Running rings around the rest

COVER STORY

They were nearly given up for dead In the world's richest vehicle market. Now VW and Audi are benchmarks. Do you know where they're going next?

The brink of disaster can be a mighty potent stimulant for forcing a company to save itself. Just ask Frank Maguire and Len Hunt, two veteran Volkswagen of America executives who, less than a decade ago, survived impending disaster to help lead their company toward an amazing turnaround.

"We were, for about a year, without our most popular products" recalls Maguire, vice president of sales and marketing at Volkswagen division -We had no Jettas in the North American market because of quality and other issues. We kept delaying and finally told our dealers that in lieu of products we'd pay them the average gross profit they would have made if they were selling the cars. That's how we held on to our dealers during that period"

For Hunt, who is Maguire's counterpart at Audi, the brink of disaster was a mere 2,000 units away.

"Audi was definitely going the same route as Fiat and the French guys -pulling out of the world's most lucrative automotive market. No question about it," asserts Hunt "Ingolstadt (Audi's headquarters in Germany) viewed 10,000 units as the minimum annual sales to remain in the States. We'd fallen to just over 12,000. Whether they closed us or not came down to a small group of us going to Gennany and pleading, 'Don't shut down North America. We know how to bring it back, but we need help to do it,"

Volkswagen AG was in shambles during 1992-93. A product drought, high development and production costs, and stiff Japanese competition conspired to drop the VW divisions U.S. sales under 100,000 units-- its lowest level since the early 1960s. And the numbers kept falling the iconic brand that had twice defined the modem small car (first with the Beetle, then the Golf) and once sold a record 569,000 vehicles in the U.S., couldn't even muster 50,000 sales in 1993.

The situation was even worse at Audi. VW's upscale brand was hot in 1984, outselling BMW in the U.S. A year later it boosted volume to a record 74,061 units. Audi execs were smugly forecasting 90,000 sales by 1990. But then came the infamous "unintended acceleration" debacle of 1986 which, along with high prices and the advent of Acura, Infiniti and Lexus, nearly sunk the brand with American car buyers. If not for a handful of dedicated customers and dealers, mainly in the Northeastern states, and the reputation of the quattro system, Audi may have slipped beneath the waves.

It was indeed the brink of disaster. To many industry observers, VW looked like a goner. The company posted a DM1.8 billion loss in 1993, when breakeven meant running its plants at over 100 percent capacity. VW then offered 60 models worldwide, built on 16 different platforms.

But what a difference a decade makes. VW and Audi have steadily clawed their way back from the 1992-93 brink, staging one of the industry's most profound comebacks. The company has expanded its global product portfolio to more than 100 models, but now they're built on just four platforms (excluding Bentley and Lamborghini). Last year VW division's U.S. sales exceeded 355,000 units, an increase of 12.5 percent over 1999. And 1999 was up 43 percent from 1998, according to company figures.

Audi's numbers last year were 21 percent better than 1999's. And the brand with the four-ring logo set a new U.S. sales record, topping 80,300 units and finally exorcising the "UA" demon that had kept the clock frozen in 1985.

"When you're on the bottom, you bring in hunters, not farmers, to put you back on top," says Hunt, who was heading Jaguars UX sales operation in 1993 when he was recruited by VW AG to take command of Audi's American business. It may have seemed like a risky move for him at the time. Now Hunt's plotting short-to-- midterm sales growth beyond 100,000 units; Maguire's team is aiming above 400,000 (VW division's sales per U.S. dealer are now among the industry's highest). Securities analysts believe both brands' sales targets are quite achievable, given their product and marketing success.

Worldwide, VW Group's product-intensive expansion under Chairman Ferdinand Piech has added well over one million units to the company's bottom line since 1996. Part of the growth came from acquiring Seat and Skoda and modernizing those brands within VW's vaunted common-platform universe. After falling behind the newly merged DaimlerChrysler afew years ago, VW has climbed back into its longheld position as the world's fourth largest automaker. Its 5.16 million units (including over 652,000 Audis) sold in 2000 rank it ahead of DCX and roughly 600,000 units behind third-largest Toyota.

Piech's Product Blitz

Company executives credit VW Group's comeback to two words: Ferdinand Piech. When VW's enigmatic chairman took over in the early 1990s, he brought with him a single purpose - invest heavily in new product and attend to the core business of automaking. The vehicles shown on these pages that are familiar to North American readers, plus those for Europe and global markets, were hatched under Piech's reinvestment strategy. So were the bold moves to take the VW brand upmarket with cars like the W-12-powered Dl due in 2002 and the W-8-powered Passat. Ditto the Bentley deal (see pg. 44), the Lambo acquisition, and the decision to finally enter the SUV segment with a VW-badged vehicle (co-developed with Porsche and built in Slovakia) next year.

VW AG plows a healthy 3.5 to 7.0 percent of its vehicle sales directly into product development, Piech told a German newspaper last month. And while he has been criticized for being late to the "shareholder value" game, he's also lauded for first concentrating on vehicle design and engineering and filling the product pipeline with attractive cars.

That pipeline is fully loaded - 67 new or revised models coming in the next five years, Pitch promises. It will add up to a 120-model global product range (double the current portfolio), based on a highly modularized sourcing and production system. It will rely more on VW's lowercost plants in eastern Europe and even China (the Lupo replacement).

"VW is rejigging its platform strategy and mov ing to modules so not to continue burdening the lower-priced models," explains industry consultant Karl Ludvigsen, chairman of London-based Ludvigsen Assoc. Ltd. "Your most expensive brand should drive your platform costs. But VW's cheaper cars are costing more than they should."

They're also attracting some customers who realize, for example, the Seat. Toledo is tecnica close cousin to the VW Golf and Audi A3, but costs far less Analysts believe the modular strategy which allows unique chassis timing and interior customization, is aimed at diffusing the issue and keeping the lower-- rung cars from cannibalizing their upscale brethren To protect the Audi brand, the A4 and A6 reportedly will not share platforms with the other brands. The issue is not a concern with Passat and A4 buyers in America, note VWoAs Maguire and Hunt.

Perhaps the most visible example of VW's rebound, and where some of the added cost resides, is inside its vehicles. Whether in a luxury AS or a humble Polo, "VW/Audi over the last few years has become known as a European marque of quality," observes Kevin Mann, director of European operations at industry consultants CSM Worldwide in London. The overall richness and attention to detail that delight Audi and VW buyers has been transferred to Skoda and Seat, he notes. Skoda production has skyrocketed, up 100,000 units, since the introduction of VW's high quality interiors and finish.

VW Group's cabins are the envy of the industry "the quality and premium materials are stunning," notes Mann. Audi's interiors are the benchmark in that area, a fact that surfaces frequently in interviews with industry design executives. It has even inspired General Motors Design to launch "Audi Times Two," a high-priority push supported by the company's executive leadership that's aimed at out-Audiing Audi's cabin executions.

"We've examined VW/Audi customer demographics; they have a lock on young buyers, no question," says a GM executive who asked not to be named "I wish we had their numbers. They have one of the most desirable customer bases in the industry and we feel the interior executions are what excites the public. I also wish we had their ad agency."

Cabin quality, crisp exterior styling, tight panel gaps, hip advertising that directly connects customer and product - name an area in which VW Group excels and you'll find Piech driving the improvements. "He's an engineer's engineer who'd rather focus on product than financials," says WoAs Maguire, who has witnessed the chairman telling his design engineers how to improve a specific feature.

Few, if any, OEM chiefs are as laser-intense and hands-on as VW's. And as unconventional as it may be, it's also a key reason the company's North American business has rebounded so dramatically. According to Maguire and Hunt, Piech now visits the U.S. on a regular basis, test driving competitors' cars and comparing them to VW and Audi products on secret drives.

Unlike the 1980s, when VW's German leaders didn't try to understand what American customers wanted or often refused to accept changes to fit the U.S. market - Piech trusts VWoA President Gerd Klaus and his boss, VW AG Board Member and North American regional chief Jens Neumann, to push for the right products. Both men are German by birth; Neumann went to school in the U.S. and each are "100percent American in the way they view the needs of this market," according to a top insider.

The result has been cars that deliver what Americans want in a German product -Mey now understand that we need shorter drive axle ratios and torque coverlets that lock up quicker- drivetrains tailored for Americanstyle driving and roads," Hunt explains. "We are given full carte blanche on how we market to America," he adds (see sidebar, pg.29). "Germany is very interested in what we've done here to turn it around and grow the business."

And unique product? VW division has perhaps benefited more than Audi in this area, developing the new Beetle and the reprised Microbus in the company's Simi Valley, Calif., design center because those vehicles' main audience is American.

For Audi, the 2002 S6 Avant is only being built for America. Ingolstadt is also debating whether to homologate the A3 subcompact for North America, says Hunt.

Major Tests Ahead

Each step forward for VW reveals fewer major issues left that need fixing. Boosting shareholder value, and realizing his goal of a 6.5 percent gross profit margin, will continue to be a focus for Piech before he retires next year. So is bolstering VW defenses against a takeover by a larger OEM "I see it as my task before I leave office to make sure that nobody can swallow the company without suffoeating in the process," Piech told the German press last month.

While the company "slept through the minivan" revolution, as Jens Neumann admits, it is now wide awake in this highly profitable segment. VW is preparing two new models: one Golf-- based, to compete with European MPV leaders Renault Scenic and GM Zafira and slated to debut at Frankfurt; the other is the neo-classic Microbus, which insiders say is "a shoe-in" for production. It'll look good wearing Phish stickers, parked next to the convertible Beetle that's also coming.

VW and Audi rarely rank high in product-quality surveys, a point they will have to improve to win back defectors who now drive Honda, Acura, Toyota and Lexus The company also needs to speed its order-to-delivery in North America, and is weighing a U.S. assembly site. A decision is expected this year.

Product, above all else, propelled VW Group's remarkable resurgence. And it will test the automaker as it moves ahead.

Effectively managing its 120-model product portfolio, clearly differentiating brands, boosting Audi's status and reducing cost will affirm Piech's master plan. And it will move VW further away from the brink - something Frank Maguire and Len Hunt both endorse.

Risky-but-Right Ads Are a Key to Success

In 1995, former VW and Audi advertising chief Steve Wilhoite searched for an ad agency with no prior auto experience. He wanted to break a few rules. Alan Pachenbach of Boston's Arnold Worldwide agency won the account. Boston, with its multiple colleges and plethora of young people, replicated VW's actual and potential clientele.

"We looked for people who were still VW loyalists," Pachenbach recalls. "My partner had a new VW; we filmed him and people like ourselves, added alternative music and hip images and produced a six minute, energy-filled experience-the way we saw the brand."

Wilhoite's response was, "That's it!"

Pachenbach confesses that VW dealers were skeptical at first, but they soon admitted, "you've got the people (in the ads) right." With brand ads and retail complimenting one another-the agency handled both-the impact was doubled.

Liz Van Zora joined the agency from General Motors Corp. just as they filmed the now-famous "Sunday Afternoon" TV ad (shown above), in which two young guys in a new VW Golf grab a throwaway couch off the street, then return it (because it smells). "She was shocked," Pachenbach recalls. "But she was immediately supportive."

The Arnold group "agrees on the fundamental truths and doesn't seek controversy," explains Pachenbach. Butthey don't run from it either. They occasionally do a "reality check" he adds, but there are no focus groups. They go with their instincts.

TV is not really a good communication medium, Pachenbach admits. "It's not great at relaying many facts; people aren't always fully tuned in and with small screens, it's even hard to make the cars look different But most people are interested in other people. If you show them recognizable people in a familiar situation, wrap the car around them and add a VW logo (he makes it sound easy), they'll believe that's what its going to be like to drive the car.

"If your work is honest and self-confident, you'll transfer those human qualities," he adds. "Cars themselves are inanimate objects, remember."

Some critics call the current crop of ads risky. Pachenbach believes that standing out is the safest thing you can do if your brand has a strong personality- "and VW's does," he asserts. "The riskiest thing you can do is blend in."

Audi's ads are produced by another group in the same agency. Although visually very different, they depict realistic Audi intenders in a dream-like reality. They are provocative and powerful.

A young father wants to take backroads in his Audi so his time with his daughter is extended. He gets lost on purpose, "taking every detour." How can we not identify with that sentiment? "Slower traffic keep right; you go left," exhorts another spot.

In one ad that Audi's British distributor picked up, an Eskimo elder teaches his grandson to recognize tracks in the snow: wolf... bear.. Audi Quattro. You chuckle and nod appreciatively.

These ads connect. They're all done with real road signs, arresting visuals and haunting images. The audience is looking introspectively at itself. Even the spots showing the successful LeMans Series racers ("12 races, nine victories, one champion") and the stirring shots of female rally champ Michelle Mouton are effective. "Audi wanted to try something different" she says in a delightful accent "All-wheel-drive Quattro and a racecar driven by a woman."

Unconventional advertising, unforgettable images, great cars. It all works, and it's one of the key reasons Audi and VW continue to gain new customers. Pachenbach says they'll stay the course. Competitors could take a lesson.

- Ken Gross