When Profits Create Problems: What can we learn from Boeing?

Episode #285 When Profits Create Problems: What can we learn from Boeing?

How honest should you be?

I do quite a bit of flying. Over the course of my life, I’ve spent thousands of hours cruising at 38,000 feet over the Pacific Ocean between the US and Australia alone. I’m not a nervous flyer at all, but I’m always interested to see what’s happening in the world of commercial aviation.

Boeing has been in the news again recently for all the wrong reasons. A production fault in one of its 737 Max models resulted in a fuselage door of an Alaska Airlines plane being blown out at 16,000 feet, not long after leaving its departure point in Portland OR. The cause? Four bolts that were supposed to secure the door were missing.

What has since emerged is that there were a number of 737 Max 9s in both the Alaska and United Airlines fleets that could potentially suffer from similar problems.

Not long after the incident, reports started to surface of the alleged source of the issues. For years, Boeing has pursued an outsourcing strategy to reduce costs, which has resulted in quality issues with the production of its 737 workhorse.

Outsourcing is a completely legitimate strategy which, over the years, has become a routine decision for many executives. But what happens when we become too blasé about the risks? There are some important lessons in these stories for anyone working in any type of business.

How do you balance the need for continuous improvement in the company’s profitability and efficiency, with the sensible risk analysis that keeps you on the right side of the performance, safety, and reliability equation?

I’ll begin by examining in some detail the ongoing crisis that Boeing is facing since the latest incident. I’ll then identify some of the learnings that are going to be relevant to you, no matter what industry or company you’re in now. And I’ll close with a look at the implications of outsourcing anything.

IS BOEING A VICTIM OF ITS OWN GREED?

Before we go too far, just remember, it’s easy to be ‘Monday’s Expert’. All the armchair quarterbacks throw empty beer cans at the TV when the guy in the arena makes a bad play. But no matter how much they know about the game, they’re still just punters drinking beer on their couch. So, spare a thought for those who are actually competing at the highest levels of business.

We have to remember that, historically, Boeing’s reputation has been absolutely stellar… an iconic American company with a reputation for engineering excellence and innovation… decades of top quartile performance as an investment vehicle.

I’ve always personally had a preference for Boeing aircraft. Maybe I was just easily influenced when I was younger, but I heard a number of professional pilots use the expression, “If it’s not Boeing, I’m not going.”

I’ve been following Boeing for some time. A few years ago, I had a number of friends in Australia who were diehard, old school Boeing leaders out of Seattle, who were doing a short stint overseas. Let’s face it, Brisbane isn’t exactly a hardship posting. So, my many conversations with some of those leaders serve as a useful calibration point when we see the information that’s in the public domain.

My reference sources for the current issues come mainly from a couple of recent media articles, which I’m going to go into in some detail.

The first was an article in The Atlantic, “What’s Gone Wrong at Boeing“. The Atlantic, which I consider to be reasonably decent quality, relatively credible left-wing journalism, puts the blame squarely at the feet of corporate greed, and a culture within Boeing that put profits ahead of safety and reliability.

The author makes some really good points. He revisits the fact that 346 people were killed in two separate 737 Max 8 crashes in 2018 and 2019. The root cause of both incidents was attributed to a failure of control systems, which he asserts didn’t have sufficient failsafe redundancy. But this was also exacerbated by pilot training issues, and it ultimately led to the worldwide grounding of that particular 737 model for almost two years.

Since then, there have been a number of minor manufacturing discrepancies discovered in the 737 planes, none of which would be significant – except for the fact that we are talking about aluminum tubes traveling at over 500 miles an hour, seven miles above the earth!

The Atlantic article blames a shift in corporate culture for this deterioration of standards. It claims that Boeing moved from its culture of engineering excellence to a culture which was focused purely on profits.

Harry Stonecipher was CEO of Boeing from 2003 to 2005. He came from McDonnell Douglas after it was acquired by Boeing. Stonecipher is quoted as saying that he “intentionally changed the culture from an engineering focus company to a profit focus company.“

The article makes two really important assertions, and I’m not sure that I agree with either of them. The first is that Boeing stopped valuing its engineers’ opinions. The second is that Boeing moved away from its perfectionistic culture (and he talks about this like the perfectionistic culture was a good thing).

I’m going to come back to both of these issues shortly. But what’s really clear is that, two decades later, quality issues have severely affected Boeing’s brand reputation and performance. During the past five years, while the S&P 500 Index rose by roughly 80%, the Boeing stock price fell by about 35%. The Atlantic is, of course, quick to point out the irony that, in seeking greater profits in the short term, the long-term implications have been disastrous for Boeing’s profitability, brand value, and future outlook.

IS IT SMART TO OUTSOURCE?

The second article was from the Wall Street Journal, and it started with the quote, “This Has Been Going on for Years.” Inside Boeing’s Manufacturing Mess. Whereas The Atlantic is reasonably decent quality, relatively credible left-wing journalism, the Wall Street Journal is reasonably decent quality, relatively credible right-wing journalism.

The WSJ article focuses not so much on Boeing’s alleged deterioration of culture, but its outsourcing decisions. This is a core element that I’m going to come back to at the end.

The Atlantic article pointed out the complexity of mass-producing these aircraft. A 737 Max has over half a million parts (so what’s four bolts between friends, right!?). But it has around 600 suppliers through whom it subcontracts various elements of production.

Manufacturing complex machines at scale can be wickedly hard: just ask Elon Musk. I heard him say in a recent interview that, “Manufacturing at scale is between 100 and 1,000 times harder than building a prototype.” He reckons, “It’s trivial to turn out prototypes, but it’s extremely difficult to build a factory.“

Let’s start with a key piece of information. Boeing outsourced its fuselage manufacturing to Spirit AeroSystems, which it had formerly owned before selling it to a private equity firm. A decision like this is always going to carry some element of risk.

For a start, the aircraft manufacturing industry is relatively small, so the interdependency between manufacturers and their suppliers is high. Spirit makes a very large percentage of Boeing’s fuselages, and by 2010, it was earning around 85% of its revenue from Boeing. This tells us something important: the market for fuselage manufacturing is highly specialized and not very liquid.

Like many companies, Spirit struggled with revenue and profitability during COVID, so it took a machete to its cost base. When demand came surging back a few years later, Spirit was faced with reduced staff numbers and diluted corporate capability. It was short-staffed, for sure, and it had lost some of its key people to retrenchment and retirement. So culturally, there was huge pressure to do more with less — not a good recipe for quality and reliability.

Here’s a really important point. You can outsource the work, but you can’t outsource the risk. I call it the illusion of risk transfer.

Until a minute or two ago, I’m betting that the vast majority of you had never heard of Spirit AeroSystems. Most of the media chatter mentions only one company: Boeing. Regardless of where in the value chain the problems arise, it’s the company that puts its brand name on the finished product, that takes accountability for its quality, reliability, and performance.

The original rationale for Boeing’s increased outsourcing efforts was pretty sound. The decision was carried by Alan Mulally, one of America’s most respected CEOs, who was President and CEO of the Boeing Commercial Airplanes division from 1998 to 2006.

Mulally said that selling its factory to a PE firm would “let Boeing focus on final assembly, which is where it could add the most value to its airplanes.” And Mulally knew his sh!t. It wasn’t like this was an uninformed decision by a self-seeking, profit-focused ignoramus. He joined Boeing in 1969 as a graduate engineer straight out of college. He had over 30 years of experience in the company, in many roles at all levels.

But even though that decision may have been sound at the time, many years later, as the risk profile of that outsourcing arrangement changed, Boeing didn’t appear to adapt its quality and auditing processes to manage the increased risk.

THE CUMULATIVE IMPACTS OF INDIVIDUAL DECISIONS

I just want to make a few observations before I get into some lessons that you can take away, and apply in your own teams.

The first is to recognize that decisions that are entirely sensible in isolation, can have a cumulative effect.

As more and more of these small decisions are stacked up on top of each other, you can often lose sight of the big picture, and ignore the implications of the compounding risk that you’re taking on. Those of you who are in senior roles in large corporations will know exactly what I’m talking about. But if you’re not yet in the space of having to make big, complex decisions, just park this in the back of your mind for the future.

If you make decisions in isolation, you’re likely to miss the implications of those decisions on the whole ecosystem, and this is often where the cracks begin to appear.

The second observation I want to make is on the role of the regulator. The Federal Aviation Administration (FAA), which regulates the airline industry in the US, reportedly became too cozy with Boeing, allowing its due diligence and audit procedures to become diluted over the years. They allowed Boeing to ‘self-regulate’ and, at least to some extent, took their word that everything was okay. They allegedly trusted without verifying.

This situation isn’t entirely unusual, and I do feel for the regulator (believe it or not!). Regulators often oversee extremely complex and volatile industries. The resources they have at their disposal aren’t anywhere near sufficient to ensure that a company complies with every regulation.

This might sound a bit cynical, but the best-case scenario for regulatory staff is that they develop a close relationship with the companies they regulate, so that they’ll at least be privy to any major issues as they arise. If this is the case, spot audits and risk-based inspections can be sufficient to ensure compliance. But the notion that the regulator is somehow able to control the outcomes of an industry like air transportation is a nonsense.

I know that’s not very comforting, but I think it’s true.

And finally, there’s the assertion about the reporting culture. One employee at Spirit was quoted as saying, “We work in an environment where we rush to meet unrealistic quotas, and where pointing out problems is discouraged, if not punished.”

This final point is really disturbing. A culture where bad news is suppressed is unhealthy at best. I produced an episode on this years ago, where I looked at the culture inside Theranos, the med-tech startup that perpetrated one of the biggest consumer and investor frauds of the century. Well, so far anyway. It was Ep.31: Don’t Shoot the Messenger.

This is probably the worst part of all of this, because in a culture where speaking out about issues is encouraged, it doesn’t matter how bad something is: it’ll eventually get to someone who’s in a senior enough position, with enough will to do something about it!

IMPORTANT LESSONS FOR ALL OF US

Let’s take a moment to look at some important lessons that we can all learn from. We’ll start with the assertion that various Boeing CEOs changed the culture from an engineering focus to a commercial focus.

BRAVO, I say!

Some of the largest companies I worked for during my corporate career were run by engineers, for engineers. The commercial performance of those businesses was abysmal, and if they hadn’t gone through some sort of major reform to reorient the culture to focus more on results, it would’ve been disastrous in the longer term for everyone involved: customers, investors, suppliers, staff, and the communities they operated in.

What I also learned was that, in many cases, the supposed technical excellence was far from technically excellent. Major errors, failures, and unintended consequences seemed to plague the businesses with unnerving regularity.

In each case, I found a way to blend these technical skills with a more astute commercial focus, and was able to achieve wildly different results. I didn’t throw the baby out with the bath water, but I did shift the power from a pure technical focus to a more holistic consideration of the things that make a business successful.

So, when I hear the allegation that Boeing “stopped listening to its engineers”, I’d be greatly surprised if that were actually the case. It’s more likely that they simply started listening to other people.

This is a critical concept, especially for CEOs and line leaders. You will have experts to advise you in lots of different areas: HR, asset management, risk, legal, finance, safety… you should never blindly do what an expert tells you to do. Rather, you should listen carefully, balance their advice with all the other information available, and then make the best business decision possible.

For example, HR shouldn’t be telling you how to manage a non-performer. They should provide expert advice on the options available, and the risks associated with each option. In the same vein, engineers should advise on technical viability, options and risks, and you should use that to inform your thinking. Lawyers should advise on the legal ramifications of your decisions, not try to dictate that a particular decision is taken.

So, use your experts wisely: listen to them carefully, and then make a smart decision. They will always have a much narrower view of a problem than you do.

FORGET PERFECTIONISM – BUILD LAYERS OF EXCELLENCE!

I want to address one more critical concept before I get onto the final topic of outsourcing decisions. This is the notion that a perfectionistic culture is good.

One of my earliest podcast episodes, well over five years ago, addressed this issue because it is a core concept. Ep.3: Excellence Over Perfection. If you haven’t yet listened to it, I highly recommend you do for two reasons: First, because this is a crucial part of leadership performance; and, second, because my delivery was so sh!t in those early episodes that you’ll just enjoy the contrast.

The concept that perfectionism is a good thing is complete rubbish. Even though the quest for perfection sounds really noble, in reality, it’s most often just driven by fear of failure. It adds an enormous amount of time, cost and stress to a job, without any material improvement in the outcome.

People go way beyond the point of diminishing returns, because they’re afraid of getting it wrong. They freeze. It’s like they spend 1 hour building a door, and then 10 hours polishing the doorknob.

A quest for excellence is infinitely more useful. Be smart, make good decisions, and keep moving.

Momentum is greatly undervalued as a driver of performance, but let’s face it, there are some things you want to make sure are pretty right. You don’t want doors blowing off aircraft at 16,000 feet. This is where I employ my concept of layers of excellence.

When a result needs to be as close to 100% as you can make it, this isn’t achieved by individuals having a perfectionistic mindset. It’s achieved by having layers of highly expert people who review, provide assurance, and improve the outcomes. I like to use the example of financial reporting to demonstrate this point.

When I was CEO of a major business, I wanted to keep my finger on the pulse of the company’s financial performance, obviously. So, every Friday afternoon, the financial controller would generate what we called a flash report. It was rough — just enough to give me an idea of the performance over the previous week. For that report, I was really happy for it to be maybe 80% accurate. It was just a ballpark look at the numbers to give me some idea of how we were tracking.

But for the monthly board report, I wanted the numbers to be much more reliable. I wanted that report to have a degree of accuracy of maybe 90 to 95%, so the numbers had to undergo way more scrutiny. Instead of sending that report directly to the board from the financial controller, it was reviewed and interrogated by the CFO. Then, it came to me, and I had the opportunity to examine it, ask questions, and satisfy myself that the report was materially accurate. Once I was happy, I signed it off to go into the board pack.

Here’s the thing: the same person generated the data for the weekly flash report and the monthly board report (the financial controller), but we put layers of expert review and assurance between the financial controller and the board.

Taking this a step further for the annual report, where the official statutory results are published, the accuracy had to be even higher than the monthly board reports. It had to be as close to 100% accurate as we could possibly get it.

The extra layers for this came from the fierce, independent scrutiny of external auditors, who thoroughly stress-tested everything in the company’s financial reports, and provided an opinion on their veracity and accuracy.

We could even go one step further. In a situation where a company is preparing for a listing on a stock exchange (particularly in the US where investors can be quite litigious) an information memorandum (IM) is produced outlining the company’s historical performance. Every number that appears in the IM has to be individually certified as being 100% accurate. Every… single… number…

So, after all the audit work, the scrutiny that you’d have on your annual report and statutory accounts, every number is signed off by an accountable executive.

That’s the layering of excellence that brings you as close as possible to a perfect outcome. Putting more pressure on the financial controller to get something perfect is futile, costly, and counterproductive.

Perfectionism is also the driver that leads to over specification in design: “We need to be a hundred percent sure this doesn’t fail, so we’ll just design a thousand points of backup and redundancy. We can’t take any chances.“

In the case of commercial aircraft or, say, life support equipment in hospitals, this seems to be an entirely reasonable objective. But we have to remember the counterbalance — every specified feature in every product increases its cost, and leaders will always look for ways to reduce cost in a business.

This is a very difficult balance to tread, and even the best executives sometimes get this wrong… which is why the top leaders are paid the dizzy dollars. They often have to make some pretty unenviable choices.

OUTSOURCING DECISIONS ARE OFTEN COMPLEX?

I want to finish with a few words on outsourcing. Regardless of your current role or the size of your organization, you are likely to be impacted by outsourcing decisions.

Past Boeing CEOs were criticized for their outsourcing decisions but, as I pointed out, they were not made by ill-informed people who didn’t know what they were doing. These decision makers were deep experts with years of knowledge about the industry and the Boeing business, and they had plenty of engineering nous to boot.

In fact, they were way better placed to make their outsourcing decisions than I ever was to make many of the outsourcing decisions that I made during my career!

I take a detailed look at the drivers of outsourcing in Ep.95: The Joys of Outsourcing. If you want more information, this is a really good fly over the top of the types of things you need to think about when you are considering outsourcing anything. I also produced a free PDF downloadable for this episode, which I have no doubt you’ll find incredibly useful. It was called The Seven Reasons to Outsource (and Four Not To!).

I put Boeing’s decision to outsource to Spirit AeroSystems through the lens of the four reasons not to outsource:

1. Is it core to the business? I don’t know. Is fuselage manufacturing core to making an airplane? Well, arguably it is. But is it efficient? I don’t know.

2. Do you have a patriotic reason to insource? Spirit AeroSystems is based in Wichita KS, and it has a number of manufacturing operations in the US. But beyond that, over the years, it’s grown its operations to also manufacture in the UK, France, Malaysia, and Morocco.

3. Are there any ethical issues? I’m sure you remember the brand damage suffered by companies like Nike, who were outsourcing some of their manufacturing operations to Asia in the ’80s and ’90s, with suppliers who used child slave labor to manufacture their products.

4. Is the risk to the overall product too high? In the case of Boeing, with the benefit of hindsight, we can say that maybe it was. But let’s assume that the drivers for Boeing’s outsourcing were right at the time. Once you’ve outsourced something, every new round of contract negotiations brings pressure to reduce costs.

   Well-meaning procurement managers inside the company are incentivized to provide bottom line savings. So, they squeeze the supplier, demanding greater efficiency, more service and reduced cost. It’s their day job to do this for every single supplier that the company contracts with.

   But when you have a lot of power over your suppliers, and you squeeze them too hard, you might actually get reduced cost – but you always pay for it somehow. That cost reduction has to come from somewhere, and if it’s not coming from increased efficiency inside the supplier company, you don’t know where they’re going to take their shortcuts. The lowest priced contract isn’t always the best.

BOEING IS NO DIFFERENT FROM ANY OTHER COMPANY

There’s a lot to take away from this Boeing case study but, if nothing else, you should now at least have a better idea of the types of pressures and competing forces that are ever present in your decision-making – they can eventually blindside you.

As time passes, it’s virtually impossible to trace a failure to a single event, which is why it’s so difficult for people at the top to make consistently good decisions. Your best safeguard is to build a culture of excellence over perfection, strong single-point accountability, and a laser-like focus on value. And yes, for this, you’ll need the engineers too!