How did Elon Musk recalculate the cost structure of batteries using first principles? What would the cost be if we removed the 'supplier pricing' assumption and only considered raw materials?

First Principles Thinking
Views: 1Created At: 9/18/2025Updated At: 9/18/2025
Sherry Hernandez
Sherry Hernandez
PhD in Physics, applying first principles to problem-solving.

The term "First Principles" sounds intimidating, but in plain terms, it's a "getting to the root cause" way of thinking. Its core is: ignoring what everyone else is doing and the "market price," and instead, starting from the most basic, fundamental physical facts to derive conclusions step by step.

Let's use a simple analogy to understand:

You want a plate of scrambled eggs with tomatoes. You could go to a restaurant and order it; the menu says 30 yuan a plate. This is "supplier pricing," the price the market gives you.

But if you think using first principles, you would ask:

  1. What are the most basic components of this dish? — Two eggs, one tomato, a little oil and salt.
  2. What is the cost of these raw ingredients? — You go to the market and see eggs are 1 yuan each, tomatoes are 2 yuan each, and oil, salt, and scallions cost 1 yuan.
  3. What do you need to cook them yourself? — You need to turn on the stove and spend 5 minutes.

By this calculation, your own cost might only be 5 yuan.

You see, there's a 25 yuan difference between the restaurant's 30 yuan and your 5 yuan cost. This 25 yuan covers the restaurant's rent, chef's salary, waitstaff, depreciation of decor, and most importantly — profit.

Now, let's apply this logic to Elon Musk's battery problem.

When Musk first started thinking about building electric vehicles, the industry situation was:

  • "Supplier Pricing" Assumption: At the time, battery packs were extremely expensive, costing about $600 per kilowatt-hour. Everyone accepted this price, believing it was the "going rate" for batteries. Car manufacturers wanting to build EVs had to buy from battery giants like Panasonic and LG, paying whatever price they demanded.

  • Musk's First Principles Calculation: Musk didn't accept this "going rate." He and his team began to "dig to the root cause":

    1. What are the most basic components of a battery? They disassembled battery packs down to their most fundamental chemical elements, discovering they were essentially: some metals (like cobalt, nickel, lithium, aluminum), some carbon (graphite), plus some polymer separators and electrolytes, all enclosed in a metal casing (usually steel or aluminum).

    2. What is the cost of these raw materials? Instead of asking battery suppliers, they directly checked the prices of these commodities on the London Metal Exchange (LME). For example, how much does a ton of cobalt cost? A ton of nickel? A ton of lithium salt?

    3. The Calculation Result: After adding up the costs of all the raw materials needed to manufacture a battery pack, they arrived at a startling conclusion: considering only raw materials, the cost to produce one kilowatt-hour of battery was approximately just $80.

Now, let's answer your second question: If we remove "supplier pricing" and only look at raw materials, what would be the cost?

The answer is the number above: approximately $80/kWh.

Think about what this implies:

  • Market Price (Supplier Pricing): $600
  • Raw Material Cost (First Principles Calculation): $80

A staggering $520 appeared out of thin air in between! This huge difference accounts for the battery manufacturers' production costs, equipment depreciation, R&D investment, logistics, administrative expenses, and the substantial profits they aim to earn.

This calculation gave Musk immense confidence. He realized that batteries were expensive not because their raw materials were as rare as gold, but because the entire production and supply chain was inefficient, and profits were monopolized by a few suppliers.

Therefore, he arrived at an industry-disrupting conclusion: If I can build my own factory (which later became the Gigafactory), start from scratch, buy raw materials, and then complete all the chemical refining, processing, and assembly myself, I can save most of that huge $520 difference and turn it into my core cost advantage.

This is the fundamental reason why Tesla went to great lengths to build its own batteries and construct Gigafactories. He wasn't trying to buy cheaper "scrambled eggs with tomatoes"; he wanted to open his own central kitchen, starting from growing tomatoes and raising chickens, to drive costs down to the absolute minimum.

Created At: 6 minutes agoUpdated At: in 47 minutes