Tesla vs. Toyota Is the New Hot Battle in Cars

Musk, Tesla’s chief executive, wants to make the world electric, targeting annual vehicle deliveries that would overtake Toyota to become the bestselling automaker before 2030. And while that goal is far off, he’s had some success—in the U.S., Tesla’s small lineup has already overtaken some of Toyota’s bestsellers.

A slowdown in EV sales growth in the U.S., however, is testing Musk’s gamble. At the same time, hybrid vehicles have seen a surge in buyers this year, in part because of the success of new offerings by Toyota and its luxury brand Lexus.

“The buzz of electrification in the industry has somewhat mainstreamed hybrids," David Christ, the head of the Toyota brand in North America, said during an interview. “It’s really had an awakening."

The pitch to customers for buying a hybrid is simple: Such cars are often cheaper than all-electric rivals and get some benefits of electrification with improved MPG compared with a traditional car without the headaches of having to charge like an EV.

The Japanese automaker, first with the Prius sedan more than 20 years ago, helped popularize hybrid technology, which combines batteries with gas-powered motors to improve fuel efficiency.

But it is a technology that looked poised to be forgotten as hybrid sales slumped last year and EV sales rose 65%, a sign for those betting a new era was dawning. “Time to move on from hybrid cars," Musk tweeted last year. “That was a phase."

Amid the EV enthusiasm, some investors agreed. Few saw hybrids as a proper Tesla-fighter. Certain investors tried unsuccessfully earlier this year to oust Toyota Chairman Akio Toyoda over the company’s strategy to hedge investments across hybrids, EVs and other technologies. He had stubbornly cautioned that the all-in EV approach—favored by some rivals racing to catch up with Tesla—wasn’t what many customers wanted or were prepared for.

Months later, as the likes of Ford and General Motors pulled back their EV production plans, Toyoda seemed to gloat. “People are finally seeing reality," he said last month.

It’s easy to understand why he feels that way. Between its Toyota and Lexus brands, the company in the U.S. sells 26 electrified-vehicle options—including hybrid, EV and other technologies—and saw deliveries of those offerings together rise 20% this year through the first three quarters to a total of about 455,000.

Tesla, which doesn’t release U.S. delivery results, sold about 493,500 all-electric vehicles during that period, a 26% increase, according to an estimate by data firm Motor Intelligence.

Amid a tougher sales environment overall lately for the U.S. car market, Musk has committed to fueling sales growth this year at the cost of profitability to the dismay of some investors. Tesla’s profit fell 44% in the third quarter.

The biggest pot of new customers for Tesla comes from Toyota, according to Strategic Vision, which surveys new buyers. Nationwide, 8% of Tesla’s buyers came from Toyota vehicles.

“Tesla is stealing sales from Toyota left and right—but they are having to drastically reduce their pricing to keep this up," Alexander Edwards, Strategic Vision president, said. “Toyota on the other hand has kept pricing the same and has allowed dealers to mark up their products."

The front line for that fight is in California, where Tesla’s price cuts have made the cost of an entry Model 3 sedan, including federal and state tax breaks, less expensive than the suggested starting price of a Camry. Tesla is nipping at Toyota’s lead in market share in the state.

Nationally, Tesla’s Model Y crossover sales overtook Camry this year through September and were fewer than 7,000 vehicles short of Toyota’s bestselling U.S. vehicle, the RAV4 crossover, according to estimates by Motor Intelligence.

Musk clearly noticed the narrowing gap. In October, he told analysts, “To be totally frank, if our car costs the same as a RAV4, nobody would buy a RAV4, or at least they’re very unlikely to."

He has long been dismissive of hybrids—even though Toyota helped Tesla early on with an investment and sweetheart deal on its first assembly factory. “You want to go all electric because that is the truly sustainable path," he told The Wall Street Journal years ago. “If you split the baby and you have a car that is trying to be a good gasoline car and a good electric car, you end up being not as compelling as either a pure gasoline or pure electric."

For its part, Toyota is doubling down on its hybrid strategy. This month at an event in Malibu, Calif., Toyota announced that for the first time the Camry, the nation’s top-selling sedan, will only be offered as a hybrid when the next generation vehicle hits U.S. showrooms in the spring.

“Over the last few years, when we sell a vehicle with multiple power trains—an internal combustion engine and a hybrid—in most cases, the hybrid powertrain has been sold out longer and more popular with customers," Toyota’s Christ said. “That gave us an inclination that customers are ready and willing to go all hybrid."

Part of new enthusiasm for hybrids comes from what Toyota has been able to do with cost and performance.

When Toyota began spreading its hybrid technology to vehicles beyond the Prius, it came at a hefty premium. In 2005, for example, Toyota’s Highlander hybrid cost almost $10,000 more than the base version of the sport-utility vehicle and was engineered to maximize efficiency at the expense of performance. Or, put another way, customers paid more for some noticeable compromises.

Today, that’s changed. Toyota hasn’t said what the new Camry will cost, but the current hybrid version starts at a little less than $2,500 more than the base version of the sedan. And Toyota is touting the new hybrid will have more horsepower than the current base version.

Or, as Christ put it, “There’s no compromise anymore."

Write to Tim Higgins at tim.higgins@wsj.com