Spare a thought for Volkswagen investors who must be having sleepless nights. After a couple of weeks of boardroom shenanigans which wiped close to $11 billion off the company’s stock price, venerable VW board chairman Ferdinand Piech has quit. He attempted to fire his number two VW Group CEO Martin Winterkorn, 67, then found out that his allies on the board had deserted him.
Piech’s action set off turmoil in Germany, where politicians and unions are often closely involved with managing companies. VW board meetings were convened. Politicians and unions wondered just what would happen next. The media speculated endlessly about who would be the next CEO. Then after a couple of weeks Piech, 78, tried to back off, saying he no longer wanted to dump Winterkorn.
But Piech quit Saturday. His back-tracking didn’t work.
“We talked things through last week and agreed on a cooperation,” German newspaper Bild quoted Piech as saying earlier this week. “I am not pushing for the dismissal of Martin Winterkorn.” This came after renewed media reports that Piech aimed to dump Winterkorn ahead of the May 5 annual shareholders meeting. Winterkorn’s contract expires next year.
So just what is going on at VW, Europe’s biggest car company which wants to become the biggest in the world overtaking Toyota of Japan and General Motors? VW has been on a brand buying spree and has 12, including the upmarket luxury Bentley, Lamborghini supercars, Audi, Porsche, Ducati motorbikes and MAN trucks. It sells cheaper versions of VW brand cars using the Skoda and SEAT brands. Every few months the rumor VW will buy Alfa Romeo from FCA reappears and dies.
Piech probably had to quit when he found he couldn’t command a majority on the board, which has a byzantine voting structure. The Porsche and Piech families control 50.7 percent of VW votes. The state of Lower Saxony has 20 percent, while unions have half of VW’s 20 supervisory board seats. After the initial reports that Winterkorn was out, it soon appeared that he might be safe because Lower Saxony, some members of the Porsche family and union boss Bernd Osterloh supported him. But others reckoned that because Piech has a tough reputation and wouldn’t pick a fight he couldn’t win, that there was some subtlety they were missing and he would get his way.
Two big problems
But what was Piech trying to achieve? Clearly he wouldn’t have thrown a pointless monkey wrench into the works.
According to the Center for Automotive Research (CAR) at Germany’s University of Duisberg-Essen, Volkswagen has two big problems.
Piech was determined to cure these before he finally stepped down.
The profit margin earned on VW brand cars is pitifully low compared with rivals like Toyota, while U.S. consumers refuse to respond and don’t want to buy enough VW cars and SUVs. Failure on these two fronts has finally exasperated and infuriated Piech.
CAR calculates that Toyota’s global profit margin is more than three times higher than the VW brand — at around the equivalent of $1,783 or 8.6 percent per car compared with VW’s $585 or 2.5 percent. GM makes $848 (4.2 percent) and Ford $683 (3.9 percent), according to CAR. Even Czech based Skoda, which makes a large range of cars using VW parts hidden under different bodywork, makes $1,110 per car.
Why is the VW brand profit margin so low?
CAR says this is do to high wage costs in Germany, and VW’s policy of keeping much component manufacture in-house. Most big car makers contract out component supply and use their leverage power to slash costs. A new method of production for VW, known by its acronym in German MQB, was supposed to lead to big cuts in costs because it allows engines and components to be used across many brands. This was going to speed up the time between design and production, and make it cheaper to produce cars. For instance, the new Passat sedan now has much in common with the smaller Golf family car. MQB is yet to bear fruit at the bottom line.
Also, VW in Germany (and possibly also across all of Europe) suffers from a huge amount of discounting by dealers, and is also undermined by a program of selling or leasing cut price cars to its workforce. According to CAR, just over 200,000 new VW cars sold in Germany last year or 31 percent were sold as nearly new cars by dealers, as factory discounts to employees, or by rental car companies. CAR described this as “poison for profit”.
But probably the most worrying area of failure is VW’s pitiful performance in the U.S., where the market will grow to 18 million annual sales shortly. VW redesigned its Passat sedan especially to appeal to U.S. buyers by removing some of the expensive, high-tech content which Europeans demand, and by making it in American. Result? A dismal flop, says CAR.
“Instead of gaining market share VW is back to 2009’s 2.0 percent, despite large investments. The U.S. Passat is a flop. Just 20,408 vehicles were sold in the first quarter. This year sales could be around 80,000 VW U.S. Passat vehicles. The U.S. (Chattanooga, Tenn.) plant is designed to produce 150,000 to 200,000 vehicles. That means the operation will be deep in the red due to the extremely poor capacity utilization, even though the U.S. auto market is booming,” CAR said.
Kevin Kelly, Chief Investment Officer at New York City based Recon Capital Partners, in an interview conducted just before Piech fell on his sword, said VW failed to make the U.S. a priority.
“This goes back to the corporate structure with the family and unions. By necessity they will have to focus on the U.S. market where the economy has rebounded. They will have to rebrand themselves because their presence hasn’t been right. They pushed sedans like the Passat and missed the surge in SUVs,” Kelly said.
Kelly said the corporate structure deflected the company from making tough decisions, and leading it to lag in new technology like electric vehicles.
“We think they can survive with this weird hybrid (corporate structure), but it’s not going to be good for the company overall and may lead to significant trouble in the future. VW has fallen behind in innovation that’s the main concern. There are too many cooks in the kitchen, families, unions all with different motives and agendas,” Kelly said.
Professor David Bailey from Britain’s Aston Business School, also speaking just before Piech quit, agrees that VW’s U.S. operation needs shaking up, but is less worried by the German corporate structure.
“The U.S. is a big challenge. They are never going to crack it unless they put an American in charge and give it a bit more freedom to go its own way. I don’t think the German system of corporate governance has held it back. Unions and workers have been willing to play a part in flexible working. There’s a whole multitude of corporate systems around the world, and there’s a danger of reading too much into this board room scrapping,” Bailey said.
“We have to realize that this (VW) is a very successful company, doing well on a number of levels. Things are not as desperate as some think,” Bailey said.
Piech’s track record suggests there was nothing random about his intentions, although many investors have declared themselves puzzled.
“I think he (was) trying to stir the pot to really make the company focus,” said Recon Capital Partners’ Kelly.
“It became too complacent. Trying to be number one in the world was coming at the cost of profitability. Margins are compressing,” Kelly said.
Many VW investors, and Aston Business School’s Bailey, want VW to end its brand buying spree, and concentrate on making profits from the ones it has.
“That’s what Piech (was) trying to do. He wanted to stop further expansion. He’s saying let’s not extend the empire any further. Let’s get to grips with America and fix competitivity in Europe, those are the underlying issues,” Bailey said.
Neil Winton, European columnist for Autos Insider, is based in Sussex, England. E-mail him at email@example.com