ZEV-credit-making machine. AP Photo/Justin Pritchard After Tesla reported a surprising third-quarter profit on Wednesday analysts dug into the results and found that the company had sold a lot of zero-emission vehicle (ZEV) credits.



It sold $139 million worth, to be specific.



Critics pounced. In a tough-minded research note, Tesla bear Colin Langan — lead auto analyst at UBS — brushed off the Q3 surprise, chalking it up to the ZEV credits.



"We see TSLA's guidance for positive GAAP net income in Q4 as very challenging." he wrote. "Excluding ZEV credits, Q3's $0.71 profit would have been a $0.18 loss."

Langan has a "sell" rating and a $160 target price on Tesla stock, which is now trading above $200.

For what it's worth, when Tesla CEO Elon Musk was asked about ZEV credits on a conference call after earnings, he took the opportunity to lay into the California Air Resources Board (CARB), the agency that oversees the ZEV regime for the biggest state that requires automaker to meet ZEV requirements.

He had already upbraided CARB on Tesla's second-quarter earnings call, but in light of Langan's analysis, his disdain for the way the program is administered takes on new meaning.

Saying that the "CARB ZEV credit mandate is incredibly weak" and insisting that it "needs to be fixed," Musk went on to say that ZEV credits are actually a crummy business for Tesla.

"There were some quarters where we simply cannot even find a buyer for credits," he said. "And then when we can find a buyer, it's typically fifty cents on the dollar for the ZEV credit." Bad business or not, and responsible for Tesla's Q3 profit or not, there are a few important points here that are being lost.

For starters, Tesla's gross-margin per vehicle is increasing, and as production increases, that should logically lead to more consistent profits.

But on the "ZEV Factor" — Tesla, unlike all other significant carmakers, doesn't build any cars that generate tailpipe emissions. That's why it accrues ZEV credits that it can sell. And it can sell those credits whenever it wants — or, as Musk said, take a frustrating hit on its ZEV sales when it can't get what it considers to be full value.



Why consider Tesla's ZEV sales somehow an adjacent business, unrelated to its core operations, where presumably investors are looking for signs of future profitability? If you make zero-emission electric cars, you're going to rack up ZEV credits in ZEV states and to a degree can considers them a product that you're "created," in a sense. They're actually an important part of the business plan.



This math is speculative, but if Tesla did unload a lot of ZEV credits in Q3 for fifty cents on the dollar, it could have picked up $280 million rather than $139 — and notched an even higher profit.

Tesla's California factory. Benjamin Zhang/Business Insider Langan doesn't think Tesla will sell any ZEV credits in Q4 and will go back to losing money. The company says that it expects to be profitable "despite ZEV credit sales in Q4 likely being negligible."



But here too, the point is somewhat lost. Tesla's master plan is to spend whatever it's balance sheet will support in order to launch the Model 3 mass-market car on time in 2017.

Sure, no one wants 14 profitless quarters in a row, and Musk did make clear to his team that a profitable quarter would be helpful to the cause. If they sold every ZEV credit they could find, well, that's a valid and legitimate decision. It isn't against the rules to sell ZEV credits — Tesla would be foolish not to.

Meanwhile, the company is on track to deliver more vehicles in 2016 than ever before. Tesla could be moving into a new phase, and getting hung up on how it turned a profit in one quarter is a distraction.