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VW Brand Profits, Tottering U.S., Lead Piech Replacement Tasks

VW Brand Profits, Tottering U.S., Lead Piech Replacement Tasks.

“Winterkorn, recognising VW’s poor margins and the need for higher profitability, wanted to cull some of Piech’s more expensive and unprofitable ideas”

About the same amount of experts who reckoned the price of oil would fall 50 per cent in six months predicted that VW’s long-term honcho Ferdinand Piech would quit. That’s a grand total of zero I think. The automotive world is still reeling from the sudden demise of storied VW supervisory board chairman Piech, but thoughts quickly turned to priorities for his replacement and investors agree this will mean fixing sagging VW brand profits, and sorting out the U.S.

Volkswagen’s share price jumped when stock markets reopened after the news as investors reckoned that this might mean the death of vanity projects like the Phaeton and Bugatti, the end of the acquisition of yet more brands, and a renewed focus on making money rather than empire building.

VW shares dived earlier in April from 245 euros to 224 euros after news Piech undermined VW Group CEO Winterkorn, setting off the crisis. After Piech had quit, the shares spurted to 243.90 euros then latterly dropped back to around 240.

Daniel Schwarz, analyst at Commerzbank, viewed the news as positive for VW investors.

“Many investors perceive VW as a family trust where the interests of Piech (Mergers and acquisitions, beating Toyota, automotive world domination) were not aligned with minority shareholders (profitability and dividends),” Schwarz said in a research note.

Investors have been worrying that Piech might add yet more brands to the current collection which include Bentley, Lamborghini, Audi, Porsche, Skoda and SEAT. Piech had often expressed admiration for Fiat Chrysler (FCA’s) sporty but dormant Alfa Romeo brand, and Ferrari.

Bernstein Research analyst Max Warburton said Winterkorn might have clashed with Piech because he didn’t want to buy FCA, or any parts of it.

“Second, Winterkorn, recognizing VW’s poor margins and the need for higher profitability, wanted to cull some of Piech’s more expensive and unprofitable ideas – the next Phaeton, the forthcoming new VW 5-series rival, the next Bugatti etc. Taking away the risk of an expensive deal with FCA will surely be welcomed by VW shareholders. Taking away expensive engineering projects would also be a positive step,” Bernstein said in a research note.

Complicated
VW is governed by a complicated structure which includes the Piech and Porsche families, unions, and politicians from the state of Lower Saxony. Many investors feel that this makes decision making slow and indecisive.

Warburton doesn’t see Piech’s demise leading to any sudden lurch in direction though.

“We doubt much changes in the short-term at VW. It’s hard to see sudden cuts that lift profitability in the next year or two. We assume Winterkorn moves up to become Chairman and a new plan for VW will be developed under the leadership of the next CEO. Who might that man be,” Warburton asked.

Warburton didn’t offer any suggestions, but potential contenders for VW Group CEO include Herbert Dies now of the VW brand, recently recruited from BMW, Andreas Renschler from VW trucks, Rupert Stadler from Audi, or Wilfred Vahland from Skoda. Wolfgang Reitzle, formerly of BMW, Linde, and current Continental Ag chairman is said to a candidate for supervisory board chairman.

According to the Center for Automotive Research (CAR) at Germany’s University of Duisberg-Essen, profits on VW brand cars are pitifully low compared with rivals like Toyota.

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 per cent per car compared with VW’s $585 or 2.5 per cent. GM makes $848 (4.2 per cent) and Ford $683 (3.9 per cent), according to CAR. Even Czech-based Skoda makes $1,110 per car.

Why is the VW brand profit margin so low?

CAR says this is down 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. VW’s new MQB production system was supposed to lead to big cuts in costs and speed up new car design and production. MQB is yet to bear fruit at the bottom line.

Huge discounting
Also, VW in Germany, and possibly also across all of Europe, suffers from a huge amount of discounting. According to CAR, just over 200,000 new VW cars sold in Germany last year or 31 per cent were sold as nearly new cars by dealers.

But probably the most worrying area of failure is VW’s poor performance in the U.S. 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 America. Result? A dismal flop, says CAR.

“Instead of gaining market share VW is back to 2009’s 2.0 per cent, 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, 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.

Weird hybrid
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, agrees that VW’s U.S. operation needs shaking up.

“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.

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