DBRS Downgrades Volkswagen AG to BBB (high) from A (low), Trend Negative

DBRS Limited (DBRS) has today downgraded the short- and long-term debt ratings of Volkswagen AG (VW or the Company) to R-2 (high) from (R-1 (low) and to BBB (high) from A (low), respectively. The downgrades reflect continuing and consequential headwinds associated with VW’s (diesel) vehicle emissions controversy. With this rating action, VW is removed from Under Review with Negative Implications, where it was initially placed on September 23, 2015. While developments have been numerous and will persist going forward, recent events have culminated in the Company’s increasing incurred provisions to EUR 16.2 billion from the prior level of EUR 6.7 billion. The trend on the ratings is Negative, as, notwithstanding the substantially increased provisions assumed by the Company, DBRS estimates that total costs associated with the emissions issue are still likely to prove considerably higher, with the ultimate impact on VW’s financial and business risk profiles remaining somewhat uncertain.

The Company recently announced its 2015 results, with the above-cited provisions causing VW to report a consolidated loss before and after tax of EUR 1.3 billion and EUR 1.4 billion, respectively, representing its first annual net loss since 1993. The earnings release promptly succeeded the announcement that the Company had reached an agreement in principle with U.S. authorities concerning compensation to owners of some 480 thousand affected diesel vehicles in that market (the compensation apparently to consist of a blend of vehicle buybacks, repairs and other economic compensation). While the preliminary agreement reflects some much needed progress around the emissions issue, DBRS notes that VW faces a multitude of similar negotiations with additional authorities across various jurisdictions worldwide. Taking into account additional compensation and vehicle repair/buyback costs, as well as forthcoming legal costs (which, as of this date, are still not fully known, albeit are likely to prove substantial), the total costs of the emissions issue, in DBRS’s opinion, is likely to significantly exceed the EUR 16.2 billion in provisions incurred thus far. While DBRS acknowledges that VW’s liquidity position for the time being remains substantial, with net liquidity as defined by the Company (i.e., cash and short-term marketable securities less third-party borrowings) as of year-end 2015 amounting to EUR 24.5 billion, its liquidity buffer nonetheless stands to be meaningfully depleted, (albeit liquidity will also be bolstered by future incremental free cash flow generation given the likely protracted nature of the emissions-related costs).

Moreover, DBRS notes that the impact of the emissions issue on VW’s sales performance continues to develop. From September 2015 through March of this year, while the Company has suffered market share losses in North America and in Europe, such declines have thus far proven quite manageable, with the namesake VW brand being the most adversely affected by the emissions issue (as expected), while the Company’s other brands have thus far proven resilient. This notwithstanding, further negative publicity associated with the emissions issue could potentially lead to additional (relative) sales declines, which ultimately could adversely affect DBRS’s assessment of VW’s business risk profile.

The Negative trend on the ratings reiterates DBRS’s concerns that the adverse effects of VW’s emissions issue, in terms of likely future associated costs and weaker operating performance of the Company, may well escalate further. DBRS notes further that the Company’s transparency regarding the emissions issue remains sub-optimal, as VW has also indicated that it will now delay the disclosure of its own investigation (carried out by legal firm Jones Day) into the diesel emissions issue, initially slated to be released by the end of this month, with the Company now currently targeting to disclose such findings by the end of this year.

Notes:
All figures are in euros unless otherwise noted.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

The applicable methodologies are Rating Companies in the Automotive Manufacturing Industry and Global Methodology for Rating Finance Companies, which can be found on our website under Methodologies.

DBRS will publish a full report shortly that will provide additional analytical detail on this rating action. If you are interested in receiving this report, contact us at info@dbrs.com.