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Tesla Inc. said it’s working with the Shanghai government to explore local manufacturing in China, a move that would allow the electric-car maker to achieve economies of scale and bring down manufacturing, labor and shipping costs.

The electric-car maker led by Elon Musk expects to more clearly define production plans by the end of the year, according to an emailed statement. While most of its production is expected to remain in the U.S., the Palo Alto, California-based company said it needs to establish local factories “to ensure affordability for the markets they serve.”

Reaching a deal to produce cars in China would help Tesla better compete with local rivals because it would eliminate a 25 percent import tariff that makes Tesla’s Model S sedans and Model X sport utility vehicles more costly than in U.S. showrooms. The company is scheduled to begin production in July of the Model 3, the cheapest model in its lineup so far, from its lone assembly plant in California.

“The entrance of Tesla into local production is a necessary step for Tesla to gain relevance in the world’s largest EV market,” said Bill Russo, managing director of Gao Feng Advisory Co. and a former head of Fiat Chrysler Automobiles NV’s Chrysler unit in China. “Tesla’s participation thus far has been limited to imported Model S and Model X cars. However, unlocking the mass market will require a price point that is only achievable with a locally produced Model 3.”

Tesla shares rose 1.2 percent to $380.92 at 11:12 a.m. in New York and are up 78 percent this year. The company’s statement didn’t specify which Tesla products are being considered for local manufacturing in China.

For more on how Tesla may break the auto mold with its China entry

China has identified new-energy vehicles as a strategic emerging industry and aims to boost annual sales of plug-in hybrids and fully electric cars 10-fold in the next decade. A total of 507,000 new-energy vehicles including electric cars were sold last year in the country, according to the China Association of Automobile Manufacturers. About 15 percent of Tesla’s $7 billion in revenue last year was generated in China, according to data compiled by Bloomberg.

Tesla has signed a preliminary agreement with the city of Shanghai to produce vehicles in China for the first time, Bloomberg News reported earlier. The agreement would allow Tesla to build facilities in Shanghai’s Lingang development zone, according to people familiar with the negotiations. Under existing rules, Tesla will also need to set up a joint venture with at least one Chinese company to obtain the necessary manufacturing permits.

Shanghai Lingang Holdings Co., a state-owned industrial zone developer and landlord, said in a filing it hadn’t had contact with Tesla. The carmaker said in its statement Thursday that it’s been working directly with the Shanghai municipal government.

“It’s just at the right moment for Tesla to localize production because China now has suppliers with world-leading technology,” said Fu Yuwu, president of the government-backed Society of Automotive Engineers of China. “Tesla will also need to develop customized mass-market products for Chinese market, which is unique from the rest of the world.”

— With assistance by Yan Zhang, Ying Tian, and Dana Hull

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