Root and Branch Reform Unlikely At VW

Root and Branch Reform Unlikely At VW.

But Investors Urged To Take A Chance On Buying VW Shares.

“The old system continues. There’s no real revolution, and that means in eight, 10 or 12 years another scandal at VW”

Investors hoping that Volkswagen’s “dieselgate” self-inflicted wound will shame the company into reforming the governance that allowed it are not only going to be disappointed, but are likely to face more debilitating scandals.

That’s the view of Professor Ferdinand Dudenhoeffer, director of the Center for Automotive Research (CAR) at the University of Duisburg-Essen.

Meanwhile investment banks are cautiously recommending VW shares, reckoning that the company can still operate successfully in world markets, despite wildly differing estimates of the total overall emissions control scandal cost ranging from $20 billion to $60 billion.

In September, VW admitted wilfully seeking to circumvent EPA rules on noxious diesel fumes. The scandal later broadened to include its Porsche and Audi premium subsidiaries, and then questions arose about compliance with European fuel economy rules. The controversy is in three broad areas; “defeat” software installed in 11 million vehicles with engines under two litres across the world, questionable fuel economy ratings on about 800,000 vehicles, and an additional errant software probe on larger diesels in the U.S.

VW’s main shareholders include the Piech and Porsche families, unions, and politicians from the state of Lower Saxony, which owns one-fifth of VW’s voting shares. Labour leaders have half the seats on the 20-member supervisory board, the powerful body that appoints and dismisses members of management. Any important decisions, like building or shuttering of plants, needs a two-thirds majority on the board. VW is regularly embarrassed by scandals because of this opaque structure. In 2005 it was union perks and prostitution. In 2006 a corruption scandal involved bribes from suppliers. There was a market manipulation investigation in 2009 after smaller Porsche tried to take over the much bigger VW.

No big reform
“I don’t think VW will go through a big reform process,” Dudenhoeffer said.

After VW Group CEO Martin Winterkorn resigned after the scandal broke, his job was taken by Matthias Mueller from VW subsidiary Porsche. Another VW stalwart Hans Dieter Poetsch then took over as new supervisory board chairman. Some shareholders had hoped for an eminent outsider to take over the helm to change VW’s direction from job protection and selling as many cars as possible with little thought about the bottom line.

Toyota, roughly the same size in terms of global sales as VW, uses 300,000 workers to produce about 10 million vehicles a year. VW needs 600,000.

“The old system continues. There’s no real revolution, and that means in eight, 10 or 12 years another scandal at VW, and that problem stems from the VW constitution (system of governance),” Dudenhoeffer said.

But that’s not stopping investment bankers from seeing an interesting proposition at VW as its shares wallow near lows. VW’s stock price on September 18 was more than 60 per cent down on the year’s high of about €254, and has since recovered a bit.

Adam Hull, analyst at Berenberg Bank, raised his target price for the stock to €160 from €150 with more to come. In late November the shares had already recovered to around €140.

“There will be a new 10-year strategy soon with new cost reductions at the VW brand likely. We think more than a doubling of the price to €250 within three years is possible,” Hull said in a report.

“The emission scandal seems to coming under control, and given robust October sales and orders we are less worried about the mid-term profits at VW and Audi (than October 6),” Hull said.

Downside risk
“While we accept there is downside risk and we cannot rule out further strands to the emissions scandal, we think the current VW share price factors in an overly negative scenario,” Hull said.

Hull said VW and to some degree Audi prices will be slightly damaged particularly next year.

“We expect the damage to diminish in 2017-2018, in part because it is likely that VW will market more robustly its strong offering and technological leadership in electric and plug-in hybrid technology for the VW e-Golf, VW Golf GTE, Audi Q3 e-tron and Audi Q7 e-tron,” he said.

   Evercore ISI analyst Arndt Ellinghorst agrees with Hull’s view and has a target price of €200 for VW shares, adding that the company has a chance to turn itself into a more efficiently managed company.

“Long overdue changes at VW will likely happen faster and in a more determined fashion than was previously conceivable,” Ellinghorst said.

No chance, says CAR’s Dudenhoeffer.

“You can change nothing at Wolfsburg. As soon as you want to lose one job, the worker union will say “no”. It can block anything on the Supervisory board. There will be big problems for restructuring. It’s the old story at VW and the old story will continue,” he said.