Software Scandal

VW's Winterkorn Steers into Chaos

winterkorn_usa_grey background_imago_Jan Huebner
The VW CEO Martin Winterkorn appeared to be riding high after surviving a power struggle with Ferdinand Piech, a key shareholder. But VW's admission that it systematically tried to fool U.S. emissions regulators on most of its autos could stop his ascension to the German automaker's board, experts say.

Volkswagen Chief Executive Martin Winterkorn survived a fierce battle earlier this year with Ferdinand Piëch, the controlling shareholder who had dominated the automaker for two decades before resigning as board chairman in April.

Mr. Winterkorn appeared to be untouchable, as chastened board members rewarded him with a contract extension. After that, he was expected to ease into the chairmanship of VW’s supervisory board, reaching the pinnacle of power in Wolfsburg.

But over the weekend, in the space of three days, Mr. Winterkorn’s future at the world’s largest automaker suddenly came into doubt following VW’s admission that it had systematically tricked U.S. emissions regulators to sells its cars.

The investigation by the U.S. Environmental Protection Agency broke late Friday and by Sunday, the once untouchable VW chief executive was saying he was “deeply sorry” for breaking the public’s trust after admitting to cheating on U.S. air pollution tests for years.

The damage to Volkswagen, one of Germany’s iconic engineering giants and a symbol of the country’s economic rise in the euro era, is likely to be severe. The company, for willfully seeking to evade U.S. regulations, could face more than $18 billion in potential fines and a backlash from consumers in a market – the world’s second-biggest – where the Wolfsburg-based automaker had already struggled.

Shares of VW plunged 19.3 percent on Monday, the first opportunity since the scandal broke, shaving €15 billion, or $17 billion, off the value of the world’s largest volume producer of automobiles and trucks. At noon in Frankfurt, VW shares were down €31.07  at €130.10.

The EPA on Friday said that the German carmaker had admitted to equipping its U.S. diesel vehicles with software that turns on full pollution controls only when the car is undergoing official emissions testing. During normal driving, the cars with the software – known as a “defeat device” – would pollute 10 times to 40 times above the legal limits, according to the agency.

Shares in Mercedes maker Daimler and BMW were each down almost 4 percent on the Frankfurt Stock Exchange, as analysts sought to trace the damage from VW’s disclosures and whether other automakers were using the same technology.

“Mr. Winterkorn definitely has to step down from his position: Every politician in a similar situation would be forced to resign.”

Ferdinand Dudenhöffer,, Auto Expert and Economics Professor

Numerous industry experts believe Mr. Winterkorn’s days behind the wheel of the world’s largest automaker could be numbered.

His contract was recently extended until 2018.

The software scandal is a particulary dangerous for Mr. Winterkorn since he also has overseen the automaker’s development, according to Ferdinand Dudenhöffer, an auto expert and professor at the University of Duisburg-Essen.

“Either he knew about the software, and that’s bad; or he didn’t know about it, and that’s also bad because he then clearly didn’t have control of his operations,” Mr. Dudenhöffer told Handelsblatt Global Edition. “He definitely has to step down from his position: Every politician in a similar situation would be forced to resign.”

Daniel Saurenz, an analyst at the Frankfurt-based finance consultancy Feingold Research, said Mr. Winterkorn could face a fate similar to what Deutsche Bank’s former Co-Chief Executive, Anshu Jain, suffered after resigning over a bank interest manipulation affair as the bank’s former head of investment banking.

Although Germany’s financial regulator, Bafin, never found any wrongdoing by Mr. Jain and eventually dropped its investigation, the damage had been done, and Mr. Jain’s reign at Deutsche Bank was over. He left the bank at the end of June.

“People will ask whether (Mr. Winerkorn) knew of the manipulation in the United States, whether he had looked away or whether he really was not aware of (the special software),” Mr. Saurenz said in an interview. “If the affair occurred with his knowledge, all doors will close for Mr. Winterkorn at VW.”

It is unclear whether Mr. Piëch, the iconic engineer who had ruled VW with an iron fist until he clashed with Mr. Winterkorn earlier this year, will now push to oust his former adversary. Mr. Piech resigned from VW’s supervisory board earlier this year but his family remains part of the controlling shareholder group. Experts don’t rule out retribution after Mr. Piech’s bitter battle with Mr. Winterkorn.

“The scandal could give Mr. Piech more ammunition,” Holger Schmidt, an auto analyst at EquinetBank, told Handelsblatt Global Edution. “He wanted to get rid of Winterkorn.”

The scandal adds to VW’s problems in the U.S. market, where the company has seen no progress, Mr. Schmidt added. “There was a lot of hope to improve business in the United States,” he said. This development is definitely a big setback.”

For Mr. Winterkorn, the U.S. investigation came at the worst possible time. On Friday, he is scheduled to present his restructuring plan to the automaker’s board of directors. Mr. Winterkorn was to unveil plans for the long-term direction of the company and its dozen subsidiaries, but now the 68-year-old executive is being forced to deal with a potential multi-billion-euro disaster.

The case is now at the top of Mr. Winterkorn’s agenda. “I personally, deeply regret that we have violated the trust of our customers and the public,” Mr. Winterkorn, said over the weekend. “This is the highest priority to the board and for me personally.”

VW said it had launched an external investigation in the matter.

“It’s clear that Volkswagen will not tolerate any kind of legal or regulatory violations,” Mr. Winterkorn said, adding that the automaker will make every effort to win back trust. “We are working openly and comprehensively together with the authorities to quickly establish the facts with full transparency.”

 

Other VW executives besides Mr. Winterkorn could be drawn into the investigation. Carl Tobias, a University of Richmond professor and expert on product liability, said the U.S. Justice Department will want to know exactly who in VW knew what. “They have to worry much more about getting fined,” Tobias said.

At the heart of the allegations is software that activates during testing and regulates emissions. But during everyday driving, the software cuts out when the diesel-engine car accelerates, spewing far more emissions than legally allowed – at times 40 times more. The company has had to recall 482,000 Passat, Golf, Jetta and Beetle models built between 2009 and 2015 as well as the Audi A3.

With its admission, VW has committed an original in the United States: cheating. Who cheats to gain an advantage will be met with the full force of the law. As a result, the EPA could hit VW with a maximum $20 billion (€17.7 billion) fine. Additionally, CARB, which brought the cheating to light, could also impose a financial penalty.

“The fact that VW so actively took part in the matter makes it that much worse,” said Bloomberg Industries auto analyst Kevin Tynan. “This was no oversight.”

It is likely the U.S. Department of Justice will pursue a criminal investigation. There is also precedent for such a high fine: General Motors recently incurred a $900 million penalty for an ignition switch defect, a sum that experts consider low.

Even VW executives could be drawn into the investigation. Carl Tobias, a University of Richmond professor and expert on product liability, said the Justice Department will want to know exactly who in the company knew what. “They should be more worried about being prosecuted,” Mr. Tobias said.

Many auto experts are largely perplexed by the matter. “You have to take this matter by all means as an opportunity to scrutinize the process,” said Stefan Bratzel, a professor at the Center of Automotive Management in Bergish Gladbach. In Mr. Bratzel’s opinion, even if it has yet to be proven how severely manipulated the emissions tests were and how high the actual fine will be, it is already clear that Volkswagen’s company’s culture needs a jolt.

An investigation by U.S. authorities is sure to set off a series of lawsuits as attorneys have already filed the first class-action suit from drivers who are seeking to recoup the loss in value of their cars. Another significant cost for VW will be hundreds of millions it will spend to recall and retrofit all the affected vehicles.

In addition to fines and court costs, the scandal could cause a sizable drop in VW sales. Despite a strong market for cars in the United States, Volkswagen brands had done poorly there for years. The company has struggled to capture some 2 percent of the world’s second-largest car market due in part to unattractive offerings, especially for SUVs and cross-overs. Last week, the company also had to admit that its 2015 sales look bad as it sold 238,100 vehicles in the United States between January and August, a 2.8 percent decline compared to the same period last year. That’s in a booming market.  Mr. Winterkorn will personally handle the U.S. turnaround.

One of the few bright spots for VW was its diesel vehicles. They accounted for nearly a quarter of its cars sold, which explains why the company could have used the so-called “defeat device.” Without good fuel consumption and emission levels, the company would have lost its driver of growth in the United States.

Damage to VW’s image is considerable. Frank O’Donnell, the president of U.S. watchdog Clean Air Watch, spoke of defrauding the “breathing public,” while on consumer forums, Americans expressed shock and played on the company’s “German engineering” marketing strategy.

But VW’s legal issues in the United States is not just a disaster for the company, it has put the diesel strategy for the entire Germany automotive industry at stake. Other Germany automakers are trying to make inroads with diesel technology in the United States, and it raises the question as to whether other manufacturers could have manipulated test results too.

The issue with VW emissions test results was first discovered by researchers at West Virginia University. In a May 2014 study, the researchers found emissions levels were too high in a 2012 model Jetta and a 2013 model Passat.

VW first defended the vehicles and said the results suffered from various technical problems and unexpected usage conditions.” In December last year, VW recalled the cars to eradicated the problem. But environmental authorities began to test the models again and determined there were only limited improvements. Once authorities threatened not to approve VW’s 2016 models did the company then admit it had “designed and installed the manipulation software.”

 

John Blau is a senior editor with Handelsblatt Global Edition. Gilbert Kreijger is also an editor at Handelsblatt Global Edition in Berlin, focusing on companies and markets. Thomas Jahn leads Handelsblatt’s New York bureau. Christian Schnell is an editor with Handelsblatt, covering the stock market and German auto industry, and also contributed reporting to this story. To contact the authors: blau@handelsblatt.comkreijger@handelsblatt.comjahn@handelsblatt.com and schnell@handelsblatt.com

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