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Secret Price Fixing Among German Carmakers: New Cartel Suspicions

By Frank Dohmen and Dietmar Hawranek

After numerous scandals in recent years, the German automobile industry is facing scrutiny yet again. This time, VW, Daimler, BMW and Bosch are believed to have colluded on steel price fixing.

June 23, 2016, a Thursday, was an unusually hot day. In Stuttgart, Munich and Wolfsburg, temperatures climbed to 30 degrees Celsius (86 degrees Fahrenheit), and some of the men seeking access to the offices of board members and other executives at Daimler, Bosch, BMW and VW wore T-shirts. They didn’t have an appointment, but they were equipped with warrants issued by the district court in Bonn – warrants that provided them with authorization to search the power centers of the German automobile industry and its most important suppliers.

The men and women from the Federal Criminal Police Office (BKA) and various state offices of criminal investigation were searching for evidence of the existence of a cartel. The Federal Cartel Office suspects that major carmakers and a few of their suppliers have been fixing prices for years, and possibly even decades. It’s not the prices at which the companies sell their cars or car parts that is at issue, but rather a significant component of the prices they pay for steel.

“The aim of the suspected collusion,” the court ruling that granted the search warrants read, was to “unify the purchasing price for steel in the automobile industry and, by doing so, create a commonality of costs.” The Federal Cartel Office believes that the alleged collusion existed back in the 1990s and that “it existed again from March 2007 until February 2013.” Investigators have also found indications there may have been collusion in 2016.

Collusion of that nature is the antithesis of competition. It means that VW, Daimler and BMW were no longer competing to buy steel cheaper than their rivals and passing their savings down to customers – as is normally the case in a functioning market economy. And steel is one of the most important supplies purchased by carmakers.

The nationwide searches didn’t remain secret, with the media quickly reporting on them. But until now, the background and details of the raids have remained largely unknown, the case having been overshadowed by a European Commission investigation into another case that also involves the automobile industry – a case that DER SPIEGEL exposed last summer. That case was triggered when Daimler and Volkswagen essentially admitted wrongdoing, and since then the Brussels authority has been looking into suspicions that the companies engaged in collusion for several years with BMW, Porsche and Audi, in the form of more than 60 working groups covering areas such as technological development, suppliers and how to deal with environmental protection authorities.

The companies had created working groups for almost every part of a vehicle. They existed for “gasoline engines,” “diesel engines,” “car body,” “chassis,” “total vehicle” and many more areas. With five brands involved — Daimler, BMW, Audi, Porsche and VW — the groups were referred to internally as “groups of five.” All together, they met more than 1,000 times in past years.

Playing Down the Scandal

When the activities of the “automobile syndicate” became public following DER SPIEGEL’s report, shareholders responded swiftly. Fearing steep fines, they unloaded their shares in the carmakers. Within the course of just a few days, several billion euros were shed from the market capitalizations of Daimler, VW and BMW.

The companies’ CEOs tried to play down the scandal. Daimler CEO Dieter Zetsche and VW CEO Matthias Müller said it was unclear whether the coordination had violated competition laws. And even if it had, sources close to them said, then they could expect moderate fines at the worst, adding that the meetings of the Group of Five had only addressed technology and not prices or markets. As such, it wasn’t a “hardcore cartel.” At the time, Müller claimed: “I don’t know anything about any price fixing.”

But the case that the Federal Cartel Office is now investigating is precisely that. DER SPIEGEL was able to view emails from participating executives, meeting agendas, meeting notes and presentations from numerous meetings that officials in Bonn believe could be sufficient evidence of forbidden collusion. The suspicion that these agreements took place over several years, the cartel agency believes, likewise indicates that “the respective CEOs or board members of the automobile manufacturers in question were aware of the suspected collusion.”

Bosch would not comment on the most recent allegations. BMW, for its part, confirmed that searches were conducted in June 2016 but declined make a statement regarding the details of an ongoing investigation.

In a statement, Daimler said the company was indeed under investigation and that it is providing its full cooperation with the authorities. The outcome of the Federal Cartel Office’s investigation, the company noted, remains open and as such it is completely unclear whether a violation against cartel law occurred or whether the investigation will be closed again.

VW also claims that the company is providing its full cooperation with the authorities. In addition, the company noted that the Federal Cartel Office had itself “stressed that a search alone does not allow one to draw any conclusion about the further proceedings of an investigation and that there is an assumption of innocence until the end of the proceedings.”

Sharing the Pain?

The competition authority’s suspicions are based on meetings held by the Working Group of the Iron- and Metal-Processing Industry (AVI). Steel producers and processors as well the German vehicle manufacturers’ association (VDA) are members of the Düsseldorf-based organization. But the powerful VDA itself also has a role in the investigations. Within the association’s raw materials committee, long led by VW board member Francisco Garcia Sanz, members agreed to a common strategy on steel purchasing, the so-called guidelines for material price compensation.

During AVI’s meetings, which have regularly taken place twice a year since 2004, representatives of steel producers meet with their major customers, vehicle manufacturers and auto parts suppliers. The meetings often took place at the Frankfurt Airport in conference rooms at the Sheraton Hotel, but also at the offices of companies involved. Daimler, for example, invited participants to its factory near Stuttgart on one occasion.

The meetings weren’t secret. Agendas were prepared, and minutes taken. Often, the meetings would begin with a guest addressing attendees. In March 2010, for example, then head of German energy giant RWE, Jürgen Grossmann, told the group why nuclear power plants needed to stay on the grid despite German government plans to phase them out. Then there were presentations about the market situation. Afterward, Daimler executives chatted openly with their competitors at VW and BMW about sales figures and expectations, foreign markets and new technologies.

Some of the information was so detailed that the cartel authority believes it provides evidence of the exchange of “sensitive” business secrets in ways that violate competition law.

Forbidden Agreements

But the focus of the investigation is potential price fixing, evidence of which the cartel authorities stumbled across by chance. They obtained the meeting notes and documents from the AVI meetings in the course of another cartel investigation into the steel industry. While reviewing the data, they also found that vehicle manufacturers apparently agreed with steel producers on a system in which the values for an important portion of steel prices would be determined based on criteria that had been agreed to in advance. And the same criteria were to apply to all, including Daimler, BMW, VW and several of their suppliers.

Cartel authorities believe that, as “forbidden agreements or coordinated practices that serve to or actually do limit competition,” such arrangements violate Paragraph 81 of the German Act Against Restraints of Competition.

A Questionable Fix for Fluctuating Prices

In order to grasp the mechanism, officials with the Federal Cartel Office had to work their way deep into the intricacies of the steel industry. Raw iron is derived primarily from coking coal and iron ore. Prices for both raw materials fluctuate considerably on the global markets – the price can even double within the course of only a few months. For the production of steel used in automobile manufacturing, large quantities of steel scrap, precious metals and alloying materials like copper, nickel or molybdenum must be added. Procurement costs for all of those materials fluctuate, and they can also account for up to 40 percent of the total steel price.

German steel producers have little influence on the prices of these materials. As such, they generally seek to reach short-term purchasing agreements with their customers so that they can quickly react should prices fluctuate. Vehicle manufacturers, by contrast, need to know what their costs are going to be on the long term, given that purchase prices for their models are generally set for a year.

Steel producers reached an agreement with their customers over the controversial price model during the 1990s. The deal enabled the vehicle manufacturers to segment the price for steel. The manufacturers agreed with their suppliers that each company would negotiate the price for a ton of crude steel and that it would be set for the longer term. That would provide something along the lines of a baseline price.

In parallel, though, a so-called surcharge procedure was also put in place that applied to all the raw materials whose price was subject to strong fluctuations – for alloys and steel scrap, for example. For those materials, the German Steel Federation (WV Stahl)maintained a purchasing price index over the course of years. The index was used to calculate the second half of the steel price at frequent intervals. If the index rose, then carmakers had to pay more; if it fell, prices also dropped correspondingly.

All of this likely would have been unproblematic if each vehicle manufacturer and parts supplier had simply negotiated their own solutions with the steel producers. But instead they came up with a shared pricing formula – not exactly in the spirit of competition laws.

‘Material Price Compensation’

In 2007, the system was even formally cemented at a meeting of the raw materials committee of the German vehicle manufacturers’ association, where all the major manufacturers and some suppliers are represented. At a meeting on March 16 in Wiesbaden, Germany, representatives of the automobile industry formulated “guidelines for material price compensation.” At issue was “painsharing,” as the meeting notes indicate. According to the minutes, the “compensation for price fluctuations in publicly traded commodities” should “be preserved” in the form of so-called material price increase surcharges.

The meeting, held at the city’s Nassauer Hof Hotel, was led by Francisco Garcia Sanz, the VW board member and procurement chief. Daimler representatives were absent that day. But as the meeting minutes, labeled “TOP 5” indicate, Garcia had “communicated with his colleagues in procurement at the vehicle manufacturer” and “coordinated” with them. All the manufacturers represented on the committee had “agreed in advance” on the guidelines for material price compensation.

The system was used by carmakers for several years to coordinate on steel pricing. It apparently didn’t occur to the participants that the system might violate competition law. Otherwise, it’s unlikely they would have kept notes on their meetings.

This failure to recognize the apparent violation can in part be explained by the fact that for a long time, German industry – well beyond the automobile industry – didn’t take competition law particularly seriously. Violations were seen as trivial offenses. It has thus come as a surprise to many companies that, in recent years, the Federal Cartel Office became more assertive in its approach.

Among those who have felt the heat of this tougher new approach are steel industry representatives, who have been the focus of several proceedings. The developments have prompted ThyssenKrupp head Heinrich Hiesinger to order an internal investigation to determine if there have been other violations of competition law. The company is currently looking at all aspects, including the meetings and pricing agreements within the steel industry associations.

Some steps have already been taken. One change was the move by industry association VW Stahl at the end of 2015 to eliminate the scrap price index that carmakers had used until then as the basis for price negotiations. But carmakers didn’t have any intention of simply abandoning the coordination and shifting to normal price negotiations with steelmakers. They instead began looking for a new solution. On Jan. 26, 2016, the responsible BMW executive sent an email to his colleague at VW saying that the companies needed to quickly switch to an “appropriate replacement index.” A mail from a Daimler employee to a steelmaker in January 2016 noted that “defining a new foundation, was necessary for the calculation of the scrap surcharge.”

‘Harmonized Approach’

In the mid-2016 search warrant, the Federal Cartel Office stated that there was suspicion that a “harmonized approach was being practiced and is being practiced today between companies within both the automobile and steel industries.”

One could be forgiven for wondering what is so bad about carmakers joining forces to set a portion of the steel price in accordance with certain indices. Who does that hurt?

For one, it harms car buyers. If a vehicle manufacturer were able to purchase steel more cheaply than its competitors, that might allow it to sell a model for a lower price than its rivals. It may also be damaging to shareholders, given that lower steel prices can lead to higher profits. Even if it is difficult to calculate such potential consequences after the fact, it is clear that a violation occurred here against the fundamental principle of the free market economy – that manufacturers should be competing against each other in all areas.

As such, it’s not particularly helpful for the automobile industry to complain internally that they were also running up against a cartel on the other side, with steelmakers having threatened to stop delivery in the event price adjustments were not made. The carmakers themselves should have reported such activity to the competition authorities rather than turning to dubious countermeasures. Nonetheless, this factor could have a mitigating effect on any possible future fines imposed if the companies are found guilty.

Cartel law experts like Thomas Funke, an attorney with the law firm Osborne Clarke, have so far had difficulty determining how high the fines could be if companies are found in violation of the rules. Nevertheless, it is true, he says, that “competition is clearly distorted when competitors agree to a unified reference point for their purchasing prices.” Funke says the fact that the agreements were made in the context of association meetings does nothing to change the possible competition law infringements. On the contrary: Associations that offer a forum like that should also assume they could be facing a fine.

The working Group of the Iron- and Metal-Processing Industry, where most of the meetings took place, would not comment on the proceedings. The powerful VDA and its president, Matthias Wissmann, also did not provide comment.

A Glimpse Inside a Long-Hidden World

The upshot is that Daimler, VW and BMW are now all under investigation by both the cartel authorities at the European Commission in Brussels and the Federal Cartel Office in Bonn. Both proceedings provide a rare glimpse inside the long-hidden world of automobile manufacturers. On the stage at major car shows and in countless interviews, car company CEOs have spent years painting the image of an industry with fierce competition for the lowest costs, new technologies and good returns. “It feels like the competition is getting tougher month by month,” VW boss Matthias Müller said in a 2016 interview with the German daily Die Welt. “Competition is an incredibly good thing,” Daimler CEO Dieter Zetsche has said. And for his part, BMW head Harald Krüger claims: “There’s nothing to replace competition except competition.”

Behind the scenes, though, at the meetings of the Group of Five and the get-togethers of the steelmakers, Germany companies enjoyed doing things together. Some of this cooperation is legal and also in the consumers’ interest – when, for example, automakers agree to a joint top speed on all of their models of 250 kilometers per hour.

In other cases, however, it is at best dubious and probably also illegal – like when companies exchange information about things like emissions controls, diesel exhaust fluid used to reduce nitrogen oxide emissions (which are marketed under the label AdBlue in Germany) or engine control systems and then agree to joint strategies. And all the more so when they agree on the procurement price for the very material that makes an automobile possible in the first place: steel.

The investigation has already achieved one thing. The former partners now distrust each other and have largely ended the work of the Group of Five.

 



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