Troubled VW's profit targets and restructuring plan stretch credulity
It's losing big money in the U.S.; bloated European workforce won't be easy to slash; could successful upscale Audi be sacrificed?
Volkswagen of Germany is Europe's biggest car manufacturer, and its sales are accelerating. In 2005, VW's West European market share was nearly 19 percent, putting it way ahead of second place Peugeot of France's 13.7 percent.
And yet VW is in big trouble. Its profitability is chronically poor. There is no secret about VW's problems. It has too many workers not working productively enough and being paid too much money.
Investment banker Citicorp put it like this.
"VW should be the most fertile field for auto restructuring, with capacity use of 72-73 percent in Europe, and a labor force 15,000 to 20,000 too high, being paid 20 percent above engineering norms."
After long-drawn-out negotiations, CEO Bernd Pischetsrieder was awarded a second 5-year term in charge in May. Before the talks began with Pischetsrieder, he had already said that 20,000 jobs needed to go at VW, with drastic action required to raise productivity. Details of this action plan are currently being negotiated with the union. The results are expected toward the end of this year.
Pischetsrieder pointed to VW's chronic red-ink in the U.S, where it lost about $1.4 billion in 2005, to illustrate the problem.
"We continue to incur significant losses on cars exported from Germany to the USA. In order to ensure a secure long-term future for the group (VW), we must act rapidly and determinedly to eliminate the problems that we face," Pischetsrieder said.
Ambitious targets
VW also has set an ambitious target for profits, saying it would quadruple 2004's pre-tax profit to $6.5 billion by 2008.
You could be forgiven for thinking that this meant that as soon as the ink was dry on Pischetsrieder's new contract, he could quickly surge into action, slashing, burning and bulldozing his way into transforming VW's balance sheet and production efficiency.
But don't forget that this is Germany. They do things differently there.
The unions don't just have to be mollified and schmoozed. They are an integral part of corporate governance, often with 50 percent of the board room power. And then there are the big banks.
German way
The "German Way", or Mitbestimmung, encourages ownership of business by groups of banks which are often happy to remain at arm's length, and are not overly concerned about shareholder value. This is a recipe for guaranteeing jobs and communities, or bloated inefficiency, depending on your point of view. Mitbestimmung supporters describe the German Way as rigorous, not slash and burn competition. This was in contrast to the so-called Anglo-Saxon method, where shareholder value was supreme.
And finally the politicians have to be mollified. The German federal state of Lower Saxony, where VW is based, is a big shareholder with 18.2 percent.
Professor Karel Williams of Manchester Business School thinks VW's plans are not serious, and are a diversion to make shareholders believe serious action is being contemplated. If the targets are missed, shareholders might even demand that Audi, VW's upmarket luxury subsidiary, be put up for sale.
"Fundamentally, VW is, like Renault (of France, which has an alliance with Nissan of Japan) a two percent operating margin company promising to become a 5 or 6 percent (operating margin) company. My own view is that this kind of improvement in return is not very plausible unless much more radical restructuring than it is prepared to contemplate is taken," Williams said.
"The central problem is that the VW brand itself doesn't carry the price premium that would justify the cost structure in its German factories," he said.
Since VW announced the target of 20,000 redundancies late last year, VW's share price has accelerated powerfully, from about $58 last November, to $85 in April. It has currently slid to about $72.
A recent article in a German newspaper, the Sueddeutsche Zeitung, cited VW sources saying that at least 40,000 of the 100,000 people employed in its parts and assembly plants were superfluous.
Stock market theatre
"What is happening is theatre for the stock market. I don't think they will reach the profit target. They can't take enough costs out of the German base to hit the target. If the group misses profit targets, or look like missing them, the stock market will want more radical action, it will start looking at chopping off bits of the empire that could realise some money, like Audi," Williams said.
According to investment banker Morgan Stanley's Adam Jonas, Audi as a stand-alone business is worth more than VW.
"I value Audi at standalone at roughly 60 euros ($77). VW is roughly 54/55 euros ($69/71) now," said London-based Jonas.
Lehman Brothers London office is also looking with a jaundiced eye at VW's prospects, and doubts whether the 2008 profit target can be met.
Low-hanging fruit
Lehman believes that VW's recent financial results were made to look good because the new car model cycle was at its strongest, and cost savings -- so-called low-hanging fruit -- were easy.
"The case for continued earnings growth is weaker and allows us to significantly question the validity of VW's 2008 profit targets," said Lehman in a recent report.
"VW's management has had success at achieving significant savings where they were easiest, but we believe future costs savings are less within management's reach. Labor cost savings will require the unions' agreement and here the upfront cash costs may make a short-term payback more difficult than first assumed. Purchasing costs are significant but can only be reached once new models are launched," Lehman Brothers said.
"We see downside risks to consensus 2006 forecast and 2007 will prove much more challenging due to slower product momentum," it said.
Lehman Brothers points out that there is a slowing in new product rollouts, with the next big launch the new little Polo in spring 2008, and with the new Golf rumored to be accelerated to late 2008. It was originally slated to be replaced in 2009 or 2010. The new VW Eos (pictured), a convertible with a sliding steel roof, is currently being launched, but won't sell in big volumes.
Merrill Lynch agrees, saying in a report that it anticipates a sizeable shortfall on the 2008 profit target, reckoning that it will reach only $4.7 billion.
Material costs savings
Morgan Stanley's Jonas also believes that the 2008 target will be missed, by about $1.3 billion, and doesn't expect VW's axe to cut away anything like 20,000 jobs. But Jonas believes VW can achieve significant cost savings by cutting material costs by around 4 percent a year, and that could achieve around $2.5 billion in gross profit annually.
After Pischetsrieder's contract extension was confirmed, rumors grew that he had been forced to go easy on the unions, who wanted to avoid closure of VW component, transmission and engine factories. Unlike most European car manufacturers, VW still makes 40 percent of its components.
"There was no hidden protocol. I don't see it was in his (Pischetsrieder's) interest to give in to the unions just to save his job, but risk his reputation. I don't see how it could be in his interest to concede to the unions to save his job, and wait for the stock price and earning's to collapse. I don't buy that he got suckered into something," said Jonas.
Jobs or profits?
After the meeting which anointed Pischetsrieder, union sources had said the extension included the promise that the preservation of jobs in Germany would be just as important as profitability.
Jonas believed that the Audi spin-off question could go either way.
"I think Audi could exist as a standalone company, with a continuing supply relationship with VW; it wouldn't have to unwind everything. But VW-Audi is in a position that Renault-Nissan can only dream about being in 10 years from now. You could sell off part of it," said Jonas.
Jonas said VW's biggest problems were in the U.S.
"VW loses almost twice as much per car in the U.S. as GM did last year. That's not sustainable, and they have to do something about the model lineup - there are only 3 models really sold in the U.S., the Jetta, Passat, Golfs and some Beetles, addressing barely one-third of the market," said Jonas.
Earlier this year, Chrysler said it would build a minivan for VW in 2008 to be sold in the United States.
Jonas said Audi, with its big new Q7 SUV, now hopes to break even in the U.S. in 2006, after losing $282 million in 2005, while he expects VW to cut its losses to $600 million from just over $1 billion in 2005.
Natural attrition
Jonas didn't expect to see 20,000 VW redundancies in Germany, but pointed out that early retirement and natural attrition would shed 4,000 to 5,000 jobs a year.
"It's very important, but you don't need 20,000 people to walk out the door to get a 5 percent margin. It would make it easier, but I don't feel it's a prerequisite," said Jonas.
On May 31, VW wrote to its workers saying it would pay up to $321,000 to senior staff who volunteer quickly for redundancy. This was much more generous than an offer made earlier which topped out at $225,000.
Manchester Business School's Williams believes that VW's future in western Europe, along with the other big mass car manufacturers, is in transition. Jobs will be cut eventually, whatever the unions say now.
"Premium manufacturers like BMW and Mercedes have a healthy future, as do the Asians, but the big question is about the guys in middle of the mass market. Probably in the long run they will come under pressure to shift a lot of production and assembly to low cost eastern Europe, and buy more Asian parts. But that is several moves away," said Williams.
"The present talk of 20,000 job cuts at VW and profit targets for 2008, this is the first stage of the opening game. I think in 10 years time, automotive assembly and components production will look very different from now; much less in high wage western Europe, unless you can charge premium prices and can stand the costs," he said.
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VW loses 2x more per car than GM. Could Audi be a sacrafice?
- Thread starter MikeMike
- Start date
Very similar to GM's problem. Except in VW's case, they are having to pay 3x as much to pay off people.
I think GM capped out around 100k. Some of the top guys for VW are looking at 320K. I'm assuming that's in USD.
Everyone always said that VW was over engineered. That's because they have too damn many engineers 😛
I think GM capped out around 100k. Some of the top guys for VW are looking at 320K. I'm assuming that's in USD.
Everyone always said that VW was over engineered. That's because they have too damn many engineers 😛
junkerman123
Golden Member
If something happens to Audi I will boycott cars forever.
thomsbrain
Lifer
well, if you read the article, you'd know that selling cars in europe isn't their problem right now - it's making a profit on the cars they are selling.
JulesMaximus
No Lifer
Here is the standard warranty on our Lexus:
Basic: 4 yr. / 50,000 mi.
Drivetrain: 6 yr. / 70,000 mi.
Free Maintenance: yr. / 7,500 mi.
Roadside: 4 yr. / Unlimited mi.
Rust: 6 yr. / Unlimited mi.
Yeh and Audi offers:
Basic: 4 yr. / 50,000 mi.
Drivetrain: 4 yr. / 50,000 mi.
Free Maintenance: 4 yr. / 50,000 mi.
Roadside: 4 yr. / Unlimited mi.
Rust: 12 yr. / Unlimited mi.
Infiniti offers:
Basic: 4 yr. / 60,000 mi.
Drivetrain: 6 yr. / 70,000 mi.
Roadside: 4 yr. / 60,000 mi.
Rust: 7 yr. / Unlimited mi.
Ect...
Luxury cars always have better warranties than their cheaper selling nameplates. What's your point?
Inspector Jihad
Lifer
pwnd
GTaudiophile
Lifer
Link to original article please?
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