Module: Innovative Organisations

An Evaluation of the Innovation Process in Volkswagen AG

1. A brief description of Volkswagen AG

The car industry plays a pivotal role in the German economy. It has been the centre of

discussion on the so-called “German model” both concerning it's strengths and shortcomings.

It is a major employer and provides a large proportion of the higher-paid and traditionally secure

work positions. The car industry is the most important seat of power for Germany’s leading

union, IG Metall, and at the centre of the increasing entrenchment of Germany’s codetermination.

In terms of innovation the industry bears robust statistics. In contrast to the overall trend in

Germany, the sector has increased spending on research and development by 66% since 1990. In

1997 it spent DM 14.7 billion on R&D, 24% of the total business sector R&D expenditure in

Germany that year. In 1995 50,000 employees were engaged in R&D, 6% more than in 1991. The

impact is clear in patent statistics. The automotive industry registered 1,892 patents in 1990, 2,940

in 1996 (out of a total of 9,342 patents registered world-wide). Thus 31% per cent of patents

registered in 1995 were German, compared to 25% Japanese and 19% US-American; German

patents.

The Volkswagen works became state-maintained following the Allied withdrawal in 1949. In 1960

Volkswagen Works Limited transferred to a stock corporation (AG) and was partially privatised. At

that time, state institutions held 40% of shares, with the state of Lower Saxony and the German

Federal Government each holding 20%.

The uniqueness of Volkswagen's governance is based on a bespoke law named the “VW

Act” enacted in 1960 when Volkswagen was privatised, and a corresponding company

statute. This legislation includes, among other directives, a required two-third majority on the

supervisory board for any decisions on new plants or plant relocation thus ensuring that the

government and labour representatives could not be overruled in decisions concerning changes of

location and employment security. This has led to consistency in providing a solid basis for

continued innovation.

1967 saw the beginnings of a rupture in the post-war model at Volkswagen. The recession

showed the weakness of Volkswagen’s product strategy. The drop in demand in Germany

impacted VW more than other car manufacturers. Costs became an issue for the first time. It

became evident that product differentiation had its price when even a slight deviation from the

standard product required a separate process and work organization. Thus labour costs also

became an issue for the first time after the boom years. After sales had picked up again in 1968

the dependency on the Beetle remained. None of the new car models (the 1500/1600 and 411/412

series) became a success in the market place.

According to Beaver, W (1992) it was the then chairman of the management board, Rudolph

Leidung who forced a stagnant firm to innovate exponentially. The first step was to establish a US

plant in 1974. He pushed for a radical new design incorporating a front engine, front-wheel drive

and water-cooling along with increased passenger safety. The result was the VW Golf, marketed in

the US as the Rabbit. At its 1980's peak, VW occupied 15% of US automotive market share. This

soon declined and the firm turned to an embryonic merger and acquisition strategy with the

majority purchase of SEAT in 1990. In the late 90s VW moved upmarket with its purchase of Audi

but also retained the lower end of the market with it’s purchase of Skoda. Recently, VW has

addressed it’s continued losses in the USA with the planned opening of a US assembly line in

Tennessee, focused on production of sedan models.

The future options for VW would seem to rest on the US market where consumers are becoming

increasingly conscious of clean technology. For this reason, VW will increasingly focus on neat

ethanol, flexible-fuel and electric vehicles.

2. Organisational characteristics which facilitate innovation: a literature review

There is a general consensus in the reviewed literature that innovative organisations are

engineered to maximise the exploitation of new ideas. Beecham, J (2009) argues that many of the

firms with above average sales growth and profitability have a distinct innovation strategy which is

often characterised by a target of; “30% or more of sales from new products/service introductions

made in the past three to five years” . Nonaka and Takeuchi (1997) elaborate the underlying

characteristics which an organisation should possess to foster successful innovation and define

these as “Challenges”, “Commitment”, “Decision process”, “Knowledge Conversion” and

“Orientation to the Environment”. The idea of challenge suggests that an innovative organisation

encourages employees to commit to challenges as a developmental goal. Commitment, which

Miguel, Franklin and Popadiuk (2008) define as a key enabler to innovation, is how successful the

organisation is in communicating organisational goals to employees. The decision process element

is key in an innovative organisation and can be seen as a value-creation chain as it adds value to

original ideas as it progresses through the organisation. Knowledge conversion, the fourth of

Nonaka and Takeuchi’s 5 factors, has gained the most study in recent literature with Beecham, J

(2009) recognising the social, person-to-person conversion “tacit” process. The very fact that this

knowledge is not available to others adds to the firm’s competitive advantage. Finally, the firm’s

orientation to the external environment, essentially a recapitulation of organisational theories of

cybernetics, is identified as a second key enabler of innovation with the innovative organisation

reflecting the “dynamism of the external environment in the same proportion”, Miguel, Franklin and

Popadiuk (2008). The latter innovation factor on environmental orientation is applied more strictly

to the technology sector by Almirall, E and Casadenus-Masanell, R (2009) who identify two

models, of closed and open innovation. In their definition, firms which employ closed innovation will

typically make all the choices regarding product development while those which employ an open

approach will typically share their technology and integrate elements developed by competitors or

other organisations.

This brings us to further characteristics of an innovative organisation which are of particular relev-

ance to the manufacturing sector. A key concept, alluded to earlier, is value creation. Dietl, Royer

and Strattman (2008) refer to this as a “value-creation chain”. This term describes the structure

and relationships of all the value-adding activities carried out by various actors and companies to

bring a particular product or service to market. In the auto industry these actors would include mod-

ule suppliers, commodity parts suppliers on the input side followed by banks/leasing companies

and dealer chains on the output side. Dietl, Royer and Strattman (2008) make an explicit link

between value-creation chains and innovation by claiming that; “Superior innovation performance

is a strong indicator of entrepreneurial advantage”. Their study of Toyota, Mercedes and Opel

measures the innovation/entrepreneurial advantage corollary through both the quantity and market

relevance of innovations and, secondly, through evolution of market share

2.1 A critical examination of innovation in VW AG

I will now select three of the characteristics outlined above as well, namely decision process, know-

ledge conversion and orientation to the external environment as well as the value-creation dimen-

sion and examine VW’s congruence with these elements of innovation. Taking knowledge conver-

sion first, VW possesses two vital strengths here, brand community and innovation labs. Audi, a

subsidiary of VW, recently implemented an online development community named, “Virtual Lab”

where 1,662 car enthusiasts, equipped with a user-based design tool, developed ideas for future

innovations in infotainment systems. Through this process users participants expressed 219 ser-

vice ideas, gave 261 comments on the console, and contributed 728 visions of future car interiors.

Members of brand communities are considered an especially valuable source of innovation be-

cause they are passionate about the brand and experienced with its products and because they

support each other in solving problems and in generating new product ideas.

The $5.7 million VAIL (Volkswagen Automotive Innovation Laboratory) as a joint venture with Stan-

ford University, was established earlier in 2009 with the goals of accelerating automotive-related

research on campus, increasing opportunities for collaboration between the VW Group and Stan-

ford and build a global community of academic and industrial partners committed to the future of

automotive research. The VAIL is a good example of open innovation where it allows VW to dis-

cover areas of the product landscape that would be hard to imagine otherwise. As partners seek

better positions, VW discovers locations in the landscape that it may never have reached had it

been in charge of all choices. Researchers investigating user-driven innovation and examining the

relationship among collective knowledge sharing, product development, and innovation may find it

helpful to consider the complexity of the mapping between product features and customer value

created as a factor that can potentially moderate the effects of user contributions to product innov-

ation. Obviously, the distinction between user-driven innovation and innovation by firms becomes

especially important if value capture is explicitly considered.

Now, the role of the decision-making process in adding value to innovation at VW. As we have

seen the “VW act” legislates decision quora on plant locations and establishment. There is no evid-

ence that this 2/3 majority on the supervisory board in any way increases the length or complexity

of the decision-making process as regards innovation. As Choo, C and Johnston, R (2003) confirm,

“All decisions are about finding and choosing courses of action in order to attain some goals. The

difficulty of making a decision then depends on how clear the goals are, and how well we know

about alternatives that can achieve those goals”. It may be useful to consider how VW encourages

decision-making for innovation. In other words, adding to the value chain from such inputs as the

Innovation Lab. Certainly, the workers’ strike action at VW Mexico in 2000 specifically called for

more worker involvement in decision-making on seeking a consensus based on production. How-

ever, this tells us little about the place of decision-making in the value-creation chain. The concept

of “workholder value” developed by Volkswagen’s labour director in 1999

showed the uneasiness felt by company management and the search for a compromise. According

to this concept, personnel policy should combine two sets of goals in the future. One is workholder

value with social responsibility, knowledge management, employability and flexibility as central ele-

ments; the other is shareholder value aiming to increase company value, improve results, value

added per employee and yield. The fact that knowledge management is a key tenet of workholder

value we can assume that decision-making is streamlined to maximise knowledge transfer. This is

implicitly suggested by the fact that VW units are measured and rewarded on the basis of de-

cisions,

successes, and the expectations they raise. Certainly, all decisions on financial investment in in-

novations are discussed on an annual basis which may suggest that the product innovation cycle is

longer than expected due to decision-making structures.

Knowledge-conversion has been previously mentioned with specific attention to both the Audi Vir-

tual Lab and the VAIL facility at Stanford. These are quite different approaches which show the VW

is consciously harnessing both the tacit knowledge gained from the Virtual Lab and the explicit

knowledge gained from the VAIL facility. It would be interesting to explore how VW qualify the tacit

knowledge data with the technical possibilites gained from explicit knowledge gleaned from VAIL

research.

With regard to the next innovation factor, orientation to the external environment, it is already been

noted that VW generally exhibits an open innovation model. This can be best illustrated by the

electronic B2B supplier platform which has recently been established. This is the central supplier

access point to the VW Group. By providing cross-functional applications, the VW marketplace has

become embedded in the business processes and core competencies of the whole VW Group.

Since the program began in 2005, the number of users has increased from 400 to 55,000, supplier

sites from 160 to 16,700, and applications from four to 30. This means that the supplier-collabora-

tion platform is a strong “business-as-usual” asset which fosters open innovation..

3, VW Supply Group: the key innovation in VW AG

According to sources at VW, the main advantages of the electronic communication is the reduction

of adminstrative work, the acceleration of processes, improved planning accuracy and improved

transparency in the collaboration with its suppliers. The development of this B2B supplier

procurement platform has produced remarkable savings for both VW and suppliers over the past 5

years. Reference to statistics at VWGroupSupply in the Annual Report show that, as well as the

doubling of suppliers using the platform over the past 4 years, VW now handles all of its contracts

through this system generating transactions up to $56 million resulting in a saving of up to $70

million on the legacy direct procurement methods.

Lee, S (2003) carried out a comparative study of leadership in innovation within the automotive

B2B sector and rates VW as the leader in this field with Opel, BMW and Daimler following in order.

The type of innovation characterised by VW’s B2B supplier platform is essentially that of process

integration rather than product innovation per se. The advantage for VW, beyond the savings

already mentioned, is the ability to accelerate the time to market for new models. This is partly

facilitated by the fact that component orders that would have previously taken up to a month to

process are now executable within a few days with a comcomitant shedding of bureaucracy. In

terms of future stability of this platform, firms would seem to be so well-integrated into the system

that they could not operate their procurement without it.

The drivers behind this innovation are both diseconomies of scale created when VW diversified

their global production to include the USA in the mid-70s. This was compounded by the acquisition

of SEAT et al from the early 90s onwards. With each successive acquisition came a new portfolio

of suppliers with disparate means of procurement.

4. How I would contribute to the future of VW

As indicated in section 1, the most likely future for VW is in the US market where clean technology

is a key consumer concern. There would be a number of opportunities to leverage current gaps in

what I will call the innovation-supply chain as well as integrate current research activities with

innovation. The purpose behind focussing my involvement in Volkswagen USA is simply that the

key research facilities (VAIL in Palo Alto) as well as a production in Tennessee, give a unique

opportunity to integrate research, innovation and production more effectively.

Currently, the VAIL facility produces research and testing on new products which are developed

from the ideas generated from a disparate group of scientists, research fellows and specialists

invited by VW to join them at the Stanford Campus. These are no necessarily employees of VW

Group, and in this respect this innovation is open. Knowledge and data produced feeds into new

VW models and modifications. My first task here would be to investigate how VW could align the

virtual brand communities, such as the Audi Virtual Lab as an integrated input to to the innovation

process. The gap here, as I see it, is that the VAIL facility focuses on performance, handling,

braking and other mechanical aspects of the vehicles. However, we assume that brand conscious

consumers have high expectations for infotainment systems, car livery, and user features as much

as handling etc. These two crucial areas of research need to be brought together in a

complementary fashion as an integrated innovation platform.

This fusion of explicit (VAIL) and tacit (Virtual Lab) knowledge should result in an earlier

specification for suppliers to have access to. This would expidite costings for new components and

models. In parallel to the above, I would also very likely focus on aligning decision-making

processes with the innovation-supply chain. Ultimately, to get better models, more responsive to

customer needs, to the market rapidly, VW would need a radical decentralisation of investment

decision-making to functional heads along the innovation-supply chain. The aim of this would be to

position innovation as the main driver of investment as opposed to the tendency of investment

decisions being financed from the supervisory board. It is clear that VW is moving increasingly in

the direction of tapping online communities and networks for tacit knowledge as a means of

ramping up innovation, however this does not fully carry through to financing as these decision are

currently over-centralised.

References

Alminall, R and Masenell, M, 2008. Open and Closed Innovation, Journal of the Academy of Business and Economics

Beecham, J, 2009. Innovation: Turning Ideas Into Profit, Chemistry and Industry, 13/07

Choo, C and Johnston, R, 2004. Innovation in the Knowing Organisation, The Journal of Knowledge Management, 8:6

Dietl, H, Royer, S and Strattman, H, 2004. Value Creation Architecture, California Management Review

Fuller, J, Matzler, K and Hoppe, M, 2008. Brand Community Members as a Source of Innovation, Journal of Product Innovation and Management, 8;4

Lee, S, 2003. Report on B2B Technologies in the German Automotive Industry, Australian German Association

Miguel, L, Franklin, M and Popadiuk, S, 2008. Knowledge Creation with a View to Innovation as a Dynamic Capability in Competitive Firms, Journal of the Academy of Business and Economics, 8:4

Nonaka, I and Takeuchi, H, 1997. The Knowledge Creating Company, Oxford University Press