The announcement that Volkswagen and Suzuki are to 'establish a close long-term strategic partnership' appears to hold many pluses and few negatives for both parties. Dave Leggett considers the potential benefits of a tie-up for both companies

There have been indications that Volkswagen might have been eyeing a tie-up with Suzuki for a while now. Way back in August Volkswagen CEO Martin Winterkorn was talking publicly about how Suzuki might be an 'interesting partner' because of its competency in small cars. By the time the Frankfurt Motor Show had come around in October, there had already been discussions between the two companies.

Volkswagen Group may be an industrial giant in the auto industry, but some gaps become apparent when you look at its global spread and presence in the major regions. It is strong in Europe, North America, South America and China. But the Japanese makers dominate in south-east Asian markets and, through Suzuki Maruti, in India. VW has long sought to shore up its position in south-east Asia. And it is still a relatively small, if growing, player in India. This lightweight market presence in a few places has become a more urgent issue with the realisation that greater presence in these relatively high-growth emerging markets will be vital for future corporate health, something that the current global economic crisis has reinforced as emerging markets have generally held up rather better than the mature markets of the West.

Let's get this out of the way first: Proton. A collaboration of some sort between VW Group and Malaysia's Proton has been talked about for years, to no avail. However, it is still not impossible and, if it materialises, it could indeed strengthen VW's position in south-east Asia (providing capacity in Malaysia to make VW cars and gain market access, with licensed technology and VW platforms/powertrains provided for future Protons).

Malaysian sources have recently talked up the possibility of a deal yet again, but the on-off nature of VW's past negotiations with Proton and the Malaysian government make it rather uncertain, to say the least. Moreover, increasingly liberalised trade arrangements in the ASEAN have also lowered the cost barriers for Volkswagen if it wants to make cars elsewhere in the region and ship them to Malaysia in the future. The benefits in getting access to a protected market have disappeared, though VW may still have an eye on Proton production capacity.

On balance, the Suzuki announcement would seem to have lengthened the odds on a wide-ranging VW-Proton tie-up still further.

The VW tie-up with Suzuki should actually help to support Volkswagen in south-east Asia where Suzuki has presence in a number of markets, including substantial assembly operations in Indonesia; Suzuki also recently announced plans to build a plant to make 'eco-cars' in Thailand from 2012. Can Suzuki help Volkswagen in the ASEAN region? There must be significant collaborative possibilities in areas like supply chain, parts procurement, shared production facilities and distribution.

The tie-up with Suzuki will certainly boost prospects for Volkswagen in India, where Suzuki leads the market through its Maruti subsidiary. If VW can tap into Suzuki's small car expertise and learn more about the Indian supply base, even better. A solid partner in India helps position VW for better future growth in a market with excellent growth potential.

Volkswagen will also be well aware of Suzuki's established product strength in small cars, as well as its market geography. Suzuki's background with kei-class midget vehicles (sub-660cc) in Japan, in particular, could help shape the future development of Volkswagen's small car plans (eg the next generation Up!). Suzuki's expertise should enable VW to make its future small cars even more cheaply and efficiently.

What's in it for Suzuki? An obvious benefit is the prospect of Volkswagen taking a 19.9% stake in Suzuki and buying the shares from Suzuki. Suzuki, in turn, will invest up to half of the amount received from Volkswagen in VW shares. Suzuki said the stake was worth about JPY222.5bn (US$2.53bn; EUR1.72bn). So Suzuki will receive a fresh influx of funds and says that it can reduce its debt and allocate more funds to R&D.

There are also the potential mirrored benefits to get a helping hand in markets or regions where VW Group is relatively strong and Suzuki not - China, for example.

Suzuki will also potentially have access to sophisticated Volkswagen technology - in VW's engines and transmissions, for example - that can enhance future Suzuki products. Diesel engines are an obvious area for future consideration, given the strength of Volkswagen in that area.

Suzuki bosses may feel that a tie-up with a strong OEM partner such as Volkswagen solves the problem of Suzuki's small size in an industry where scale economies are becoming more important as R&D costs for cleaner technologies accelerate. At the same time, VW's non-controlling 19.9% stake appears to leave Suzuki with a high degree of independence. Best of both worlds, in theory.

If things had been different, it could be GM that is getting closer to Suzuki. Old partner GM has backed off in the face of a financial crisis that forced it to sell its small Suzuki stake - 3% - late in 2008. But GM had been a long-term business partner and once held a stake of just over 20% in Suzuki, with the two collaborating on product development, sharing production facilities and distribution in selected markets. But the relationship was wound down after GM sold most of its Suzuki stake in 2006 in order to raise cash.

GM has also recently bought out Suzuki's stake in the Canadian CAMI former JV facility that no longer makes any Suzuki models. GM probably doesn't look much like an ideal strategic partner for Suzuki, even if it were willing, but GM backing off left the field open for others - and VW has seized the opportunity.

Stepping back to consider the bigger picture, the VW-Suzuki tie-up comes hot on the heels of the news that Mitsubishi Motors Corporation and PSA are talking about a tie-up. Selective industrial consolidation makes sense in an industry where global presence is becoming more important along with scale economies and the possibility of combining to lower costs and take out excess capacity. More moves may come. Volkswagen's tie-up with Suzuki also takes Suzuki out of Carlos Ghosn's  reach - Renault has been talking to Suzuki, too.

Suzuki could help Volkswagen close the gap on Toyota, the world's largest automaker. It appears to take Volkswagen Group a step closer to realising its 'Strategy 2018' goal of overtaking Toyota as the world's biggest vehicle making group by volume.

Some analysts say that this economic crisis will take the auto industry into a new phase of development in which small, environmentally friendly and low-cost cars will become increasingly important, globally. This tie-up could be coming at the right time for both participants.

Dave Leggett

GERMANY/JAPAN [updated 15:55GMT]: Volkswagen and Suzuki ink strategic partnership