(The following statement was released by the rating agency)
Approximately EUR31 Billion of Debt Securities Affected
NEW YORK, Dec 17 - Moody's Investors Service has today downgraded the long-term ratings of Volkswagen AG and Volkswagen Financial Services AG to A2 from A1, thereby concluding the rating review initiated on 7 November 2003. The Prime-1 short-term ratings have not been reviewed. The outlook on the ratings is negative.
The downgrade was prompted by Volkswagen's continued weak operating performance during 2003 and Moody's expectation that a turnaround in profitability back to profitability levels of previous years will not materialise in 2004.
The A2 rating is based on Volkswagen's continued position as market leader in Western Europe with a market share of over 18%, a broad geographical diversification of product sales, continued progress in implementing cost reductions, which are leading to increased joint platform usage, its strong brand image and its very strong liquidity profile. At the same time, the A2 rating also reflects stagnant European car markets with increasing competitive pressure in the mass market from younger and more attractively styled products from (among others) PSA, Renault and Opel, which threaten VW's ability to demand the price premium recommended by management. In addition, VW is challenged by (1) the continued margin pressure and significant volume drops in the US market due to an ageing product line, which will only be renewed by the end of 2004; (2) the heavy incentive war spurred on by the incumbent Big Three; and (3) the limited scope for a return to substantial positive free cash flows until 2005, thus further weakening the company's net liquidity position. Moreover, aggressive expansion and the likelihood for further growth of the Financial Services business are imminent risk factors. Although Volkswagen claims it will not seek to acquire Volvo's Scania share package, event risk remains as Volkswagen is likely to take strategic action in this area.
In the first nine months of 2003, Volkswagen's automotive business experienced a steady deterioration in its operating results (adjusted for capitalised R&D). Free cash flow after capex and dividends was negative by EUR1.55 billion, leading to an automotive net debt position of EUR0.8 billion (before pensions and excluding adjustments for negative net liquidity of financing and other companies of EUR3.3 billion). Adjusted for capitalised R&D, Volkswagen's automotive business has generated a loss of EUR141 million before taxes in the first nine months, which was primarily the result of marginal profits from North America, high operating losses as well as restructuring expenses incurred in South America, a negative contribution from the commercial vehicles division and significantly lower earnings from the Volkswagen brand Group due to the changes to the Golf V. These losses could not be offset by the positive contribution from Asia Pacific and the Chinese joint ventures (consolidated at equity).
The negative rating outlook reflects Moody's expectation that the successful launch of the new Golf will not be able to effectively offset the continued high R&D and capital expenditure costs in connection with its luxury strategy, as well as the negative effects from the changeover of other important models (Passat, Audi A6 and Jetta) caused by lower unit sales, higher incentives for older models as well as start-up and marketing costs for the new models.
Moody's believes that Volkswagen will continue to face formidable challenges that could make it difficult for the company to sustain the current rating. These challenges include: (1) containing the cash burn (negative free cash flow after capex and dividends) in the automotive business to well below EUR2 billion in 2004 and generating a substantial free cash flow in 2005; (2) avoiding a deterioration of operating losses in North America in 2004 compared to 2003, with a return to profitability by 2005; (3) and successfully turning around the South American operations (mainly Brazil) with the aim of reaching break-even in 2004.
Moody's believes that, in the longer term, Volkswagen's greatest challenge is to successfully position the Volkswagen brand in the luxury segments without jeopardising the Audi brand, as well as generating a positive return on the investments in Bugatti, Lamborghini and Bentley while at the same time preserving its strong brand values in the volume segments against increasing competition from BMW (MINI, 1 series), DaimlerChrysler (smart), Renault, Peugeot, Opel, Ford and Asian brands. This strategy has to be accompanied by an improved efficiency in capital spending and continued efforts towards cost reduction.
The following ratings have been downgraded to A2 from A1:
Volkswagen Aktiengesellschaft
- Issuer Rating: A2
- Senior Unsecured MTN - Dom Curr: A2
Volkswagen Financial Services AG
- Senior Unsecured - Dom Curr: A2
Volkswagen Financial Services N.V.
- Bkd Senior Unsecured: A2
Volkswagen International Finance N.V.
- Senior Unsecured - Dom Curr: A2
Volkswagen Investments Ltd.
- Bkd Sr Unsec MTN - Dom Curr: A2
Coordination Center Volkswagen N.V./S.A.
- Bkd Sr Unsec MTN: A2
VW Credit, Inc.
- Bkd Senior Unsecured: A2
VW Credit Canada, Inc.
- Bkd Senior Unsecured - Dom Curr: A2
The ratings that Moody's has affirmed are as follows:
Volkswagen Aktiengesellschaft
- Commercial Paper - Dom Curr: P-1
- Bkd Commercial Paper - Dom Curr: P-1
Volkswagen Financial Services N.V.
- Bkd Commercial Paper - Dom Curr: P-1
Coordination Center Volkswagen N.V./S.A.
- Bkd Commercial Paper: P-1
VW Credit Canada, Inc.
- Bkd Commercial Paper - Dom Curr: P-1
Volkswagen Finance Japan K.K.
- Bkd Commercial Paper - Dom Curr: P-1
Volkswagen of America
- Bkd Commercial Paper: P-1
Volkswagen AG, headquartered in Wolfsburg (Germany), is the fourth largest car manufacturer in the world with annual sales of around 5 million units and the market leader in Western Europe with a share of more than 18%. The group had annual sales of EUR86.9 billion in 2002.