Volkswagen Company’s Emissions Scandal

Introduction

According to Bowler, the infamous VW emission scandal refers to a controversy that revolved around software that was strategically embedded in the company’s vehicles with the aim of fraudulently confusing the Environmental Protection Agency (EPA).¹ The software, popularly known as the “defeat device”, had been fitted in about 11 million vehicles, which had already been distributed globally. The fixing of the software in the vehicles followed a requirement by the EPA for the automobile industry to regulate the number of carbon emissions. Under the requirement, EPA would conduct carbon emissions tests before approving any newly designed vehicle. To pass the test, Volkswagen fraudulently fixed a defeat device that would reduce the number of carbon emissions during such tests. According to Buiga, the software had the ability to automatically detect when such tests were being carried out.² As such, it could adjust the running of the engine accordingly to minimise the carbon emissions. The fraud was unearthed in 2015 by an independent investigator, thus causing the company great losses in terms of brand equity and loss of customers. As the paper argues, the company’s irresponsible act could squarely be blamed on its weak corporate governance framework.

A Profile of the Organisation at the Time That the Crisis Occurred

Before 2015, the VW Company was among the market leaders in the automobile industry, despite the high competition in the industry. The company outperformed all other firms in the industry as evidenced by the high profits it realised in the period before the scandal, as shown in the Appendix section. In the mentioned period, the company supplied over 9.7 million vehicles annually to different countries around the globe. Hakim and Bradsher reveal how VW’s profits were also high, owing to the premium pricing strategy, which it had adopted for its products that apparently matched the quality of its vehicles.³ Passat, a brand launched by the firm in 2010, specifically pushed the company ahead of the rivals, owing to its innovative features.

However, according to Burki, the company’s turnover started to exhibit a downward trend in 2015 following the exposure of the emission scandal.⁴ Typically, as Elson, Ferrere, and Goossen confirm, the quality of a company’s products and the overall customer satisfaction are the key determinants of brand equity.⁵ However, in the contemporary world, customers are also considering the environmental impact of the products and services when making purchase decisions as Waddell posit.⁶ The confirmation of the negative impacts that VW’s automobiles posed on the environment damaged its brand equity to the extent of causing the company’s rivals to outsmart it in terms of the turnover as Fleckner and Hopt observe.⁷ The profitability of the company was also adversely impacted by the revelation of the scandal. The company recorded the first-ever losses in the first quarter of 2016.

The Circumstances and Contributing Factors leading up to the Case Crisis

According to Patra, the fixing of the software in the vehicles followed a requirement by the EPA for the automobile industry to regulate the number of carbon emissions.⁸ Under the requirement, EPA would conduct carbon emissions tests before approving any newly designed vehicle. To pass the test, Boston and Houston-Waesch reveal how Volkswagen fraudulently fixed a gadget that would reduce the number of carbon emissions during such tests.⁹ The software could robotically sense when such tests were being carried out. As a result, it could regulate the operations of the engine accordingly to cut the carbon emissions.

According to Terry-Armstrong, one of the factors that facilitated the irresponsible act was the company’s weak corporate governance structure.¹⁰ The company lacked effective internal controls, a situation that enabled its managers to act irresponsibly without being held accountable. In fixing the software, a few engineers colluded with the functional managers to accomplish the mission. In his resignation letter, Martin Winterkorn, the CEO of the company, observed that he was not aware of the misdeeds. The remarks illustrate that the company lacked strong internal quality controls. In the presence of proper controls, the evil act by the engineers would have been detected and reported to the relevant authorities. According to Kollewe, another factor that might have contributed to the vice is the lack of a strict code of ethics.¹¹ This situation may again be linked to the company’s corporate structure. Each company has a code of ethics, which regulates its employees’ behaviours. The code defines the rules and regulations that each employee of the organisation is expected to follow. VW’s code of ethics was not strong enough to mitigate irresponsible actions by its employees. The laxity of the ethical code gave workers the power to conduct themselves illegally, hence paving a way to the scandal.

The Key Actors involved in the Case Crisis and their Culpability

For several years, the company has been reluctant to disclose the actual perpetrators of the vice. However, following its decision to plead guilty of the charges of defrauding its customers, several individuals have been charged for the crime as Ewing confirms.¹² From the list of the indicted persons, it is evident that several departmental heads facilitated the crisis. Heinz-Jakob Neusser, the brand development manager, was charged alongside several others who are believed to have participated in the criminal activity. According to Tabuchi, Ewing, and Apuzzo, Neusser is implicated in the charges for failure to prevent the fixing of the device, despite being the head of the brand development.¹³ Another person who was implicated in the scandal was Jens Hadler, the head of the engineering department. Other functional managers caught up in the scandal include Richard Dorenkamp, Bernd Gottweis, and Jürgen Peter. The mentioned officers headed different departments that were directly attached to the development of the vehicles.

The Organisation’s Response to the Crisis

After the scandal was detected in 2015, Lane reveals how the company initially responded by claims that the problem was a mere technical hitch.¹⁴ However, following EPA’s threat to fail to approve the 2016 vehicles, the company conceded that it had fixed the ‘defeat device’ with the intention of confusing the agency to endorse the substandard vehicles. What followed is that the company promised to fix all the affected cars around the globe.

In what seemed to be a quick move to restore its fading reputation, Spence asserts that the company set aside $15 billion, which would be used to recall all the vehicles distributed in the US.¹⁵ Under the arrangement, the US customers had the power to order the company to fix their vehicles, as opposed to recalling them. As of October 2015, the company had recalled more than 8 million vehicles in Europe, a move that portrayed its commitment to ending the standoff.

According to Ruddick, the decision to recall and fix the vehicles was not good enough since it solved the problem in the US only.¹⁶ Since the cars had been distributed to other parts of the globe, Nicolai believes it would have been better if the company opted to fix all the cars distributed to all parts of the globe, as opposed to recalling those sold in the US.¹⁷ As it stands now, several countries that were affected by the fraud have sued the company besides demanding compensation. If the suits are successful, Swaminathan and Suyun claim that the company may part with a lot of money to settle the disputes.¹⁸

The Broader Governance Lessons one can Learn from the Case

One of the lessons that firms can learn from VW’s case is that strong internal controls are inevitable for the success of a business and that corporate governance should not be compromised at all costs. According to Helm and Tolsdorf, when the emissions scandal was brought to light in 2015, it was blamed on a few irresponsible engineers who were advancing their personal interests at the expense of the company’s shareholders.¹⁹ As Müller asserts, the successful installation of the device by a few engineers without being detected illustrates the failure of the company corporate governance structure.²⁰ According to Clarke, if there were a strong internal control system, such irresponsible action would be detected in time with the appropriate measures being taken to avert the undesirable consequences.²¹ To remedy the shortfalls in the internal control systems, Goergen claims that the firm needs to establish a strong internal risk management department and list all the issues that may substantially affect its balance sheet as potential risks.²² The risk management department should work closely with the internal quality control auditors to avert the recurrence of a similar problem in the future as Koenig observes.²³

Secondly, according to Jung, the problem that currently befalls VW may be attributed in part to the lack of a strong internal code of conduct coupled with shortfalls in communication.²⁴ The assertion is informed by the view that the engineers responsible for the defeat device acted outside the scope of business ethics. If there were a strong ethical code within the company outlining the scope of the employees’ conduct and the personal liability for deviance, the engineers would consider the repercussions before fixing the devices. To shield the company from similar problems in the future, the firm’s managers should formulate a strong code of ethics and communicate the same to the entire workforce. Kaptein and Schwartz argue that involving employees in devising the ethical code promotes compliance.²⁵ Therefore, workers should be involved in the formulation process where they need to be allowed to propose the penalties for non-compliance.

Conclusion

The VW emissions scandal is one of the latest controversies to hit the automobile industry in the past few decades. Since its publicity, the controversy has cost the company huge losses in terms of brand equity and recall fees. The company has since accepted liability and offered to recall all the non-compliant vehicles distributed across the world. The scandal is mainly attributed to the company’s questionable corporate culture that did not promote its internal controls. Several officers have so far been charged for negligence. They are set to face legal actions. This paper outlines the lessons learned from the scandal and offers recommendations for the company that may help to restore its brand equity. Among the recommendations is the establishment of a strong internal control system coupled with the formulation of an actionable code of ethics. The cited recommendations have been discussed in details in this paper.

Bibliography

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Appendices

Appendix 1: Volkswagen’s 5-year profits

Footnotes

1. Tim Bowler, “Volkswagen: From the Third Reich to emissions scandal,” BBC News, Web.
2. Andrei Buiga, “Investigating the Role of MQB Platform in Volkswagen Group’s Strategy and Automobile Industry,” International Journal of Academic Research in Business and Social Sciences 9, no. 2 (2012): 392.
3. Danny Hakim, and Keith Bradsher, “After Volkswagen Revelation, Auto Emissions Tests come under Global Scrutiny,” The New York Times, Web.
4. Talha Burki, “Diesel Cars and Health: The Volkswagen Emissions Scandal,” The Lancet Respiratory Medicine 3, no. 11, (2015): 838.
5. Charles Elson, Craig Ferrere, and Nicholas Goossen, “The Bug At Volkswagen: Lessons in Co-Determination, Ownership, and Board Structure,” Journal of Applied Corporate Finance 27, no. 4 (2015): 37.
6. Dianne Waddell, Organisational Change: Development and Transformation (Boston: Cengage Learning, 2013), 98.
7. Andreas Fleckner, and Klaus Hopt, Comparative Corporate Governance: A Functional and International Analysis (Cambridge: Cambridge University Press, 2013), 76.
8. Bibhu Patra, “The Deliberate Deception: Case Study on Volkswagen Emission Scandal,” Vilakshan: The XIMB Journal of Management 13, no. 1 (2016): 140.
9. William Boston, and Monica Houston-Waesch, “Volkswagen Suspends another top Engineer; Berlin orders Recall; Transport Minister says the recall of tainted Diesel Cars is Mandatory,” Wall Street Journal, Web.
10. Natasha Terry-Armstrong, “The Volkswagen Scandal -The High Cost of Corporate Deceit,” BusiDate 24, no. 1 (2016): 11.
11. Julia Kollewe, “Volkswagen Emissions Scandal–Timeline,” The Guardian, Web.
12. Jack Ewing, “Volkswagen CEO Martin Winterkorn Resigns amid Emissions Scandal,” New York Times, Web.
13. Hiroko Tabuchi, Jack Ewing, and Matt Apuzzo, “6 Volkswagen Executives Charged as Company Pleads Guilty in Emissions Case,” The New York Times, Web.
14. Charles Lane, “Emissions Scandal is Hurting VW Owners trying to Resell,” NPR, Web.
15. Peter Spence, “VW Emissions Scandal: What’s it all about,” The Telegraph, Web.
16. Graham Ruddick, “VW Emissions Scandal: 1.2 m UK Cars Affected,” The Guardian, Web.
17. Franco Nicolai, “Bad Reputation, Customer Attrition and Marketing of the Future: Can the Management of a Company save it from a Scandal?”, LUISS, Web.
18. Vanitha Swaminathan, and Mah Suyun, “What 100,000 Tweets about the Volkswagen Scandal tell us about Angry Customers,” Harvard Business Review Digital Articles 1, no. 1 (2016): 3.
19. Sabrina Helm, and Julia Tolsdorf, “How does Corporate Reputation affect Customer Loyalty in a Corporate Crisis?” Journal of Contingencies and Crisis Management 21, no. 3 (2013): 145.
20. Matthias Müller, “Volkswagen to cut spend as it shifts to Electric Cars and Manages Costs for Emissions Scandal,” FRPT- Software Snapshot 1, no. 1 (2016): 17.
21. Thomas Clarke, International Corporate Governance: A Comparative Approach (London: Routledge, 2007), 72.
22. Marc Goergen, International Corporate Governance (New York: Pearson, 2012), 41.
23. David Koenig, Governance Reimagined: Organisational Design, Risk, and Value Creation (New Jersey: John Wiley & Sons, 2012), 23.
24. Jae Jung, “Case Study: Volkswagen’s Diesel Emissions Scandal,” Thunderbird International Business Review 59, no. 1 (2017): 127.
25. Muel Kaptein, and Mark Schwartz, “The Effectiveness of Business Codes: A Critical Examination of Existing Studies and the Development of an Integrated Research Model,” Journal of Business Ethics 77, no. 2 (2008): 113.