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VW’s Stagnating Profits Show Europe’s Downturn Biting

But Some See Subtle Move To Forgo Profit, Hunt Down More Share
VW Gains Would Put Massive Pressure On Vulnerable Competitors

“this implies some potentially very aggressive price behaviour”

Even mighty Volkswagen is starting to feel the impact of Europe’s downturn as its profits stagnated in 2012 and are likely to do the same again in 2013.

But its flat profit forecast for 2013 masks big trouble for its already tormented competitors because investment bankers reckon that Volkswagen’s plans reveal it is likely to embark on yet more price cuts in 2013 to win more market share. Chronic-loss makers Ford Europe, Opel-Vauxhall, and Peugeot-Citroen must be getting very nervous.

Morgan Stanley said because it reckons VW profits will be boosted in 2013 by close to €2.5 billion in one-off gains from things like foreign exchange movements, the stable earnings outlook implies the use of this big pot of money to undercut the competition with price cuts, discounts and cheap financing.

“We note that VW points to tougher E.U. competition as a reason for its soft guidance. However, with, we estimate, close to €2.5 billion in technical tailwinds to EBIT (earnings before interest and tax), this implies some potentially very aggressive price behaviour on route. Applied to VW’s E.U sales alone, a negative €2.5 billion impact is equivalent to about €800 per car,” said Morgan Stanley analyst Stuart Pearson.

In 2012, VW earned EBIT of €11.5 billion, a 2.1 percent increase over 2011. VW’s forecast of steady profit for 2013 fell short of most analysts forecasts of close to €14 billion. VW will reveal more details of its profit performance later this month.

Bernstein Research analyst Max Warburton, commenting on VW’s profit performance, entitled his report “VW: You Can’t Buck the Market (Even When You Dominate It)”, and said this financial performance might perhaps be the first real set back in seven years, giving that VW remained profitable through the 2008/2009 crisis.

Outperforming, outmanoeuvring, out-competing
“But this is simply the reality of Europe catching up with the company, which has done a remarkable job of outperforming, outmanoeuvring and out-competing everyone else in Europe in recent years. VW has actually been part of the problem in Europe, as it has turned the screw on competitors with aggressive pricing and market share gains in almost every country. But with Europe’s car market slowdown getting worse and worse – and with German sales now lurching downwards too – even VW is now being affected,” Warburton said.

Warburton believes 2013 will be closer to the bottom of the market, and that some of the competition might even be forced to quit, although he didn’t elaborate.

Warburton said non-believers in VW could point to some worrying areas of possible weakness. The peak in profits might be the turning point, the weak euro and strong yen might go into reverse benefitting the Japanese at Europe’s expense, perhaps VW products are becoming too bland, or VW might be pushing against a natural limit to its market share.

“Is VW running into diseconomies of scale? All of these are possibilities – but it’s important to note that there is little evidence in to support such ideas,” Warburton said.

The Wall Street Journal’s initial reporting of VW’s profits and outlook reflected an early reaction that it was negative for the company as a reaction Europe’s economic malaise.

“(VW’s) cautious outlook which took investors by surprise, suggested Volkswagen is starting to feel Europe’s economic woes as the region’s shrinking auto market approaches a two-decade low,” it said.

Fresh assault
But like Morgan Stanley’s Pearson, Commerzbank analyst Daniel Schwarz looked beyond the initial numbers and also saw VW getting ready to crank up a fresh assault on European market share.

“Lower earnings in its core business and rising volumes imply VW’s willingness to buy market share and new models and lower launch/MQB cost do give VW room to manoeuvre. VW now seems willing to invest even more into share gains. Given the desolate situation for key competitors like Peugeot-Citroen, Opel, Fiat, this could work well for VW,” Schwarz said.

Neil Winton – March 3, 2013

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