This next week we expect a lot of attention will turn to Tesla, which reports Q2 earnings amid growing scrutiny of its China strategy, falling sales numbers, its Full Self-Driving pivot and its reliance on regulatory credits.

Earnings from dozens of tech and industrial names follow close behind. The themes are starting to converge: regulation, geopolitics, and infrastructure are no longer sidelines—they’re the story.

And of course, last week, Washington passed its first real crypto laws and Taiwan Semiconductor offered a rare glimpse into the supply chain bottlenecks shaping AI’s physical future — more on that below.

Please check out epistrophy.beehiiv.com. One click away you’ll find lots of our research focused on three things:
1) Technology-driven change;
2) the latest in innovation and startup trends, and;
3) stock fraud.

Companies Discussed

In This Note:

• Companies Discussed

• Tesla’s House Of Credits

• Scared Straits

  • The Squeeze

    • Expected Impact on TSMC's Margins and Costs

  • What To Watch

    • Global Expansion Benchmarks To Watch

• Tweet O’ The Month

• 📆 of Epistrophy Events

• Availability This Week

Tesla’s House Of Credits

Tesla (TSLA: NASDAQ)’s profitability has long rested on government indulgence. As the company heads into earnings next week, the story isn't about Cybertrucks or humanoid robots—it’s about regulatory credits. Specifically, how long the company can rely on them to mask margin compression in its core automotive business. 

We’ve been tracking the effect of Zero Emission Vehicle (ZEV) credits propping up Tesla’s margins since the company first broke them out in 2013. These credits were designed as a temporary tool to ease the auto industry’s energy transition. ZEV credits began in 1990, created under California’s Low Emission Vehicle program as a way to force automakers to adopt cleaner technologies without banning gas-powered cars outright. The system lets compliant companies sell excess credits to laggards—effectively a “get out of climate jail free” card for manufacturers that fail to meet emissions targets. It was never a subsidy. It was a regulatory workaround: a market-based penalty swap that priced in climate noncompliance.

Tesla has generated billions of these credits by producing only zero-emission vehicles, then selling the credits—often at 100% margin—to automakers that miss fleetwide emissions targets. In Q1 2024, Tesla reported $595 million in credit revenue, up from $433 million in Q4 2023 and $282 million in Q2 2023. 

That era is over. The just-passed One Big Beautiful Bill strikes at the demand for ZEV credits by gutting the enforcement backbone that made them valuable.

The legislative language was tricky. In Section 40006, the bill amends the Corporate Average Fuel Economy (CAFE) statute—49 U.S.C. 32912—by striking the “$5.00” limit of the old old rule  and replacing it with “$0.00”.

And what did the CAFE standard say? Here’s 49 U.S.C. 32912:

So the “penalty” went from “$5.00” per 0.1 MPG to “$0.00” per MPG. So thanks to TOBBBA, there is no penalty for producing polluting cars. Reducing fines to zero should kill the incentive to buy ZEV credits. 

That could kill much of Tesla’s gross margins, profits and cash flow. The company has long recorded these credits as “revenue” – a revenue with no associated cost. 

Since 2020, regulatory credits have accounted for more than 20% of Tesla’s quarterly free cash flow in 15 of the past 20 quarters. In the March 2023 quarter, credits made up 118% of free cash flow. In the March 2024 quarter, they accounted for 90%—$595 million out of $664 million. Without the credits, Tesla generated just $69 million in free cash. In five recent quarters, credits exceeded 50% of free cash flow; in four, they offset a negative number.

But these gains don’t reflect scale or cost discipline. They reflect regulation and inertia. The buyer, increasingly, is not the market but the government.

Margins tell the rest. Automotive gross margin excluding credits has fallen from 30% in late 2021 to 11% in Q1 2025. Including credits, the margin rises to 18%—still down from a 35% peak. Over the past five quarters, margin ex-credits has declined sequentially: from 17% in Q1 2024 to 13% in Q4 and 11% now. 

That’s why pressure for transparency is building. When Model 3 and Model Y demand was climbing, investors overlooked the distortion. But with deliveries slowing and price cuts accelerating, regulatory credits are once again the difference between positive and negative cash flow. This week analysts will press Tesla’s for more precise guidance.

Meanwhile, Elon Musk is alienating his political allies. His public rift with former President Donald Trump and promotion of Epstein conspiracy theories on X—Tesla’s de facto PR platform—are straining the company’s ties in Washington. Political capital isn’t just reputational; it’s financial. If a future administration narrows ZEV eligibility or changes credit transfer rules, Tesla’s bottom line could drop overnight.

There’s also competitive pressure. General Motors (GM: NYSE), Ford Motor (F: NYSE), and Stellantis (STLA: NYSE) are closing the EV gap. Hyundai (005380.KQ: KQ) and Kia (000270.KQ: KQ) are now leaders in U.S. EV tax credit eligibility. Meanwhile, Chinese firms are finding loopholes to bring subsidized vehicles into the U.S. Tesla’s credit revenue depends on its rivals remaining noncompliant. As they catch up—or regulations tighten—Tesla’s advantage dissolves.

The trend is already visible. Q1 2025 gross margin ex-credits was Tesla’s lowest since 2017. Free cash flow, excluding $595 million in credits, was just $69 million. Tesla spent $2.8 billion in capital expenditures last quarter, while global deliveries fell 8.5% year over year to 386,810. These aren’t Apple metrics. They resemble Toyota’s—without Toyota’s ICE portfolio or scale efficiency.

Next week, investors will want hard numbers: How long will credits prop up margins? What portion of Tesla’s free cash flow is at risk if the policy landscape shifts? 

Robots might not save Musk this time. 

Scared Straits

Taiwan can’t build every chip. Not anymore. Not when electric vehicles, fighter jets, iPhones and  AI clusters all draw from the same thinning silicon well. Not when 71% of advanced-node capacity sits on an island a hundred miles from a hostile China.

What once insulated Taiwan now exposes it. The “silicon shield"—the idea that the world’s reliance on Taiwan Semiconductor Manufacturing Company (TSM:NYSE) for high-performance chips would deter any Chinese aggression—may indeed hold. So the most important news from the companies otherwise terrific second quarter earnings results was about global expansion.

The company said this it is accelerating its global expansion by speeding up construction of its second and third “gigafab” facilities in Arizona, part of a broader strategy to build a world-leading semiconductor hub near Phoenix. CEO C.C. Wei noted that TSMC is moving up production at its Phoenix campus by several quarters, aims to have 30% of its most advanced chips made in Arizona, and has committed a total US$165 billion investment in U.S. fabs—including six in Arizona—of which $100 billion is earmarked specifically for Arizona

This in in the context of Beijing increasing its naval patrols, air incursions and military drills near Taiwan, multinational clients and sovereign buyers have grown uneasy. The geopolitical calculus has changed: deterrence is no longer guaranteed. What is guaranteed, however, is the rising cost of inaction. U.S., Japanese and  European officials now treat chipmaking as strategic infrastructure. Major customers like Apple (AAPL: NASDAQ), NVIDIA (NVDA: NASDAQ) and  Advanced Micro Devices (AMD: NASDAQ) are quietly pressing for geographically redundant supply chains. The market has priced in TSMC’s technical dominance—but not the risk of a single point of failure.

Technically, this global expansion is no small feat. At home, TSMC’s network of fabs—nine major 12-inch wafer facilities in Taiwan alone—sets industry standards for advanced lithography. Its 3nm family of process nodes (N3, N3E, N3P) currently lead the pack. Its 2nm node (N2), featuring gate-all-around transistors and backside power delivery, is set for volume production in the second half of 2025. Development of the 1.6nm (A16) node is already under way, with projected production beginning in 2028.

Packaging is increasingly where the bottlenecks lie—and where TSMC is pulling away with domestic production. The company expects CoWoS capacity to grow over 80% between 2022 and 2026, while SoIC (System on Integrated Chips) is on track for a CAGR above 100% over the same period. Clients like NVIDIA (NVDA: NASDAQ), which alone consumes 25–30% of TSMC’s advanced packaging capacity, are driving that acceleration. In 2024, TSMC spent $6.2 billion on R&D—6.9% of revenue. That figure will climb in 2025.

The Map

Taiwanese fabs remain the core of its cutting-edge R&D, but TSMC's future global footprint is now being aggressively cast across three major continental production hubs: North America, East Asia and  Europe.

In Arizona, geodiversification grows like tumbleweeds. What began in 2020 as a $12 billion plan for a single 5nm fab has morphed into a six-facility complex with a projected $165 billion price tag. Phase 1 (N4) reached volume production in Q4 2024. It will ramp to 30,000 wafers/month by mid-2025. Phase 2, a 3nm fab, is under construction for 2026 production. Phase 3, supporting 2nm and A16 nodes, is scheduled for 2028. Two advanced packaging plants and an R&D center are also in the works. If completed, Arizona would host the most advanced manufacturing complex outside Asia.

The U.S. government has tentatively committed $6.6 billion in grants and $5 billion in loans through the CHIPS Act. TSMC will create 6,000 direct jobs and 20,000 construction roles, with Commerce Department projections pointing to 320,000 total jobs created throughout the economy. Yet challenges remain. Labor disputes delayed early phases. The company brought over 500 Taiwanese engineers on temporary visas. U.S. fab construction costs are up to 50% higher than Taiwan. Environmental permitting alone added $35 million to costs.

TSMC is signaling it may charge 20–30% premiums for Arizona-made chips. It has also floated a 3–5% wafer price hike for 2026. 

Japan’s case is smoother. In Kumamoto, TSMC partnered with Sony (6758: TYO), DENSO (6902: TYO) and  Toyota Motor Corporation (7203: TYO) to form JASM. Two fabs are underway, with combined investments exceeding $20 billion. Fab 1, producing at nodes from 40nm to 12nm, began volume output in late 2024. Fab 2, targeting 7nm and 6nm, breaks ground in late 2024. Combined capacity is expected to exceed 100,000 wafers/month. The Japanese government is subsidizing ¥1.208 trillion (about $7.7 billion), with ¥476 billion ($3 billion) for Fab 1 and ¥732 billion ($4.7 billion) for Fab 2.

What makes Japan work is alignment. Reliable water and electricity. Supply chain density. Skilled labor. And a cultural tolerance for the demands of precision manufacturing. The economic spillover from these fabs is expected to exceed ¥10 trillion ($70 billion) by 2031. Around 10,700 jobs will be created locally. Yield at Fab 1 has already been described as “very good” by TSMC engineers involved.

Europe is less advanced. TSMC’s Dresden project—through the European Semiconductor Manufacturing Company (ESMC)—partners it with Robert Bosch GmbH, Infineon Technologies (IFX: XTRA) and  NXP Semiconductors (NXPI: NASDAQ). The €10+ billion fab, backed by €5 billion in German subsidies, broke ground in August 2024. Production will begin in late 2027, with capacity reaching 40,000 wafers/month by 2029. These will be older nodes: 28/22nm CMOS and 16/12nm FinFET, intended for auto and industrial markets. Even so, up to 2,000 direct jobs and 11,000 indirect jobs are expected.

Dresden presents real hurdles. German industrial electricity prices run €0.15–€0.20/kWh—among the highest in Europe. Labor is skilled but scarce. Bureaucracy slows construction. Still, TSMC’s presence helps the EU claw toward its 20% global chip market share goal, up from 10% today.

The Squeeze

This global expansion fundamentally impacts TSMC's established business model. The most immediate and financially relevant consequence is a projected margin compression. TSMC has explicitly guided investors to anticipate a 2% to 3% gross margin dilution from overseas fab operations in fiscal year 2025, a figure that CFO Wendell Huang, during the January 2025 earnings call, suggested could potentially widen to 3% to 4% in subsequent years as more international facilities ramp to full production. This represents a tangible recalibration for a company that typically sustains gross margins in the mid-50% range (e.g., 56.1% in FY2024 and 58.8% in Q1 2025). The higher operational costs in the U.S., compared to Taiwan's tightly integrated and optimized ecosystem, are the primary drivers of this anticipated reduction. Taiwan's lower cost of utilities (e.g., electricity rates for industrial users are ~30-40% lower), more streamlined environmental regulations and  deeply established supply chain contribute to this differential.

To counteract this anticipated dilution, TSMC plans to strategically leverage its formidable pricing power. Reports suggest the company may charge a premium for chips manufactured in its Arizona facility, potentially a 20-30% increase and  has reportedly communicated 3% to 5% wafer price hikes across its broader portfolio for 2026. This reflects a shift towards a cost-plus model for certain geographic segments. Operational efficiency gains through heightened automation (e.g., increased use of AMHS - Automated Material Handling Systems - which can reduce human intervention by over 50% in new fabs) and an unwavering focus on digital excellence are also critical to offsetting these costs. Despite these pressures, the company has reiterated its long-term gross margin target of 53% and higher, indicating confidence in mitigating the impact through a combination of pricing, operational discipline and  potentially further government support.

The colossal capital expenditure required for this global buildout is another significant financial consideration. With projected CapEx reaching between $38 billion and $42 billion for 2025, an increase of 27-41% from 2024, TSMC is investing at an unprecedented pace. This massive outlay tests the company's financial discipline and its ability to generate sustainable returns, although its robust cash flow generation (e.g., US$35.6 billion in free cash flow in FY2024) has historically provided strong support for its dividend policy, which saw a 25% increase in 2024.

Expected Impact on TSMC's Margins and Costs

What To Watch

Execution won’t be easy. TSMC’s Taiwan operations benefit from industrial electricity that’s 30–40% cheaper than U.S. or German rates. Supply chains are denser, cleaner and  more consistent. Local environmental regulations are streamlined. Even direct labor, a minor part of cost per wafer, fits better within the island’s social contract. Recreating that elsewhere takes time. Ten years, minimum.

But what it buys is permanence. Customers want risk diversification. Governments want industrial sovereignty. TSMC is uniquely positioned to deliver both. And in doing so, it deepens its moat. Samsung and Intel (INTC: NASDAQ) are not standing still—Intel’s 18A process may debut in late 2025—but neither has yet matched TSMC’s credibility, nor its capital commitment.

Global Expansion Benchmarks To Watch

If anything, TSMC is rewriting its own rules. Once obsessed with operational efficiency, it now embraces geopolitical redundancy. Nine new sites in development. Tens of thousands of new workers. Wafer costs up, margins down, but long-term durability secured.

That’s what the silicon shield has become: not a single fortress, but a constellation of strongholds. Taiwan remains the crown jewel—still home to bleeding-edge R&D and early-node production. But the center of mass is shifting. What began as a high-yield island operation is becoming the chassis of global digital resilience. Slowly, expensively, but irreversibly.

Tweet O’ The Month

Epistrophy In The News

I joined Yahoo Finance’s Josh Lipton to push back on the claim that Apple is late to AI. The company is letting rivals bleed cash while it integrates AI slowly, profitably, and on-device.

On Schwab TV, I previewed Taiwan Semiconductor’s Q2 earnings. Investors will be watching closely for signs of geographic diversification beyond Taiwan, especially amid rising tensions with China and a $165 billion U.S. expansion plan. And anchor Nicole Petalides made my week, saying “Cory Johnson, you’re a good man.”

From her lips to God’s ears.

Finally on NewsNation I broke down the most significant crypto legislation in U.S. history. Three bills—the Genius Act, the Clarity Act, and the Anti-CBDC Act—are on track to define the legal status of stablecoins, clarify agency jurisdiction over digital assets, and bar a U.S. central bank digital currency. And, shocker, they do very little to protect consumers and investors, while enriching a handful of people in the White House.

As we titled our research note: “Cryto Week, Ethics Weak.”

📆 of Epistrophy Events

Availability This Week

I’m in San Francisco all week and available for meetings, briefings, or follow-ups. If you’re local and want to talk stablecoins, chip geopolitics, or anything in between, let’s go for a walk and talk! It’s lovely out!

Written reports are available to clients, with video summaries on YouTube, and of course our popular summaries of the summaries on Instagram and TikTok and YouTubeShorts.’m available all week so email or even text if you don’t hear back right away. I’d love to expand on the thoughts I’ve share, and I’ll be right on top of all the earnings reports outlined above.  Written reports are available to clients, with video summaries on YouTube and, of course our popular summaries of the summaries (yes, the second derivative) on Instagram and Tiktok.

I hope these notes are helpful to you. I’d love to discuss them further and, as always, comments, questions and ideas are appreciated. If you have a friend or even a frenemy whom you think might benefit from this note, have them reach out and I’ll put them on the list.