Tesla is losing ground against its biggest rival in China

The advances by BYD and other Chinese automakers contrast with Tesla’s inability to release its latest driver-assistance software in China, owing to what Chief Executive Elon Musk described in January as regulatory hurdles.

BYD said it would make its driving-assistance technology system, called “Eyes of God" in Chinese, available in all of its models including an electric compact hatchback costing around $9,600—a price that includes the system. Cars with the technology, which is called DiPilot in English, can self-park and cruise on city roads with minimal human intervention. BYD didn’t say when the service would be available across its vehicles.

BYD’s founder, Wang Chuanfu, said his company had an advantage because it has so many cars on the road to collect data for training its AI system. “If the data from a car is a drop of water, then BYD has an ocean of it," he said.

BYD’s stock price surged 17% over two days last week in anticipation of Monday’s announcement.

AI-powered software that aims for autonomous driving is evolving quickly in China, the world’s largest EV market. Startups XPeng and Li Auto as well as supplier Huawei Technologies and others have brought to market sophisticated driving-assistance technology.

BYD sold 3.7 million passenger cars last year in China, up 37% from a year earlier. Tesla’s sales grew too but not as quickly, rising 9% to around 660,000 cars. Globally, BYD is nipping at Tesla’s heels as the largest maker of full EVs.

For 10 months, Tesla has been waiting for final approval in China of its own version of AI-powered driving, which it calls “Full Self-Driving (Supervised)." Musk last April obtained a tentative nod after lobbying the Chinese premier in person.

“If BYD can drop this kind of a technology’s cost to such a low price level, then the halo of this technology under the Tesla brand will be undercut," said Yale Zhang, managing director of Shanghai-based market research firm Automotive Foresight. He added that Tesla cars, which are relatively high-end, don’t directly compete with most of BYD’s mass-market vehicles.

Tesla’s website in China shows FSD priced at the equivalent of $8,800, although for the moment drivers can only get less-advanced services. Tesla didn’t respond to requests for comment.

As EVs become the norm in China—roughly half the passenger cars sold today in China are either full EVs or plug-in hybrids—driving-assistance software has emerged as a key factor for consumers.

The latest technology, including BYD’s, uses AI models to respond to new roads and scenarios and is designed to be able to drive the car without human intervention from the starting point to the destination under certain circumstances. However, given Chinese road rules, drivers are told to stay alert at all times and remain ready to take over.

People in the industry say safety challenges remain, especially in uncommon driving situations that aren’t necessarily reflected in the AI models’ training.

BYD has said it plans to invest about $14 billion in AI and automotive intelligence technology. The company has more than 5,000 engineers working on the technology. BYD also said it has started using AI models developed by Chinese startup DeepSeek.

BYD’s “Eyes of God" system is named after a deity in Chinese mythology with three eyes. It collects data with three cameras in the front windshield. It has already been offering versions of the system for higher-end vehicles.

Besides cameras, BYD’s service also relies on radar and a laser system known as lidar to identify vehicles and pedestrians on the road, which it said helps enhance safety and performance when poor lighting hinders the cameras’ view. BYD doesn’t use lidar for a version that it plans to install for lower-priced vehicles.

Tesla relies more on cameras. Musk has said the approach is more advanced and cost-effective, but it has triggered safety concerns among some regulators and drivers.

Tesla has said it expects Beijing to approve its advanced software this year. There have been few signs of progress so far.

A Tesla Model 3 using autopilot drives on a Californian highway.

On an earnings call Jan. 29, Musk acknowledged challenges rolling out FSD in China. He said the company was in a quandary because Chinese authorities didn’t allow Tesla to transfer video outside of the country to train its models, while U.S. authorities didn’t let the carmaker train the FSD system in China. He didn’t give details of the restrictions. Tesla has been relying on videos of Chinese streets on the internet to train its system, he said.

Chinese officials are reviewing how Tesla plans to store and process data collected through its FSD service, people familiar with the matter said. China’s technocrats are also focused on determining Tesla’s safety, the people said, after U.S. auto-safety regulators said in October they were investigating crashes involving Tesla’s driver-assistance software. Those crashes occurred in reduced-visibility conditions such as fog or dust.

For Musk, rolling out FSD in China is essential to elevate Tesla to an AI company from a manufacturer of electric vehicles.

Tesla has yet to obtain the official signoff from the ministry in charge of the auto industry, people familiar with the matter said. The company would also need to get approval in individual regions such as Shanghai, where Tesla hopes to offer the software to a limited number of drivers.

Even if Beijing were persuaded of the suitability of Tesla’s FSD, it would consider the approval a chess piece in the geopolitical game emerging in the second Trump administration, given Musk’s proximity to President Trump, analysts said.

“Doing Elon Musk a favor without getting one back is a bad negotiating tactic. One thing you can say about the Chinese is that they are damn good negotiators," said Bill Russo, Shanghai-based chief executive of Automobility, an advisory firm.

Write to Raffaele Huang at raffaele.huang@wsj.com and Yoko Kubota at yoko.kubota@wsj.com