Opinion: Cheats never prosper

UPDATED: 28/09/2015THE worst example of corporate malfeasance in history was the Ford Motor Company and its 1970s decision that repositioning the fuel tank in the Ford Pinto to prevent fatal fires on impact would be more expensive than paying out legal damages over time to families for the loss of, or injury to, their loved ones.

Ford chose the low road. They decided not to fix the tank.

In 2008, when 2009 model year VW diesel cars were launched in the United States, Volkswagen AG followed Ford down that road into infamy.

Someone at Volkswagen, and we may never really find out who it was or who knew and when, signed off on a course of action that could lead to the unravelling of what was so far this year the world’s biggest car-maker.

The ramifications will shake the financial structure of Volkswagen to its foundations and are going to be far bigger than anyone has yet imagined because so many people, governments and organisations worldwide are going to want a piece of the company for what they did.

By now you will all know the story.

VW rigged the engine control units in these diesel engines to sense that they were being tested for emissions. The engine would recalibrate to give a favourable emissions test result – especially for nitrogen oxide (NOx) emissions – which are a particular challenge in diesels.

But once disconnected from the test rig and in the hands of motorists, the engines reset themselves to run on entirely different settings producing far more competitive fuel economy and engine performance than if the “defeat devices” were in place.

In fact it is claimed by the US government that these cars were putting out up to 40 times more NOx than was seen in the test data.

Now the fact is that no-one died or was injured – unless you draw a very long bow and claim that people die or are adversely affected by excessive NOx in the atmosphere. But the calculated and deliberate programming of vehicle control systems by people inside VW to deceive owners and regulators into thinking these cars were compliant is breathtaking.

In effect all those clever engineers at Wolfsburg could not bend the laws of physics to produce from the engine the fuel economy and performance that had been demanded from on high to be competitive in the US market without over-cooking the NOx – by a country mile. So they cheated, thus saving a mountain of R&D cash and getting a competitive advantage over rivals at a huge cost saving.

This was palpable stupidity. It is not as though they inadvertently signed off on misleading documents or, over time, the cars started falling short of the test results. What makes it so jaw-dropping is that these people deliberately constructed the code and deliberately laid out circuits in the engine control units to achieve their deception. And then they installed them in 11 million vehicles.

At this early stage of unfolding events, the list of the potential ramifications for Volkswagen worldwide is quite frightening.

Volkswagen chief, Martin Winterkorn has fallen on his sword leaving the company with a new leader at the time when a leader is most needed. Matthias Mueller has been taken out the relative comfort of Porsche and parachuted into VW in what will be a career-defining move for him.

The share price is now 50 per cent of where it was in July. Half of that loss was in the past week since the balloon went up. This is a loss of market value of $25 billion since the scandal broke and $50 billion since July. With that kind of loss in the share price before last week, the regulators might well investigate how many shares changed hands and who was selling them in the lead-up to the announcement of the scandal.

VW has already posted an $8 billion charge against the third quarter to start addressing the problem. This is just the first instalment on many allocations to come.

The US regulators will want blood and plenty of it. Apparently US regulators can levy a charge of $40,000 per car penalty for the 480,000 cars affected in the US. There is $20 billion if they take a hard line.

The owners will want full restitution for the lost value of their cars and the class actions are already underway. The problem looks to be that if they obey the recall to have the cars made to comply, their cars will be down on power and use more fuel. And the word is that the EPA might force owners to have the change made.

But that does not solve the problem that the buyers were sold cars, not just under false pretences, but under a deliberate deception and they will, under consumer laws, be entitled to get their money back. The deliberate nature of the deception gives much rigour to legal actions mounted on behalf of the owners. There is just nowhere for VW to go on this.

Could it be that VW will be forced to buy the cars back, make the change to the ECU and then sell the cars as second hand back into the market with full disclosure about the new, worse levels of performance? Any idea what that would cost? There are 480,000 of them and no owner will want to be out of pocket by one cent on this.

Worse for the company would be if the US regulators decided to withdraw the import licenses under which any of the offending 480,000 cars were brought into America. The cars imported were not the cars approved and the government would be within its rights to seek to have them re-exported. And what country and where do you park 480,000 non-compliant new and used cars?Volkswagen’s brand image is trashed for now. Particularly in the US, where the company has struggled to gain a foothold in recent years against American and Japanese competitors.

Few will believe what VW says about the prowess of their vehicles for years to come. This was the lie of lies. All that good work and brilliant advertising over the years is undermined. The future cost to rebuild the brand through sustained brand advertising and customer programs will be in billions worldwide over the many years it will take to fully turn the damage around. The Audi brand has been roped in too. Just when it was travelling so well.

Expect also that VW personnel will be taking heat from their friends and families about their employment choice. Being in management at VW may be no longer be the prestigious position it was until a week or so ago. Talent might stay away for now. Public figures with VW sponsorships may question if they want to be associated with the brand and may even claim that VW has damaged their public image.

The US dealers are going to be incandescent. Having invested in the growth of the VW and Audi brands (dealers typically spend millions on branding their showrooms) they now find sales of the affected new and used diesel cars suspended. Expect a class action from US dealers on this.

Dealers will be paid $70 for September and October for each ground vehicle in stock and $50 for each grounded used car. It will take a genius to contain dealer claims for full compensation.

All VW advertising in the US has been suspended for now – not just diesel ads – because the negative media coverage is drowning out anything VW might say in its commercials. The dealers will love that. Some in-place media/sports sponsorships will continue because they cannot be unravelled at short notice.

Dealers in other markets can only but wait to assess the damage to their sales prospects.

Certain jurisdictions across the world are already asking for confirmation of VW emissions data. And many of those countries, which use design and emissions regulations as a blind for restricting car imports, will be especially harsh on any discrepancies. They will relish inconsistencies. Some may even order the cars out of the country. It has happened before in Japan, for example.

Australia, South Korea, France, Italy, Germany, Switzerland, Britain and the European Commission are the first of what will be many to jump on this issue.

Some countries want all the models in the VW Group re-tested. The mere logistical cost to the company will be huge let alone the flow-on cost if something untoward is found.

And how do you test the cars? Can the testers turn off the cheating software in the ECU if it is a wired-in default when a test is being conducted?In the litigious US market, for starters, VW and Audi’s competitors will be calling their lawyers about the fact that the car-maker falsely represented the cars and therefore took sales from other brands sales to which they were not entitled. We know that 480,000 cars were sold in the US under false pretences that would not have had the competitive edge they did had the true emissions levels been met.

The German car-makers will now have to reassess their diesel sales strategies in the US. They have been beating the diesel drum across America as a way of getting in pole position for upcoming fuel economy standards and now this scandal has stalled their plans. Fellow German car-makers Mercedes-Benz and BMW are already distancing themselves from VW.

Possibly the biggest danger to the Volkswagen Group will be the extent of the financial damage and its effect on forward model investment. When a company takes a hit like VW should expect there will have to be massive belt tightening – not just at VW but right across all the brands in the group.

That means that forward model development will either the pared back, delayed or cancelled and the development engine that has been driving the company to worldwide leadership, just from the point of view of desirable products fielded, will take a very big hit.

In Australia, it is not be surprising to see the ACCC launching action to see if VW here has been using kosher data in its performance and emissions claims.

Will they have to order tests of all models sold in Australia from the VW Group because no-one can take VW’s word that the cars comply. If there are discrepancies, the ACCC has the power to impose huge penalties for each occasion in which incorrect data was presented to the public in PR material, advertising or used to any competitive advantage.

What is so wrong about this scandal is there are a lot of livelihoods and a lot of investments by dealers and others who are dependent on the Volkswagen Group worldwide. Through no fault of their own, these livelihoods and investments have been put under a cloud corporate recklessness.

And for Toyota and GM, yes, there is a Santa Claus.

VW should expect more of this: Page One pointer on The Australian Business section (below)