The board of Volkswagen can cross another name off its Christmas card list. Over the weekend Sir Chris Hohn, who runs the British hedge fund manager TCI, accused the company of ‘corporate excess’ that led to its high-profile emissions scandal and called for a shakeup of the way it calculates executive rewards.
The company has been in crisis mode since September, when it admitted to installing so-called ‘defeat devices’ in some of its cars to cheat environmental tests. Sales of its own-branded cars have plummeted (its subsidiaries Audi, Skoda and Porsche have been relatively unscathed) and the company now needs to figure out how to reassure customers and shareholders that it can still be trusted.
Part of that process will be identifying what went wrong in the first place. The scandal can’t simply be palmed off on a rogue employee and there are plenty of theories about what went wrong in the upper echelons of the company. Here are a few of them.
Too many shares in the hands of too few
Most large listed companies in the UK and the USA are in the hands of many different shareholders, including institutional investors, the management team and retail investors. But in Germany it’s common for founding families to retain a large stake. The Piëch and Porsche families still own around 35% of Volkswagen, and hold 50.7% of voting rights thanks to the way their holdings are structured.
It may upset corporate governance experts, but this kind of control isn’t always a bad thing. Family-run firms have a reputation for longevity and social responsibility. But in this case the major shareholders have come under a lot of scrutiny.
‘When the board is dominated by a particular investor, there is really no one to monitor them so as to prevent self-dealing or inefficient management,’ wrote researchers Charles M. Elson, Craig K. Ferrere and Nicholas J. Goossen in last November’s Journal of Applied Corporate Finance. 'Collaterally, this may lead to deficient legal compliance and potential scandal as occurred at Volkswagen.’
Failure to tie compensation to performance
Executive pay was a big feature in Hohn’s critique of VW. The business’s profits (excluding Porsche, which was acquired in 2012) dropped from €11.3bn (£8.9bn) to €8bn between 2011 and 2016. Over the same period its 9-member executive board took home a pretty hefty €400m between them. ‘That is corporate excess on an epic scale,’ Hohn wrote. ‘Management has been rewarded for failure.’
Although high-pressure targets have been linked to scandals in the past, he suggests the lack of transparency and long-term incentives helped cause the cheating. ‘We believe that excessive top management compensation, unlinked to transparent metrics and paid in cash with no vesting or deferral has encouraged aggressive management behaviour, contributing to the emissions scandal,’ Hohn added.
Too many worker reps on the board
The bumper pay packages were partly caused by the amount of worker reps on VW’s board, Hohn reckons. In Germany it’s common for several members of a large company’s board to be union leaders. While giving employees some say at the top table isn’t ridiculous, but Hohn suggests it created unhealthy incentives.
‘The fact that huge bonuses have been approved by the labour-dominated supervisory board suggests the old executive management team knew they would be paid a lot of money simply for protecting jobs and increasing wages,’ he wrote. ‘That is no way to run one of the biggest companies in the world.’
A lack of independent directors
VW’s supervisory board has been accused of being less-than-independent. Half of its members are the aforementioned labour reps. And most of the remainder are representative of the Porsche and Piëch families and VW’s other major shareholders – the governments of Lower Saxony and Qatar. Ferdinand Piëch resigned as chairman last April, but he was replaced in October by Hans Dieter Pötsch, the company’s long-time finance chief. That leaves Annika Falkengren, boss of Sweden’s SEB bank as arguably the only truly independent director.
The causes of VW’s emissions scandal were myriad but it seems clear that its less-than-conventional approach to corporate governance didn’t help matters.