1 of 3 What happened On September 18, 2015, the US Environmental Protection Agency (EPA) accused Volkswagen (VW) of using “defeat device” sofware that made their diesel-powered vehicles appear to have lower emission levels than they actually did. US regulators accused the company of violating the Clean Air Act, and ordered VW to recall over 480,000 VW and Audi vehicles. In the days that followed, VW’s stock value fell by 23 percent, and on September 23, 2015, its CEO Martin Winterkorn resigned. The scandal then spread to other VW brands across the world, including Audi, SEAT, and Skoda, as the governments in Australia, Brazil, Canada, China, Germany, and nine other countries, announced plans to investigate the emission levels of vehicles manufactured by the VW Group. An estimated 11 million cars worldwide were potentially implicated in the scandal. Consequences for Volkswagen AG Analysts claim that the company will never regain its former reputation. The Group will face major costs of recalls, legal battles, and fnes, while its image of corporate responsibility and sustainability has been severely damaged. In June 2015, the carmaker reached a partial USD 15.6 billion settlement with the US authorities to cover the costs of compensating drivers, and the Case Study Timeline September 18 US EPA accuses VW of using a “defeat device” that lets its cars produce up to 40 times more pollution than legal limits without being detected. September 21 USD 17.6 billion is wiped off VW’s market capitalization. September 22 VW admits that 11 million cars worldwide are ftted with the defeat devices. September 23 VW’s CEO, Martin Winterkorn, resigns. September 28 German prosecutors begin investigating Martin Winterkorn over suspicions of fraud. October 28 VW Q3 results show a defcit of USD 3.8 billion, the company’s frst quarterly loss in 15 years. January 4 The US Department of Justice sues VW on behalf of the EPA for USD 45 billion in response to the emissions cheating. June VW reaches a partial USD 15.6 billion settlement with the US authorities. 2015 2016 fnes imposed for consumer deception. However, the car manufacturer is still facing lawsuits fled by the state attorneys for New York, Maryland, and Massachusetts. The company is also facing lawsuits fled by institutional investors from at least 11 countries Volkswagen RepRisk has published a series of Case Studies that demonstrate the materiality of environmental, social, and governance (ESG) issues – and how RepRisk can serve as an early warning system before these issues translate into reputational, compliance, and fnancial risks. For more Cases, please visit www.reprisk.com/publications or contact us at [email protected]. REPRISK CASE STUDY Emissions cheating scandal leads to recalls, legal battles, and fnes2 of 3 in Europe, Asia, and North America over capitalmarket disclosure issues. The investors claim that top management had known about the cheating devices for some time before they admitted the fault. In June 2016, an analyst at Morningstar Equity Research estimated that the total economic impact on VW would reach USD 55 billion. Was it predictable? For 2014, the VW announced a record sales revenue of EUR 202.5 billion (USD 228.4 billion) with an operating proft of EUR 12.7 billion (USD 14.3 billion) and reported that the company’s production had increased 4.5 percent in Europe and 11.3 percent in Asia. In March 2015, Moody’s rated Volkswagen as “A2: stable” and forecast “improvement in Volkswagen’s operational performance in the next 12 to 18 months.” On September 15, just three days before the scandal broke, VW confdently unveiled its new Tiguan model. However, as early as May 2013, and again in June 2013, RepRisk had identifed reports of inconsistencies between CO2 emissions statistics released by VW and other car manufacturers, and the actual levels of CO2 emitted by the companies’ vehicles. Different reports by two non-proft organizations, the International Council on Clean Transportation, and the German NGO Deutsche Umwelthilfe, accused the companies of using technical tricks to tamper with the emissions data, in order to reduce vehicle and road taxes. In September 2014, the International Council on Clean Transportation Europe published their “From Laboratory to Road” report, an update on their previous analysis in 2012, which cited VW as one of the manufacturers of vehicles whose emissions during laboratory testing did not match those under everyday driving conditions. On September 17, 2015, the day before the scandal broke, Deutsche Umwelthilfe again accused VW of promoting its diesel vehicles as being clean, while deliberately exceeding legal limits by up to 25 times. Figure 1: VW share price - Investors’ reaction to Volkswagen emission saga. Source: Bloomberg. RepRisk is the only ESG research provider that flagged the high risk exposure related to VW before the scandal broke: VW was considered “high risk” by RepRisk as early as September 2014, when the company reached a RepRisk Index (RRI) of 66.3 of 3 June 2013 A report by the NGO International Council on Clean Transportation (ICCT) claimed that carbon emissions declared by carmakers were on average 25 percent higher than what was being communicated. Reportedly, emissions for Audi, BMW, Mercedes-Benz, Peugeot-Citroen, Renault, Toyota, and Volkswagen were higher than the data that was being published by the carmakers. September 2014 In a report entitled “From Laboratory to Road,” also by the ICCT, it was alleged that car manufacturers in Europe, including Audi, BMW, and Mercedes-Benz, had falsifed their fuel consumption statements by up to 50 percent in 2013. September 2015 The German NGO Deutsche Umwelthilfe accused BMW, Daimler, and Volkswagen of being responsible for tens of thousands of premature deaths caused by air pollution from toxic diesel fumes in Germany. In particular, it criticized the companies for promoting their new diesel vehicles as being clean, while installing substandard catalysts and deliberately exceeding legal emission limits by up to 25 times. What RepRisk data captured RepRisk is the only ESG research provider that flagged the high risk exposure related to VW before the scandal broke: VW was considered “high risk” by RepRisk as early as September 2014, when the company reached a RepRisk Index (RRI)1 of 66 – well over the high-risk threshold of 50. This was due, in large part, to systematic risk incidents related to governance issues such as anti-competitive practices, misleading advertising, corruption, and fraud from around the world, including China and India. Company Description Volkswagen AG manufactures cars, trucks, and commercial vehicles for sale worldwide. The company also owns Audi, SEAT, and Skoda, which manufacture and sell cars in southern and eastern Europe, and Lamborghini, which makes sports cars in Italy. 1 The RepRisk Index (RRI) is a proprietary algorithm that dynamically quantifes reputational risk exposure related to ESG issues. It facilitates an initial assessment of the ESG and reputational risks associated with fnancing, investing, or conducting business with a company. The RRI ranges from zero (lowest) to 100 (highest). The higher the value, the higher the risk exposure: 0-25 = low risk exposure, 26-49 = medium risk exposure, 50-59 = high risk exposure, 60-74 = very high risk exposure, 75-100 = extremely high risk exposure.