Toyota and VW fall further behind in the software race

Global car groups from Toyota and Volkswagen to General Motors have fallen further behind Tesla and Chinese rivals in developing critical software to power their vehicles, threatening their ability to secure bigger profits in the electric vehicle era.

The latest ranking of auto groups’ digital performance from consultancy Gartner shows only three legacy carmakers — Ford, GM and BMW — make it to the top 10 while the rest are dominated by Nio, Xpeng and BYD from China and US start-ups including Tesla, Rivian and Lucid.

The annual “digital automaker index” underlines how large players in the industry, including Volkswagen and Toyota, have struggled to keep pace with the changes, where the focus has turned from superior engines to software that will control everything from batteries and safety features to self-driving technology and connectivity.

“It’s a tough transition for sure” that required both “a shift of mindset . . . as well as a shift in technology”, said Anders Bells, the chief engineering and technology officer of Volvo Cars, as the Geely-owned Swedish group launched its new electric sport utility vehicle earlier this month.

Bell, a former Tesla engineer, said the flagship EV was just “the start of our software-defined vehicle”, referring to a term coined by Elon Musk’s car group in 2012.

The long-awaited EX90 is equipped with advanced software and Nvidia chips that allow its car to become better and safer over time. However, delays and glitches Volvo faced in developing a centralised computing system meant that there was a glaring absence of important features available in many existing EVs such as Apple CarPlay and smart charging — which will be added in future software updates like a smartphone.

But issues Volvo faced in developing its new car are a window into the uphill battle that legacy carmakers face as they seek to cut costs and generate more revenue by building cars where software is central to the driving experience.

At the start of the year, France’s Renault cancelled plans to list shares in its new EV and software business amid slowing growth in battery-run car sales worldwide. But the Ampere unit remains on track to launch its first software-defined vehicle — which its chief executive Luca de Meo has described as “a mobile phone on wheels” — in 2026. It also aims to generate 40 per cent of the profit generated by the car over its life cycle from software by 2030, compared with the current 10 per cent.

Carmakers have traditionally relied on in-house engineers for technology and software development. However, they are now being forced to look outside to seek talent from start-ups as well as Big Tech groups such as Apple and Google, causing culture clashes and internal tensions.

In June, Volkswagen turned to a $5bn software tie-up with US electric vehicle start-up Rivian following budget overruns and setbacks at the German carmaker’s in-house software developer, Cariad, that led to delays in the rollout of new models.

Toyota has also struggled with its internal software unit, Woven, where net losses have totalled ¥126bn ($888mn) in the past two years, people close to the company said. The subsidiary is developing Toyota’s software to make vehicles smarter, but there has been a major management reshuffle with former Google executive James Kuffner resigning as Woven’s CEO last year to become the group’s senior fellow. Toyota said it was still on track to release its new software, Arene, next year and attributed some of the losses to one-off factors.

“Toyota has to crack this,” said Macquarie auto analyst James Hong. “If it doesn’t, then it and other companies in the Toyota family, including Subaru, Mazda and Suzuki, risk losing market share and could find themselves forced to rely on Big Tech companies like Apple and Google for software that will be key to their cars.”

Despite having a massive research budget and talent pool, Pedro Pacheco, an analyst at Gartner, said large carmakers have so far failed to use their resources efficiently to make the transition to software, partly because the top management was not fully committed.

“They need to basically review their approach to software . . . because if you don’t think and act software first, it will be tremendously difficult to actually make software work for them and to catch up with the frontrunners,” Pacheco warned.

Beyond improving basic functions of the vehicle, carmakers have been drawn to the potential of software to deliver more revenues through collection of user data and offerings of subscription services that come with a monthly fee for insurance, servicing and repairs. The monetisation aspect is particularly appealing for companies grappling with higher development costs and lower margins for EVs.

Digital services generate only about $300mn, or 3 per cent, of automaker revenues globally, according to Accenture. However, the consultancy projects that this could expand to $3.5tn by 2040, accounting for nearly 40 per cent of the revenue generated by the automotive industry.

Stellantis, which is behind the Jeep, Peugeot and Fiat brands, is aiming to generate €20bn ($22.4bn) in annual revenue from software products and subscription services.

But the continuing decline of legacy carmakers in Gartner’s index, which scores companies according to their potential to use software as a new revenue driver, is evidence that they may not be able to capitalise on the projected growth.

Goldman Sachs analyst Kota Yuzawa estimates that the cost of developing an operating system for vehicles is at least $11bn for any carmaker.

“Monetisation is super difficult. There is a lot of talk about doing monthly subscription business models, but the reality is that while we use smartphones every day, utilisation of privately owned vehicles is only 5 per cent,” Yuzawa said.

As part of its efforts to strengthen software and services, Ford has aggressively poached executives from Apple and Tesla in recent years, including Doug Field, who previously led Apple’s car project and now reports directly to the carmaker’s chief executive.

The US auto group’s paid software subscriptions have grown 40 per cent during the first half compared with last year for Ford Pro, its business aimed at commercial customers.

Still, the company has struggled to stem losses from its EVs, forcing it to back away from an earlier target of turning a profit on the vehicles in 2026.

The software for vehicles is costly to develop and requires new skills and talent for carmakers. On the flip side, it can reduce cost of repairs since fixes can be done digitally and it can boost customer loyalty by making it harder for drivers to switch brands.

Volvo’s Bell is convinced that the initial costs and difficulties of developing an advanced software will pay off, as the safety and performance of its vehicles can be continuously improved even after they are sold to consumers. The development costs for future models will also come down once a common computing architecture is established.

“We have to really learn to embrace software,” Bell said. “If you can’t as an engineering organisation keep up with the general technology speed of society, then you will be left behind.”