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How serious is Volkswage’s cheating?

Volkswagen has been accused of installing software to cheat U.S. emissions test on 482,000 vehicles.

The company may face penalties up to $18 billion, involving 11 million diesel cars sold worldwide. Volkswagen is setting aside more than €6.5 billion ($7.3 billion) to resolve the scandal, including the cost of recalls and lawsuits from consumers. Volkswagen CEO Martin Winterkorn apologized to the public and stepped down on September 23. The German car giant finds itself in an unprecedented crisis and has to face the consequences.

When Volkswagen, the icon of “Made in Germany” and “engineering excellence,” was found cheating, how can people trust auto manufacturers?

It is still uncertain if the scandal would ruin the reputation of “Made in Germany.” What is for sure is that the general public will not trust Volkswagen as before. The logic is simple: people would assume that if a company could cheat on such an important and highly risky issue of emission compliance, it is likely to cheat on anything. If a person is found cheating, especially in the U.S., it would be difficult to regain his reputation, needless to say if a company did so.

If Winterkorn were the person behind the deception or if not he failed to take action after learning about the manipulation, it would have been both impossible for him to cover it up and evade the direct responsibility. However, he claimed that he had no knowledge about the cheating software, which somehow helped save Volkswagen’s reputation: the public does not assume that everyone at Volkswagen is a cheater.

It is more likely that Volkswagen has a serious management problem. It is true that Volkswagen is the only carmaker in the world that successfully manages 12 auto brands. But it is suffering from a serious big enterprise syndrome, lacking an efficient information feedbacks and problem-solving mechanisms. Some mid- and high-level Volkswagen executives tend to cover up problems to their subordinates and supervisors for their own interest. They tend to report good news and played down the bad. Top policy-makers at Volkswagen eulogized by their subordinates were isolated in the ivory tower.

For example, the recall of cars in China over defective DSG (direct-shift gearbox) was the result of some Volkswagen department executives reporting wrong information, as far as I know. It was not until April 2013 that Volkswagen top management officials knew that the DSG was experiencing power loss when they renewed contracts with its two Chinese partners. Winterkorn questioned the officials in charge of the DSG and was outraged when he learned that they did not disassemble the cars for test. Although the company started solving the gearbox defects, no responsible executives were disciplined nor did Volkswagen China improve its chain of command. Winterkorn never faced Chinese media in the last five years, even though China has become its single-largest market.

As to Volkswagen’s big enterprise syndrome, Volkswagen China employees repeatedly told me that if Volkswagen continued to be like this, it is just a matter of time before it runs into serious problems. We just did not expect such a near death-blow on such a mega scale.

The emission scandal will bring Volkswagen more than $100 billion losses in total. There is no final conclusion about the case yet, but Volkswagen’s net profit of about €20.2 billion from the past two years will definitely be written off. What’s worse, the fallout of its reputation will be enduring and affecting its global sales, leading to a profit slump and even losses. It may take years to recover from the scandal.

Will Volkswagen go bankrupt? Not likely. Volkswagen is a mega-multinational company with up to €200 billion in annual sales, 600,000 employees worldwide and numerous subsidiaries. If Volkswagen goes bankrupt, it would be disastrous. German media claims that if Volkswagen collapses, Germany would collapse followed by all of Europe. Although it is exaggerating, the statement has some truth in it.

Despite Volkswagen’s disgrace, we cannot deny that the company still has advantages. Volkswagen was recently selected as “the most creative automaker over the past 10 years” by authoritative organizations. Also, it was again listed as the world’s most sustainable automobile group by the Dow Jones Sustainability Indices.

Therefore, the worst scenario for Volkswagen would be splitting and restructuring. It will be protected by the Volkswagen Law which prevents foreign acquisition. The quality assets of its 12 auto brands will not disappear and would continue to exist in one form or another.

Volkswagen’s luxury brand, Audi, was the creator of turbocharged direct injection (TDI) and the herald of diesel engine technology. If Volkswagen and Audi have to rely on cheating to save costs controlling nitrous oxides emissions, other carmakers may have the same problems.

The spokesperson of the German automobile club, Verkehrsclub Deutschland, believes that not only Volkswagen but other automakers also manipulate emissions data in the U.S. and elsewhere. But BMW and Mercedes-Benz have denied that they have cheated. Bosch admitted that it provided the diesel emission control devices, saying that “we produce the component, but the responsibility for application and integration of such devices lies with Volkswagen.”

It is difficult to fathom the full-extend of this scandal. The proportion of diesel-powered cars is 55 percent in Europe. All European carmakers and vehicles sold in Europe must go by the same standard. It is still not known if they are all problematic. All previously sold diesel cars can be tested. Carmakers cannot get these cars back and any attempt to cover up would be in vain.

In fact, similar deceptions and cover-ups happened with Mitsubishi, Toyota, General Motors and Honda before, and some highly placed company officials were either sent to jail or levied big fines. The difference is that those cover-ups were discovered through vehicle accidents and carmakers were guilty of hiding vehicle safety flaws. This time, Volkswagen elaborately planned the cheating, and may face a massive fine.

Volkswagen and Audi may lose the U.S. market in the wake of the crisis, and their global ranking may drop too, leading to a reshuffle among global automakers. More importantly, the crisis serves as a warning to all companies that cheating may ruin a business, a high cost.

In China though, cheating on emissions has been an open secret and no company has really paid the price of cheating yet. CCTV already reported that vehicles failing the State-IV emissions standards were given compliance stickers. In another CCTV report, a carmaker refused to pay fines after its vehicles were found by authorities in five provinces to carry fake State-IV compliance certificates.

The Volkswagen scandal rings a warning to relevant government departments in China: if we do not ask our companies to pay the price for cheating under the name of “protecting independent brands,” they may end up paying hefty fines to the U.S. if one day they are caught cheating when selling cars there. Relevant government departments in China should really learn from the strict law enforcement of the U.S. Environmental Protection Agency.

(Translated by Kun Xu based on author’s blog)

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