The fallout from the Volkswagen fiasco

Published in Business Spectator (Melbourne), 24 September 2015

vwbeetleVolkswagen’s admission of having systematically manipulated emissions results of its cars has not only plunged the world’s second-largest car manufacturer into crisis, but it is also causing damage to Germany’s international reputation.

But why is anyone surprised?

This is what has happened. Since 2008, Volkswagen sold nearly half a million diesel cars in the US, which complied with emissions standards under test conditions but failed to meet them in ordinary use.

The reason for this discrepancy was a cleverly programmed piece of software that detected test conditions and adjusted the engine accordingly. Volkswagen chief executive Martin Winterkorn, who has just resigned, has admitted the manipulation and the company now faces corporate fines of up to $US18 billion. Volkswagen’s share price has already plunged by more than 30 per cent, although they bounced back slightly after Winterkorn announced his resignation.

In a way, Volkswagen’s crime was a very Germanic response to a business problem: It rendered regulatory standards useless by sophisticated engineering. Or, to say it with the famous Audi slogan, it tried to gain Vorsprung durch Technik (‘Advancement through technology’).

Despite such engineering ingenuity, it remains undeniable that Volkswagen’s actions are not just illegal but grossly unethical. This is a case of fraudulent deception on an unbelievable scale. We are not talking about an honest mistake, human error or negligent behaviour. It requires a certain degree of malice to program your product’s software with the intention of rigging the results only under test conditions. In the words of Volkswagen US chief executive Michael Horn: “We have totally screwed up.”

This is a corporate PR catastrophe of the first order, easily dwarfing previous disasters like the Deepwater Horizon explosion, the sinking of the Exxon Valdez or Merck’s recalls of its Vioxx drug. It calls into question not just one company, but a whole industry in one of the world’s leading business nations.

It is a common misconception to believe Germany is a place for ‘whiter than white’ business practices. That is, of course, how Germany likes to see itself and how it likes to advertise itself to the world. Self-righteousness is a virtue invented in Germany. Just look at the ways the Germans have tried to teach other nations lessons on fiscal policy, energy policy and now refugee policy.

The problem is that there is a gulf between this self-image and the reality of German life. The Germans are probably not worse than everybody else. But they certainly aren’t better, either.

Until not so long ago, bribing foreign officials was regarded as a commonplace business practice in Germany. Only in the late 1990s did Germany change finally its laws. Until then, believe it or not, it was not just acceptable but in fact tax deductible to pay out kickbacks as long as it secured lucrative international contracts. German tax law recognised bribes as nützliche Aufwendungen (‘useful expenditure’).

A culture of corporate corruption rocked several large German companies in recent years. The most prominent case was probably Siemens and shook the company between 2006 and 2008. Dealing with it cost Siemens close to €3bn and led to an exchange of the company’s top management and supervisory board. Siemens has since recovered and installed a chief compliance officer but it was a painful process to get there. Deutsche Bank has also been shaken by its involvement in the LIBOR rigging scandal and is still dealing with the consequences.

Volkswagen itself has had its own experiences with, well, suboptimal business practices. The German system of co-determination in which employees play a role in a company’s management had led the Volkswagen leadership to bribing its own employees’ representatives. They received cash, were taken on luxurious locations and invited to lavish sex parties. The scandal resulted in high-profile convictions, including a prison sentence for the head of the employees’ council.

Last year, an astonished public found out about a media manager’s extravagant lifestyle, all paid for by the company he managed. Thomas Middelhoff, for a while the country’s best paid executive, was facing criminal charges for embezzlement and unjust enrichment. Meanwhile, former chancellor Gerhard Schröder made headlines for his dealings with finance entrepreneur Carsten Maschmeyer. I wrote about both cases for Business Spectator (Germany’s elites reveal their true colours, November 20, 2014).

The latest Volkswagen scandal is not the first example of high-profile unethical business practices in Germany. It may only be the most systematic case of corporate deception – yet.

We probably should not be surprised if in the course of the Volkswagen investigation, we found out about other, similar manipulations. At least the reactions of other German car manufacturers have been remarkably muted. There was no sign of schadenfreude – that sense of glee at the misfortune of others. It rather sounded like fear of being caught as well.

Take Daimler’s chief executive Dieter Zetsche, for example. Commenting on the Volkswagen case, he said that he assumed his own company complied with the letter and the spirit of the laws: “I have a rough idea what this is about and that it does not have any bearing on us”, while adding that it was too early to come to a final conclusion. Does that sound like a clear denial?

Manipulations in official test results of new cars have become so commonplace that many consumers do not take them too seriously anymore. Every car buyer knows, for example, that the official fuel efficiency figures have to be taken with a pinch of salt. Earlier this year, German motoring magazine Auto Bild revealed that official and real fuel consumption typically differed between 30 and 40 per cent.

It was therefore not too surprising that Volkswagen was caught in the act of manipulating its emissions figures. In fact, this is what industry insiders and regulators have been expecting all along. As a former employee of Germany’s environmental agency just told a business magazine, it was not a new practice – and not a practice exclusive to only German or European manufacturers.

Be that as it may, it was Volkswagen that just got caught and the scandal is getting bigger by the day. Apart from the half a million cars sold in the United States, Volkswagen has now admitted that the manipulated software was used in 11 million cars worldwide. The company has also set aside €6.5bn to deal with the fallout of the affair.

After the troubles earlier this year between Volkswagen’s management and the company’s owners (Germany’s corporate governance problem, 20 April 2015) it looked briefly as if Volkswagen could return to business as usual. However, after last week’s revelations its image is severely damaged. it will struggle to make inroads into the American markets where Volkswagen has always been weak, and it now also faces severe fines.

The more significant damage, however, is suffered by Germany AG. Its national and corporate reputation has taken a big hit from which the country will take a long time to recover.

Never mind that Germany still produces cars that are technologically superior to its rivals – in every legal and illegal way.

%d bloggers like this: