The Volkswagen emission scandal (commonly known as Dieselgate) has shocked the entire world. It all began on September 18, 2015 when the German carmaker was charged for violating the Clean Air Act by the United States Environment Protection Agency (EPA).
Volkswagen’s turbodiesel models were found to be programmed with a ‘defeat device’ that would block the emission controls during the actual driving and would turn them on only during the emission testing phase itself. The amount of NOx emitted during the day-to-day driving was almost 40 times higher than the prescribed limits. With 11 million Volkswagen diesel vehicles being fitted with this ‘defeat device,’ there is little doubt that the VW Dieselgate could be one of the biggest scandals of all time.
How much could this scandal cost VW?
Image Source: BusinessInsider
"The market does not appear to be discounting negative knock-on effects. The outcome for recall costs and fines is unclear and largely depends on the engine performance post repair," said a Credit Suisse analyst in its report on the scandal. Estimates from Credit Suisse peg the costs of Dieselgate at a worst-case scenarios of $87 billion. Related: Current Oil Price Rally Will Fizzle Out Say Analysts
This would make the VW scandal almost 60 percent more costly than the BP Deepwater Horizon spill. Although the German car maker has allocated around $7.3 billion for dealing with the scandal, it could end up paying more than ten times the allocated amount.
Furthermore, the potential $87 billion in losses would be almost 7 times the German automaker’s net profit for 2014. The $87 billion figure from Credit Suisse includes costs related to owner re-imbursements, civil-criminal cases and fixing the emission problem. However, according to Credit Suisse, the biggest cost for VW would be to compensate for the ‘loss of value’ to the owners of the affected diesel cars, and this could be as high as $37 billion.
Moreover, it would be extremely difficult for VW to repair the damage that has been done to its global brand image after this incident, potentially costing the carmaker even more in the years ahead. There is little doubt that Dieselgate has the potential to completely shatter VW’s financial and brand value.
In a more modest case, Credit Suisse estimates that the damages could reach $26 billion, again more than three times what VW has set aside.
VW scandal could be even bigger than Enron Scandal and BP Deepwater Scandal combined
The Enron scandal of 2001 was one of the biggest and most expensive corporate scandals in U.S. history and it resulted in the collapse of Enron Corp., in wiping out close to $60 billion of its market value. The Enron scandal also wiped out almost $2.1 billion of retirement funds and around 5,600 jobs. Related: Iran Could Trigger A Resource War On Several Fronts Other Than Oil
The recent BP Deepwater Horizon oil spill is yet another major scandal, one which could cost the oil giant more than $20 billion in form of fines and payments. However, with potential losses of close to $87 billion (as a worst case scenario estimate), the current VW scandal could actually be even bigger than the Enron scandal and BP scandal combined.
Can VW exploit any loopholes?
The year 2015 has witnessed the biggest out of court settlement of a single entity with the U.S. Department of Justice. Oil giant British Petroleum (BP) is compelled to pay $20.8 billion for charges imposed on it after its 2010 Deepwater Horizon oil spill in the Gulf of Mexico that claimed 11 lives. Although that appears to be a staggering sum, BP will be able to write off $15.3 billion as tax deductible, significantly limiting the losses to the British oil giant.
BP would be able to write off the payments related to restoration, natural resource damage and government re-imbursements, thereby leaving only $5.5 billion as a non-tax deductible sum (which is related to the violation of ‘Clean Water Act’). Related: The End Of The Oil Major?
“BP was found to be grossly negligent in the Deepwater Horizon case, and yet the vast majority of what they are paying to make up for their gross negligence is legally considered just business as usual under the tax code unless the DOJ explicitly prohibits a write-off. This not only sends the wrong message, but it also hurts taxpayers by forcing us to shoulder the burden of BP’s tax windfall in the form of higher taxes, cuts to public programs, and more national debt,” said Michelle Surka of U.S Public Research Interest Group.
Is it possible for VW to find a similar kind of tax relief?
What Volkswagen might end up paying
VW will have to pay for government penalties, the loss of value to its customers in forms of recalls, legal fees and will have to deal with the loss of future sales and eroded brand value. VW could face an $18 billion penalty from the EPA according to a report from Reuters. Even European countries like the UK (where citizens received tax incentives for buying a VW diesel car) are looking to impose similar penalties on the German automaker. Moreover, with close to 11 million VW cars being affected by Dieselgate, the cost of recalls and legal cases could run into billions of dollars.
However, the U.S. tax code allows replacement, reimbursements and monetary compensation as costs of doing business, thereby making them tax deductible (unless otherwise mentioned in the agreement). Even penalties and fines are considered tax deductible. This means that VW might not have to pay $87 billion (as estimated by Credit Suisse) after all, but it doesn’t mean that the company can easily get away with the scandal.
Although VW has announced plans to make a significant change in its diesel technology in addition to pushing the development of its Electric Vehicles, it will be extremely difficult for it to re-build its lost reputation in the auto industry. With net cash in hand of around $28 billion, the German carmaker needs to raise a lot of cash to stay afloat in the years ahead. VW shares have already collapsed by more than 35 percent since the scandal broke, and the $7.3 billion that it has kept aside for Dieselgate will not be enough given the possibility of paying almost 3-4 times the said amount (similar to the conservative estimate put across by Credit Suisse) even when we consider any possible tax deductions. The coming few months will greatly impact the future of the German car manufacturer.
By Gaurav Agnihtori for Oilprice.com
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