VW's Plan to Reconquer America

After years of billion-dollar annual losses, Europe's biggest car company makes a last-ditch effort to be profitable in the U.S.

Ever since Ferdinand Piech took an 18.4% stake in Volkswagen through Porsche last October, financial analysts have been buzzing about the chances for faster restructuring at Europe's largest auto maker. On Feb. 10, Volkswagen finally issued the news that markets have been waiting for, announcing plans to cut up to 20,000 jobs and renegotiate labor contracts to help bring costs down.

"The restructuring will definitely move faster. Piech is the owner now, not just the supervisory board chairman," says one former VW senior executive. "There won't be a lot of resistance."

Thanks to changes to the board, Production Chief Wolfgang Bernhard, who joined Volkswagen in 2004 after having co-authored the turnaround at U.S. auto maker Chrysler, should enjoy the backing and the freedom to do even more restructuring. The VW brand unit, for example, barely broke even in 2005, even though management claims that an earlier restructuring plan is saving the company $4.2 billion a year.


Instead, the key profit drivers were VW's premium Audi unit and the financial-services unit, which powered group operating profit to 3.6%. "The VW brand itself is still in trouble," says Juergen Pieper, auto analyst at Metzler Bank in Frankfurt. For 2005, VW's group net profit rose 62%, to $1.32 billion on revenues of $114 billion, triggering a 7% rise in VW's shares.

One key agent of change is likely to be Porsche CEO Wendelin Wiedeking, who says VW must benchmark itself to Toyota (TM). Analysts say Toyota has moved upmarket in Europe and is determined to position itself exactly as VW has traditionally positioned itself -- as the most reliable brand, whose fuel-efficient cars offer a great value.

"The biggest challenge for VW is Toyota," says Philipp Rosengarten, senior analyst at market researcher Global Insight in Frankfurt. "Today's message is that the restructuring plan is delivering savings, but not enough."

Analysts expect VW to step up the pace of restructuring by hiving off several unprofitable German component plants, including axles, transmissions, and motors. That would bring employment down by some 5,000 to 7,000 workers. High on the list are VW plants in Braunschweig, Salzgitter, and Kassel.


The other 13,000 to 15,000 job cuts will come through early retirement or individual payouts of at least $120,000, says the former VW executive. "It will be expensive. It will cost VW at least $2 billion." On top of all that, the decision comes late. Rivals have already moved faster than VW to slash workers, outsource components to low-cost suppliers, and shift production to Eastern Europe and other low-wage zones.

Finally, VW's management will seek to raise the workweek from 28 hours back to 35, or even higher, without raising pay. That would help neutralize the 20% premium VW long ago negotiated to pay its workers over the national steelworkers' agreed wages.

Piech's control of VW, through his family's 51% stake in Porsche, breaks the nettlesome deadlock between labor, management, and the state of Lower Saxony, which holds 18.2% of VW's shares. It's hardly a secret that Volkswagen's German factories are the company's Achilles' heel. Its 100,000 workers earn the highest wages and enjoy the shortest workweek.


Unable to close down capacity or let go of workers, VW's German factories operate at about 70% capacity, losing money. Wiedeking himself has already signaled that Porsche, as shareholder, expects to see a decent return on its $4 billion investment.

Those close to Piech say he's driven to restore Volkwagen's competitiveness and ensure that the company founded by his engineer grandfather Ferdinand Porsche doesn't head down a dead end. To get the job done, he will have to keep costs down sharply, even as VW reengineers its model line back to "People's Car" basics.

"The company will be run more and more by Wiedeking, who turned around Porsche in the 1990s, and Bernhard," says Metzler's Pieper, who believes a well-managed VW could eventually produce an operating margin of 8% to 9% -- a level that only a clutch of German luxury auto makers and Japanese rivals earn today. Investors are just hoping the Wiedeking-Bernhard duo keeps looking like a dream team.

Before it's here, it's on the Bloomberg Terminal.