinating: Tesla's $2 billion investment in xAI in January this year became about 19 million SpaceX shares as xAI merged into SpaceX.

If a car-selling company merges with a rocket-launching company, what does it actually mean for Tesla's shareholders?

Robotaxi miles and FSD cumulative miles

First, look at what both companies have. SpaceX has compute and compute monetization: Q3 compute cloud revenue was $7.6 billion, already surpassing the connectivity business where Starlink sits to become the largest segment, and newly deployed compute pays back in less than a year. Tesla has physical-world AI carriers: the tens of billions of kilometers of data generated by FSD, Robotaxi's driverless operations (cumulative mileage this quarter about 2 million miles as of quarter-end), and Optimus's just-started production line. Put together, it's a full stack from chips and compute to robots and rockets.

For Tesla shareholders, this is a chance to swap a carmaker with a 2.6% operating margin for AI assets, with the risk of handing auto cash flow over to a bigger gamble. Tesla still has about $45.4 billion in cash. SpaceX's quarterly capex is $19.6 billion, with Q4 guidance of $35 billion to $40 billion—more than four times Tesla's cash burn.

So the question at this point is: do you believe that Musk, after the auto business's dividend fades, can use compute and aerospace to build new monopolistic barriers in a field far more brutal than the auto industry, driven by massive capital expenditure?

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