Shares of Volkswagen (VLKAY) have gotten absolutely trounced this week. Volkswagen is famous in stock market lore for its infamous 2008 short squeeze, which sent shares up more than 170% in two days, briefly making it the largest company in the world.
Now Volkswagen is enjoying a similarly shocking collision, this time in the opposite direction. Shares dropped 20% both Monday and again Tuesday, taking more than $10 billion off the company’s valuation. Shares are up about 7% in early Wednesday trading, but it’s still been a heck of a drop. German shares have gotten pounded as well, taking that country’s index into official bear market territory.
At fault is the news that the company was deliberately cheating on emissions testing for its vehicles. The company admitted than in 11 million vehicles, it had installed software that would intentionally reduce emissions when the car was being tested, thus allowing it to spew vast amounts of contaminates the rest of the time.
This isn’t the first time Volkswagen has run into trouble either. Just a couple months ago, the company was sued by an Italian group for overstating the fuel efficiency of its vehicles. One has to ask if there is some cultural problem at Volkswagen that is leading the company to repeatedly break the rules.
It’s one thing to try something in a gray area and push the limits of competitiveness. But outright cheating and committing fraud is not just bad ethics, it also hurts shareholders. The company is deeply imperiling its valuable brand for a short-term profit.
Consumers are very picky about the vehicle they buy and drive. It’s not an area where you can afford to be seen as cutting corners or unethical.
The immediate reaction among analysts has mostly been of the buy the dip, it’ll blow over variety. We’re skeptical. When you type Volkswagen into Google search now, the auto complete starts offering such conclusions as: Volkswagen cheat and Volkswagen fraud. The amount of negative advertising that will stick to the brand could be immense.
And that’s to say nothing of the financial costs as well. Forget your forward earnings estimates, the company’s US sales will be minimal for the foreseeable future. The cost of a recall will be huge, who knows just how big.
The company also faces potential fines of more than $10 billion in the United States. We’ll see if other countries try to take regulatory action against the company as well.
Keep in mind that there is a distinct political aspect to the story. Volkswagen has been making great advantage of the plunging Euro, recently surpassing Toyota (TM) to become the world’s largest seller of automobiles.
With the domestic automotive industry in the United States facing difficulties from the increasingly strong U.S. dollar, wouldn’t it be, you could say, convenient timing for a major scandal to hit one of the sector’s major players?
Election season is in full swing, and with protectionist left-wingers like Bernie Sanders getting major play in the primary, to speak nothing of Trump and his nationalistic tendencies, its not a good time to be a European competitor cutting corners. The dogs have been unleashed, and they are out for blood.
The one factor that may play out to Volkswagen’s favor is that it appears other manufacturers may be cheating on the emissions tests for diesel vehicles as well. If Volkswagen can suggest that this is an everybody does it we just had the misfortune of getting caught event, then perhaps it will blow over more quickly.
However, Volkswagen just hired the lawyers that BP p.l.c. (BP) used following their catastrophic oil spill. It appears they’re aware of the gravity of the situation they’ve gotten themselves into.
And despite the drastic drop in shares, Volkswagen still doesn’t appear all that cheap compared to peers, even assuming its earnings won’t be hit by the scandal. For example, Volkswagen still trades at a Price/Sales ratio greater than that of General Motors (GM). GM, by comparison, faces no major scandal, fines, regulatory problems, etc.
Furthermore, the auto industry faces a difficult market with emerging economies such as China and Brazil struggling so mightily. Sales in the United States have been very strong, bolstering the industry, but the global macroeconomic winds are difficult. As such, it seems premature to take a long-term investment in Volkswagen at these levels.