One of the biggest corporate scandals to emerge in 2015 was that German car manufacturer VW had installed defeat devices in 11 million of its vehicles, which detected when they were subject to emissions tests. According to the US Environmental Protection Agency, the cars would switch on emissions-control devices for tests but on the road emit much higher levels of nitrogen oxide. Further allegations of defeat devices followed, implicating other types of VW, Porsche and Audi models, while internal investigations by VW discovered that approximately 36,000 cars, including those with petrol engines, had been sold with their carbon dioxide levels stated too low and fuel efficiency stated too high. The negative news at one point led to a drop in VW’s share price of more than 40%6 in 2015 although it has since recovered significantly. The company announced in September 2015 it had set aside an initial €6.5 billion provision for the costs of putting right the 11 million vehicles. Due to the risk to VW’s reputation and earnings, the company’s debt was downgraded by rating agencies S&P, Fitch and Moody’s. The scandal has cast a shadow over VW and the entire car manufacturing industry, particularly as corporate emissions reductions were thrown into the spotlight ahead of the COP21 UN climate change summit in Paris.
VW’s internal investigations indicate that the large-scale cheating on nitrogen oxide emissions was due to the combination of three factors: the misconduct and shortcomings of individual employees, weaknesses in certain processes and a mindset in some areas of the company that tolerated breaches of rules. It outlined some of the deficiencies in processes and explained how it plans to address these. VW confirmed that it in future, emissions tests will be evaluated externally and independently and that randomly selected real-life tests to assess emissions behaviour on the road will be introduced.
While we welcomed VW’s update on the emissions scandal, we remain concerned about the lack of discussion of wider corporate governance reform, including with regard to the composition and effectiveness of the supervisory board. We believe this is essential to address effectively the underlying problems and will therefore continue to focus on this in our engagement and seek meetings with the chair of VW’s supervisory board and management board members. While VW seems to have recognised the need to change its culture, it has not yet indicated whether it plans a systematic review of the underlying grievance issues and will implement a structured programme to bring about the necessary changes. In addition, we felt the tone and body language of the company’s presenters were not suited to the seriousness of the crisis, suggesting that there may be limited appetite for real and sustained changes. The company has indicated that we will have an opportunity to meet its chair in early 2016, after which we will consider together with other institutional investors what further steps to take ahead of VW’s AGM in April 2016.
The emissions scandal however goes beyond VW. It questions the validity of laboratory emissions testing from vehicles. Several studies have shown that on-the-road emissions and fuel consumption can be substantially higher than the levels reported during lab tests7. For that reason, relevant policy-makers need to ensure tests are more reliable and coherent, particularly as they are setting standards for CO2 and other emissions.
Under the auspices of the Institutional Investors Group on Climate Change (IIGCC), we collectively wrote to European policy-makers to call on them to make changes to the EU’s carbon-emissions testing programme for road vehicles to restore confidence in testing procedures.
We also raised a series of questions with other car manufacturers in relation to their potential exposure to the issue. All of the car manufacturers we engaged with stated that they conduct emissions testing in accordance with all the relevant standards and to the best of their knowledge do not engage in illegal practices which enhance emissions performance of their engines in assessments. But there was wide acknowledgement of the discrepancy between emissions levels on the road and in test environments.
Because the VW scandal is likely to have implications for the global automotive industry, as part of our sector-wide engagement on environmental issues, carbon and climate change we continue to review the corporate governance, compliance structures and processes and internal risk management of car manufacturers. We are also seeking to clarify their position and lobbying activities on EU and US emissions targets and new testing procedures.
We are assessing manufacturers’ product portfolios and progress on introducing sustainable vehicle technology, such as hydrogen-powered engines. We also continue to assess progress on reducing CO2 fleet emissions and preparedness for future emissions targets. As part of our public policy engagement, we will also collaborate further with key industry bodies and NGOs, including the IIGCC.