What’s Working For Volkswagen In The U.S.?


Volkswagen AG (OTCMKTS:VLKAY) has had a rough last 52-weeks or so with the news of the emissions scandal breaking out and its aftermath. Volume sales are down ~7% through July in the U.S., where nearly 500,000 customers were affected by Volkswagen’s dieselgate scandal. The scandal has had a deep impact on Volkswagen’s business and brand image, with the namesake passenger vehicle brand recording a 38% year-over-year decline through the first half, and Audi’s operating margin dropping 100 basis points.

The group has suffered in the U.S. not just due to the emissions scandal, but also due to the slowdown in demand in the overall market so far this year. The light-duty passenger vehicle market has grown only 1.4% year-over-year through July. This may be due to the cyclical nature of this industry. Following the recession, the U.S. automotive industry went through a boom period with refilling of fleet taking place in the last three years. However, the demand has slowed down this year, especially for passenger cars. S&P Global Ratings cut its estimate for automotive sales in the U.S. in 2016 to 17.5 million vehicles from 17.8 million, citing slowing customer demand and the impact of the U.K.’s vote to exit the European Union on the country’s economy. [1] S&P cut its estimate for growth this year in the U.S. economy to 2% from the previously estimated growth of 2.3%. This puts doubt on whether automotive sales will surpass the record-breaking 17.5 million sales in 2015. Vehicle deliveries are down for both General Motors and Toyota — Volkswagen’s biggest global competitors, in the U.S. this year.

However, what works for Volkswagen is the growth in Audi and Porsche, basically its luxury units.

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Volkswagen Q&A 25

Audi and Porsche combined formed 15% of the net volume sales, 37% of the top line, and ~60% of the operating profit for Volkswagen last year. This is because the average unit pricing of a luxury car is somewhere close to $44,000, compared to just over $20,000 for the average price of vehicles overall. Given the high fixed cost of manufacturing and distributing a car, a higher purchase price is the biggest guarantor of profitability. The fact that the unit sales of Audi and Porsche exceed that of their biggest competitors in the U.S. bodes well for Volkswagen. Although the Volkswagen brand of passenger cars forms a majority of profits for the company, rising volumes for the luxury units means that their proportion in profits, and subsequently, overall profits, will get a boost.

Last September, Volkswagen agreed to fitting defeat devices that regulated emissions on as many as 11 million vehicles worldwide. The German auto giant set aside €16.2 billion ($18.06 billion) in charges related to the emissions scandal last year, and another €1.6 billion provision for the emissions issue through the first half of the year. The group agreed with the U.S authorities in June to pay up to $15.3 billion for buybacks and fixes to 475,000 2.0-liter Volkswagen and Audi diesel vehicles fitted with the defeat device. This did not include fixes for another 80,000 Volkswagen, Audi, and Porsche 3.0-liter engine cars, which means that Volkswagen could be looking at costs of another several billions if the vehicles are bought back.

Volkswagen has faced a tough time in the U.S., from even before the news of the scandal broke out, when the group was struggling to match up to the likes of GM, Ford, and Toyota in the country. However, the progression of Audi and Porsche, which bring in more profits, bodes well for the group.

Have more questions on Volkswagen? See the links below.

Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for Volkswagen

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Notes:
  1. S&P Cuts U.S. Auto Sales View on Slowing Demand, Brexit Effect, bloomberg.com []