Volkswagen (search), the world's fourth-largest carmaker, missed expectations on Thursday as it reported operating profit rose by a half in the third quarter on the back of continued cost savings.

VW reaffirmed its full-year forecast for an unspecified rise in operating profit after special items as well as a gain in earnings before taxes, which includes the profit or loss contribution from its key Chinese joint ventures.

Quarterly operating profit after special effects rose to 586 million euros from 391 million a year earlier, compared with an average forecast of 717 million in a Reuters poll of 20 analysts.

The result was boosted by efficiency gains from VW's "ForMotion" (search) restructuring program, which contributed gross earnings improvements of 2.6 billion euros over the first nine months. VW says this will rise to 3.1 billion by the year's end.

Pretax profit rose to 432 million euros, lagging the consensus estimate of 468 million.

Volkswagen said it would post a restructuring charge in the fourth quarter for the financing of its new German job-cuts program, but said one-off effects would be lower than the 395 million euros posted in 2004.

Weak Autos

The main disappointment came from a weak automotive business, where all three core industrial divisions failed to meet market forecasts.

The Volkswagen Brand Group (search) narrowed its third-quarter operating loss to 54 million euros, but fell way short of expectations of a 110 million profit. The company reaffirmed the VW brand would return to profit in the full year.

Audi Brand Group reported only 300 million in earnings for the quarter versus estimates of 346 million while Commercial Vehicles narrowed its loss to 9 million but did not match the 22 million profit forecast by analysts.

One of the problems remains North America, where the operating loss widened to a worse-than-expected 222 million.

Financial Services enjoyed a strong performance, with operating profit up a third to 336 million euros.

"Given the focus on restructuring-led improvement of the industrial operations under the stewardship of (VW Brand Group chief Wolfgang) Bernhard, we believe the financial services surprise offers little consolation to the stutter in auto profit improvement," Morgan Stanley told clients.

On the positive side, VW's "other" operating profit, which includes such things as the release of provisions and accruals, declined to 181 million from 274 million, mainly because of a drop at its automotive business.

Analysts had often criticized recent solid quarterly results because they said profits had been inflated by poor-quality earnings booked under this "other" line.

Net cash flow at Automotive rose to 1.03 billion from 809 million euros a year ago amid a steep drop in capital spending.

Mid-Term Target Key for Stock

VW shares dipped 0.5 percent to 44.99 euros at 1135 GMT, but outperformed the DJ Stoxx European autos index.

Priced as a restructuring play, the shares trade at 11.2 times 2006 estimated EPS, according to Reuters Estimates. This is a premium to VW's mass-market peers such as Renault and PSA, with multiples of 5.9 and 7.3 respectively.

VW stock has eased from three-year highs of more than 54 euros ever since luxury sports car maker Porsche stopped building its 18.5 percent stake in Volkswagen, shattering speculation of a potential takeover bid.

Critical to its valuation now is a commitment by VW's management to boost pretax profit by 4 billion euros to 5.1 billion by 2008 via its follow-up program "ForMotion Plus."

"In our opinion, third-quarter results add risk to the outlook of improved profits to management's target of 5.1 billion euros in pre-tax by 2008," Morgan Stanley wrote.