The World Electric Vehicles May Create

VW announced it would shut at least three of its German plants, axe tens of thousands of jobs and slash pay by 10%. This is notable because VW is the powerhouse of Germany which typically has been the EU’s industrial engine – meaning jobs, meaning unions, meaning political might. But this is more than a VW story. It is a story of how the energy transition – the transition from pollutive to non-pollutive forms of economic operations – is upending the global order of established industries. It is the story of the hard tradeoffs we have to make in our effort to cut carbon emissions.

In this episode we explore that new world and what it means for the auto industry; an industry many countries and states rely on for their economic driver.

Host: Mike Disabato, MSCI ESG Research
Guest: Yu Ishihara, MSCI ESG Research

Transcript

Mike Disabato (00:00):

What's up everyone, and welcome to the weekly edition of ESG Now, where we cover how the environment, our society and corporate governance affects and are affected by our economy. I'm your host Mike de Beto, and this week we discuss how the world's push toward electric vehicles has already changed the auto industry as we once knew it. Thanks as always for joining us. Stay tuned. The big news in cars this week was the plan by Volkswagen to shut at least three German plants, acts tens of thousands of jobs and slash pay by around 10%. It was notable because VW is the powerhouse of Germany, which typically has been eus industrial engine, meaning jobs, meaning unions, meaning political might also because the restructuring would mark the first closure of a domestic plant in VWs 87 year history, which is a while. But what made it a story we felt worth exploring was because it's not just a VW story. 

Mike Disabato (01:04):

This is a story of how the pursuit of energy transition that is a transition from pollutive to non-diluted forms of economic operations is upending the global order of established industries. And that creates inroads for new players to enter into markets that once seem impossible to penetrate due to the strength of its legacy players. I'm really talking about autos here in general, and it pits the short-term interest of millions of workers against the long-term goals of things like the Paris Climate Accord. So to discuss this situation and how it is a view of a new automotive epoch, I have with me you Isra, who covers all things autos for us and usually I have my guest speak and then I come in with some prepared details and all that. But today I just want to play you the whole interview because I think you've does an amazing job covering the story and how the auto industry is transitioning in this 2024 new world and beyond. And he explores how sustainability and labor can smash into each other without a good answer on how to solve it, especially when a company or region has been prepared for the coming changes in the world due to our need to cut carbon emissions. So thanks so much for joining us today. Please take me through how this VW situation is representative of a new automotive epoch, if I can say that. 

Yu Ishihara (02:26):

Yeah, so I mean the auto industry is going through this massive transition. Everybody talks about electric vehicles and electric vehicle growth. Obviously there's the proof of concept, which is Tesla, that they obviously were the initial trigger of the paradigm shift, but it's not just the industry that's driving this change regulation, governments, I mean whether you want to talk about national commitments to the Paris agreement or China aggressively subsidizing their automotive industry to develop electric vehicles, the technology, the supply chain and consumers to buy them. And so these are sort of the bigger forces at play beyond just the industry switching out combustion engines to electric vehicles. And then honestly, Volkswagen is kind of in the spotlight here. They made these sort of headlines about having to shut plants, fire workers, go back on some agreements they made around lifetime employment. But a lot of this all has to, you can probably trace this back to even Dieselgate where Volkswagen and subsequently the European Union, they had to kind of pivot away from diesel towards a new technology, in this case, electric vehicles, which subsequently pushed the electric vehicle agenda quite aggressively in the European Union. 

Yu Ishihara (03:44):

And then you have this other flip side of this, which is China. They've obviously don't have as much of a strong presence in the legacy automotive industry, but you're seeing now that they're aggressively moving ahead because they were able to sort of invest and obviously with tremendous government support, invest in all the necessary components of electric vehicles. And I mentioned them before, but it's not just developing the actual product, but building out the supply chain, securing the resources, incentivizing consumers to purchase these vehicles instead of combustion engine cars. And ultimately what you're going to end up with is what you're seeing right now, which is that these companies are starting to sort of leapfrog the traditional car makers who are, their initial take on this was really just taking what they had and substituting the engine with a battery. But I think it's becoming clearer and clearer that it isn't just replacing the engine with a battery. That electric vehicles are fundamentally quite different in terms of technology, whether you want to point to the fact that there's more software driven, there's chips, it's more about chemistry than it is about mechanical engineering. And so again, the IP that traditional car makers have sort of built up is not arguably as valuable as what's required for an electric vehicle. 

Mike Disabato (05:11):

You made this really good analogy to me at one point when we were talking about this because obviously this isn't the first time we discussed this, but you said that the change between autos was like the change from a flip phone to an iPhone. Can you kind of go into what you meant by that when you were making that analogy? 

Yu Ishihara (05:29):

Yeah, so it's exactly right. I mean for you or me or for anybody purchasing a vehicle, whether you're purchasing the latest and greatest combustion engine SUV or whether you're purchasing a Tesla or other form of electric vehicle, it's going to serve the same purpose as a user. It's going to get you and your family from point A to B, it's going to carry you certifications or to work or whatever the case may be. And so there's substitutes for the consumer, but for the manufacturer, they're totally different products. And to your point about the phone analogy, you can think back to the era of flip phones or Nokia cell phones to the existing iPhone today. Fundamentally, they serve the same purpose, which is communications. Obviously smartphones can do a lot more things, but fundamentally they're substitutes. But I think it would be hard pressed for anybody to argue that they're along the same lines of technology. 

Yu Ishihara (06:25):

And I think that's exactly how you can think about electric vehicle versus combustion engine vehicles from a manufacturer's perspective for the consumer and still call somebody or you can still drive from point A to point B. But how these things are actually accomplished within the product is completely different. And so that's why you see companies like Tesla, but also coming out of China, whether it's BYD or Xang or Neo or any of the upshot startups that are coming out of China, which are focused exclusively on designing and creating electric vehicles as opposed to having to take an existing combustion engine vehicle model and switch it around to accommodate electric vehicles. This is obviously quite different. And if you don't have this legacy business, for lack of a better way to put it, weigh you down during the transition, you can obviously move much quicker. 

Mike Disabato (07:14):

This is obvious, but I think it's an important thought exercise. If we only cared about emissions, if our goal was just to ensure that transportation cut its emissions as quickly as possible, then this flood of cheap lower emissions electric vehicles from China would be seen as a great thing. Customers can afford them. Our emissions are getting lowered. We slow climate change then great. But these vehicles being met with tariffs in the EU and people are quite worried about their entrance because they're going to disrupt the industry as we know it. So just kind of take me through that thought exercise though. It's kind of like the reality of labor and economics is coming up against the need to cut emissions by using electric vehicles. 

Yu Ishihara (07:56):

Yeah, 100%. I mean, if decarbonization was the sole goal, everybody should be welcoming cheaper electric vehicles with an open arms. It shouldn't matter where they're made or how they're made. If it's decarbonization is the goal. Mass adoption of electric vehicles should be the only concern, but it's not. And this is why you're seeing regions or countries like the United States or eu, the EU impose these huge tariffs on, for example, vehicles coming out of China. They have to protect domestic industry like Volkswagen, which for example, we're going back to the initial point about the plant closures. They're unable to make this transition and effectively take everything that they have, their existing business, their existing employees, their existing assets with them. And so again, to your point, it's kind of like, well, decarbonization is one goal. Yes, it's critically important to achieve the Paris agreement for the automotive industry or for any country to meet its net zero targets. But to meet those net zero targets, you have national interest at stake, you have employment at stake, especially for countries where the automotive industry comprises a significant portion of the economy like in Germany or Japan. 

Mike Disabato (09:10):

It comes up to the core of our business where we have found ways with newer or less common types of data to measure things like how companies are managing a lot of different types of risks, the risks of emissions regulations, the risks of poorly managed relations with your workforce, the risks of polluting rivers and streams and your factories. You can look at them on their own, more and more people want to do with climate transition risks, but to get the full picture of what a company is facing, you obviously in our opinion need to look at the environmental and social risks companies face together. And it's kind of the clashing of those two risks that we're seeing now at vw, but also that I think by your words, we're going to be seeing in the auto industry in general as the push to transition to lower emission vehicles starts to really ramp up as maybe it already has as more Chinese electric vehicles, which are much cheaper to buy flood certain markets. 

Mike Disabato (10:09):

And then you're going to have pushback on labor, especially for these auto companies that have very strong unions that they have to be able to work with. Boeing is a great example of what can happen when there's a breakdown between management and a heavily unionized workforce that feels they are going to get rolled over by the economic engine that the company is trying to push itself toward. And Boeing had this six-ish week strike lost billions and billions of dollars in earnings and economic output and VW we already talked about, but they have hundreds of thousands of unionized employees that have helped build this company to where it's today that they cannot ignore in pursuit of a customer that wants a lower emission vehicles and not just vw, but the now displaced German government can't ignore what's going on either at VW because it is one of their main economic drivers, yet the German government has a climate plan that they want to adhere to. So where do you come to when you get to these crossroads with your thinking in terms of sustainability data and labor versus carbon, all that kind of take me through that. 

Yu Ishihara (11:21):

It's a great question, and you're right. It's funny, every time I'm on this pod, we always end up coming back to the same discussion along these lines. I think I was on about a year ago when we were talking about the UAW strikes against the Detroit three, but it's the same idea. The union, the UAW and the US was fighting for not only for increased pay, but long-term job security in the face of these transition risks. Right now, obviously Europe and China, these markets are moving further along in terms of decarbonizing the automotive industry, but I can guarantee you that if you think going back to companies like gm, which had pledged to go all electric, now obviously some of these companies are starting to water those down a bit, but even then I think the direction is still clear. And so if you are a supply, sorry, a stakeholder in the traditional combustion engine value chain, of course you're concerned, and this is where we go back to our ESG ratings because again, I think it's really important to understand this and look at companies not just from a, oh, are they hitting their climate targets? 

Yu Ishihara (12:28):

Oh, are they transitioning their portfolio, but how are they managing this? How are they managing the other aspects of this? Do they have the proper risk management or stakeholder engagement policies in place to deal with these issues? And I think it's difficult for a hundred percent. It's difficult, and I think these headlines that you're seeing at Volkswagen and the subsequent discussions that they're going to have to have with the union are the difficult ones, and that's why they're making headlines. I think it's also important to remember that the previous CEO at Volkswagen said all these things quite publicly, and this is effectively what got him removed from the CEO position. So it's not like this is all of a sudden a new development. These have been bubbling over for years and now whether it's because of cyclical pressures also hurting the industry's profits at the moment, it's coming head on. And I think Volkswagen is just the beginning of it. 

Mike Disabato (13:25):

Yeah, there's, people talk about the auto industry, durable goods in general, that there's these cyclical trends that bring them up and down, but then there's also the technical and structural shift in this situation of how cars are made and delivered to customers. And as you've said, so is there any way car companies can make this transition a bit smoother? I think one of the big things that UAW workers were striking for was to ensure that there was unionization at the battery plants that the car companies want to use to build their EVs. They were trying to ensure that there's job security for them when they come up against this reality of it requires less labor to create an EV less profitability for these cars and all that. So they were trying to have a just transition of labor in that way in shifting their production to the new plant and the new technology and all of that. But are we just going to have to see a bunch of these sort of very painful closures that VW is dealing with all throughout the EU and the auto industry in general? 

Yu Ishihara (14:26):

It's really difficult to say. I mean, the optimist would say that as they continuously do, they request more industrial policy to support the transition because it is a transition for them. And so arguably, if their mission was decarbonization and they were committed to it and they had long-term policy support and what they would view as enough time, now obviously we don't have enough time, which is why all of these regulations are being put in place. They could perhaps find an agreeable way to make this happen. But I think the word transition is quite important here because it's the auto industry that's going through this transition to low carbon vehicles and decarbonization. But the word transition makes it sound as if the companies are making the actual adjustments to their businesses, which is selling different products or retraining their staff or building up new capacity for electric vehicles. But it's actually more of a paradigm shift, especially for the existing stakeholders in the combustion engine business. So what ultimately the industry might transition, but what that means for the actual companies or the stakeholders or the value chain that exists today, it's a question of going concern. If they don't transition, they will get lost. And if the company wants to survive this, they may not be able to take all of their legacy assets with them. And I think that's sort of the heart of the problem here. 

Mike Disabato (15:57):

Is survival a change that's even more fundamental than just around electric vehicles? And what I mean is the entire value chain for the auto industry going to shift here because of these new entrants and these new type of cars. And what I'm thinking about is Scout, which is an offshoot brand of VW that is selling electric vehicles, but they're selling directly to customers rather than going through dealerships, which is a paradigm shift in how you sell cars that actually Tesla first introduced. Right? 

Yu Ishihara (16:27):

Yeah, it's great. It's a great point. You're making Scout. It's actually a sub-brand that they own. They bought it I think a few years ago and they're reviving it in the US as an electric vehicle company. I think they've showcased two concept models already. But I mean, I think that in and of itself is nice, but I think what's happening at Scout is quite interesting because it's guarding a lot of attention in the United States because one of the things that Scout wants to do is copy Tesla or Rivian or a lot of the Chinese electric vehicle manufacturers business models in China, which is sell directly to the consumer. And this is causing obviously a significant shockwave through the industry in the US because it's illegal to do that in a lot of states in the United States to circumvent sort of independent dealers and directly compete with them. 

Yu Ishihara (17:26):

Some of the EV startups have come managed to sort of go around this because they don't really have independent dealerships to begin with. But the problem with Scout is, is that it's financially backed by Volkswagen. So effectively they're circumventing their own dealers. And so this is leading to potential lawsuits. But I think the important part of this is that this is also part of that techno shift that I was talking about before with the electric vehicle industry. People tend to think about manufacturing jobs at the production lines, but this impacts suppliers, this impacts the tier two suppliers. This also impacts the dealers. If electric vehicle business models are more direct to consumer, then where does this put the dealers? And I think this is also sort of playing out at Scout in a smaller way, but if this is the future, then perhaps one day Volkswagen needs to reconsider its retail model as well. And I'm calling out Volkswagen here, but this could apply to any of the car makers. 

Mike Disabato (18:21):

And what about those other car makers? Because we went through vw, went through the eu, but Toyota, Honda, Kia, we talked about UAW strikes already in America, so I assume this has been peaking out in America for a while. So what about the non-EU car companies with the VW closures? Is everyone like, well, it's a matter time for everyone. We're going to see a similar situation like we saw in Detroit back in the financial crisis where there's just going to be closure after closure and economic calamity that follows. Are all car companies, especially those in Asia like Toyota and Honda and Kia, are they feeling the same sort of pressure that VW is feeling? 

Yu Ishihara (19:04):

It's a good question. I would argue that they're not, but that they will, and a lot of this has to do with their business models. European car makers, they tend to have pretty high exposure to Europe obviously, but also China in terms of their sales and profits. And as we all know, Europe and China are sort of the forefront of this electric vehicle transition. Japanese car makers, they tend to focus a little bit more on the United States and Southeast Asia, where arguably this sort of transition is not happening as aggressively. And so are they feeling as much pressure at the moment? Probably not. Their profit centers are centered in markets where there isn't as much urgency. Having said that, a lot of these companies have manufacturing footprint in Japan, Southeast Asia, in the United States, and these markets will not be immune from this. There is no point in transitioning just Europe and China. This is obviously a global issue to decarbonize transport, and so they may not be feeling the same pressure now, but I guarantee that sooner or later the spillover effects will happen in other markets and they'll face the same issues. 

Mike Disabato (20:17):

Can you end us here by, if you saw all these companies do what VW was doing, what would you think? I mean, you follow this market every day. Give me your analytical opinion that is your own on what you think about when you're watching VW go through these growing pains and this very difficult time for a lot of people because of the closure of these plants. 

Yu Ishihara (20:43):

I'm not going to lie, right? I actually think Volkswagen making headlines because they're closing plants and having to lay off staff, but they are arguably doing what is necessary for Volkswagen as a company to survive. And as much as benefiting and trying to transition the business and carry legacy assets into the future is obviously good for jobs, it is good for the existing stakeholders. As a shareholder of Volkswagen, you need to see the company survive. And so this is sort of where the difficult area comes in is that again, these companies to make the transition, they just simply may not be able to take everybody with them. So how do they manage that, whether it's the difficult discussion that they have to have with the unions about, okay, we may not be able to preserve employment, and so here are the opportunities that we can provide if we do shut down plants versus companies that may or may not just have to exit businesses, sell plants, and not have good policies in place. I think it's a difficult decision that all companies are going to face 

Mike Disabato (21:50):

And look, EVs are what the auto industry is going to use to decarbonize. The technology is available, the environmental benefits are clear. Policy is often supportive and competitive, and it's those factors are going to drive innovation. But many auto companies are already having profitability issues as they try to deal with this shift to electric vehicles. And they're not always the same. And the regions look different depending on what you look at. Ford closed an EV plant just as EV was closing its legacy plants. It's not the same. New entrants are trying to make their way into the market. China especially has strong support for its companies to try and build themselves into a automobile powerhouse. And I think, as you've said, the point that I'm going to end here with is there's these short-term strategic directions and initiatives that these companies are going to take in the auto industry as they navigate a quite delicate balancing act of emissions versus economics and how they deal with that balancing act could dictate the course of their long-term, future market share, their profitability, their survival in an eu, ev, excuse me, dominated future, and the eu, which is pushing their climate agenda admirably strong is seeing some of the first effects of this paradigm shift in the auto industry that we're, as you said, likely going to see for decades to come in every region that we cover for the auto industry. 

Mike Disabato (23:30):

Thanks Zoe for joining me. I wanted to thank you so much for talking to me about the news with a sustainability twist. I want to thank you so much for listening. If you like what you heard, don't forget to rate and review us and subscribe or ever get your podcasts. That helps us get a bit higher on any lists that people have that want to listen to sustainability focused podcasts. So thanks again and talk to you soon. 

Speaker 3 (24:03):

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