Dennis Muilenburg, the Boeing CEO who from the outset of the Max 737 crisis relied on blame-shifting and spin as his first line of response, is gone. But as we’ll discuss, getting rid of Muilenburg doesn’t address the mess the giant manufacturer is in. The FAA’s body language is that Boeing isn’t close to getting a green light on the 737 Max.
If Boeing and the FAA are still at loggerheads in six months, with still no date for the 737 Max going into service, it isn’t just that pressure on Boeing’s suppliers and customers will become acute, perhaps catastrophic for some. Boeing’s practice of booking future, yet to be earned, profits as current income means persistent negative cash flow could lead to an unraveling. The last time we saw similar accounting was how supposedly risk free future income from CDOs was discounted and included in the current earnings of banks. Remember how that movie ended?1
Now hopefully we are just being unduly worried, since the downside of the 737 Max remaining grounded with no date as to when it will go into service is more considerable than the press seems to appreciate.
But a big red flag is the lack of any specifics about where the FAA and Boeing are, and I don’t mean just dates. For instance, if the FAA and Boeing were not all that far apart on a remedy and the FAA just needed Boeing to satisfy the agency on a few more issues, you’d expect both sides to be making cautiously positive noises. The absence of anything like that is a bad sign.
Muilenburg Ouster: Too Little, Too Late
Muilenburg left under duress. It appears that the shock of Boeing needing to suspend 737 Max production to conserve cash flow roused the board out of its complacency.
Even though Boeing issued a tart statement showing an intent to chart a better course, and Mr. Market obligingly gave the stock a 3% pop, there’s every reason to regard the shift as too little, too late.2 We were hardly alone in saying early on that Boeing was totally botching how it was handling the grounding. From a March post:
Boeing is breaking the rules of crisis management and making what may well prove to be a bad “bet the company” wager….
It is important to recognize that the global grounding of the 737 Max is the result of trying to compensate for questionable, profit-driven engineering choices by adding a safety feature (the MCAS software system) and then going cheap on that, in terms of selling planes not kitted out fully and acting as if it was perfectly fine to install software that could take control of the plane and barely tell pilots about it. Two paragraphs more than 700 pages into a manual does not qualify as anything approaching adequate disclosure.
Boeing is taking steps that look designed to appear adequate, when given the damage done to the 737 Max and its brand generally, this isn’t adequate. No one has any reason to give Boeing the benefit of the doubt. The scale of this failure is so large that it’s called the adequacy of FAA certifications into question. Until this fiasco, aviation regulators deferred to the judgment of regulator in the country where the manufacturer was headquartered. But with China embarrassing the FAA by (correctly) being the first to ground the 737 Max, foreign regulators will make their own checks of Boeing’s 737 Max fixes….and that practice may continue with other US-origin planes unless Boeing and the FAA both look to have learned a big lesson. So far, Boeing’s behavior says not.
Some other posts explained the need for a Muilenburg defenestration, starting in March:
The fact that Muilenburg remained long past his sell by date is a sign of how deeply disconnected the Boeing board is. It seemed reminiscent of the way Wells Fargo chairman and CEO John Stumpf held on, trying to maintain the pretense that institutionalized unrealistic sales goals that virtually required employees to cheat customers were the doing of ‘a few bad apples”. The Wells directors may have rationalized their head-in-the-sand posture by the fact that Stumpf had long been a key driver of Norwest Bank and later Wells’ acquisition and growth strategies, which then became his downfall. After Stumpf left, the bank was caught out in even more abuses, such as unwarranted car repossessions and force placing home insurance.
Even the complacent Boeing board should have been jolted out of its stupor in November. Then, FAA director Steve Dickson pushed back on Boeing pressure to recertify the 737 Max by year end via his weekly video to the troops, which was guaranteed to be picked up by the press. The bit about the 737 Max starts at 0:59:
This message should have alarmed the Boeing board, since Dickson made clear he was not committing to any timetable. But apparently Boeing continued to pressure the FAA privately, leading Dickson to make an even more pointed statement earlier this month. Even so, the Boeing top brass seemed incapable of recognizing that it wasn’t anywhere near having the plane back in business until Muilenburg initiated the production halt, sending shock waves through Boeing’s supply chain.
Boeing Still Not Taking the Crisis Seriously Enough
There isn’t much reason to be optimistic about the installation of the Boeing chairman David Calhoun as CEO effective January 13. On paper, he looks credible: former executive from GE’s jet engine operation; a seasoned “corporate fixer,” according to the Wall Street Journal, with a turnaround at Nielsen to his credit; and a Blackstone executive.
But being an executive at a top parts maker isn’t the same as leading a regulated business…and one in deep trouble. And the depiction of Calhoun as a fixer suggests that his strong suit is behind-the-scenes cleanups and talking customers and money people out of trees.
Consider the Journal’s take on Calhoun’s job priorities, which presumably reflect how he and the board see them:
Mr. Calhoun and Boeing finance chief Greg Smith, who will serve as interim CEO, face the same challenges as Mr. Muilenburg: winning back the confidence of government officials, suppliers, airlines and the traveling public. Mr. Calhoun spent much of Monday phoning some of those constituents, including lawmakers, a Boeing spokesman said.
This is completely and utterly backwards. Yes, as a matter of ritual, a new CEO calls key constituents ASAP and he needs to call more people and do more listening if he’s inheriting a big mess.
But Boeing has a massive immediate and longer-term problem and they are reality problems, not perception, aka “confidence” problems.
The 737 Max needs to be fixed. The fact that the FAA hasn’t accepted the software patches that Boeing has attempted and that the FAA is having to tell Boeing to drop its pressure is a strong tell that whatever Boeing-submitted remedies the agency is looking at now may not do either, or at best, they will require simulator training, something Boeing has fiercely resisted.
If our reading of the tea leaves is correct, and Boeing is still not close to satisfying the FAA and foreign regulators, who have no reason to cut the US manufacturer any slack, all of this confidence building is besides the point.
In fact, as a gander through the Wall Street Journal’s comment section shows, even more readers are saying they won’t get on the plane until it has been in the air for quite a while. Now those sentiments may not translate into action. If you are coming home and you find to your surprise that your plane is a 737 Max, will you really refuse to board and go on a later flight? The flip side is serious refusniks can make a point of booking as often as possible on 737 Max-free Delta. And the longer the plane’s grounding continues, the more the bad press will feed passenger fears.
Boeing needs a fundamental turnaround. Quite a few journalists have described how Boeing’s once vaunted engineering prowess went out the window as a result of the reverse takeover by McDonnell Douglas. The decision to go cheap and expedient with a 737 product extension in the form of the Max, as opposed to biting the bullet and building a new fuel-efficient narrow-body that would presumably be the first in a new long-lived model family, typifies the short-termism that has brought Boeing to this sorry juncture. Its bean-counters-masquerading-as-leaders have bizarrely shed what even MBAs ought to recognize as its core competence, namely its engineering prowess. The production problems with the 787 Dreamliner and the embarrassment of an aborted “Starliner” space capsule demo are further evidence of institutional rot.
Troublingly, Calhoun has been a Boeing director since 2009, so he participated in the board approval of the 737 Max in August 2011. In other words, he’s never had a problem with the long-term gutting of Boeing’s engineering chops; there’s no reason to think he has adequate perspective on how bad things have gotten.
The Seattle Times confirms that experts see Calhoun as incapable of rebuilding Boeing:
A former Boeing senior leader, who asked for anonymity to speak freely, admitted doubts about whether Calhoun is the one to revive the company’s historic culture of engineering prowess that’s been eclipsed for years by a focus on financial performance.
“If it’s just more cost cutting, that’s not what we need,” he said. “We have to restore the culture of engineering excellence that has served us so well for over a century.”
In an interview, Richard Aboulafia, vice president of analysis at aviation consulting firm Teal Group, offered similar concern that Calhoun may have “the wrong skill-set to change Boeing.”
“He’s been on Boeing’s board for 10 years, coming from the private equity industry and from GE in the Jack Welch era,” Aboulafia said. “This is the kind of résumé that Boeing has not been lacking and it’s not as if he’s bringing a fresh perspective.”
He said Boeing needs a leader now with not only a firm grip of the jetliner market but also with “a strong understanding and appreciation for engineering.”
“That’s what’s been lacking at Boeing, and that’s what this company really needs,” he said.
Analyst Rob Stallard at Vertical Research Partners argued that Calhoun won’t be at the helm all that long, that his job will be to get the 737 Max flying and choose a successor. But as we suggested, our sense remains that Boeing is not all that close to having the 737 Max approved as safe. It’s not clear what happens if the crisis were to drag on, say, for another six months, and still have no timetable for resolution. And given how much of an overhaul Boeing needs, a more engineering-minded CEO, even in the unlikely event Calhoun would recommend one to the board, would only be a first step on the airplane maker’s road to recovery. The company needs an executive-level housecleaning, but Calhoun and this board are unlikely to back a radical course change.
We thought our take on Boeing’s managerial rot was grim, but a fresh edition of the highly regarded industry newsletter Leeham News if anything says we haven’t been caustic enough. From yesterday’s release:
Boeing needs to take bold steps—and I mean, really bold steps—to recover from the worst crisis in its 103 year history.
I outlined in an Oct. 7 column why the top executives and half the Board of Directors need to go. This was limited to the MAX crisis.
Things only got worse since then…
As noted in the Oct. 7 column, the Boeing board is entrenched.
It also fails to include a pilot of high stature—someone like a Chesley Sullenburger or the late Al Haynes. Given what’s happened, a former investigator from the National Transportation Safety Board or a former member of the EASA regulatory agency might be a good addition.
The GE cost-cutting culture in the executive ranks and the Board that’s been prevalent for 20 years needs to go.
Crucial is a Board that has fresh perspective and is not married to “shareholder value” as the No. 1, 2 and 3 priorities.
Shareholder value is important, of course. But not at the expense of safety and investing in new airplanes rather than derivatives of a 50-year old design (the 737) or a band aid (the 777X).
While I agree wholeheartedly that Boeing needs to get rid of most of its C-Suite and a lot of its board, I don’t see how this happens any time soon. Board directors have staggered terms. It is hard to see what deus ex machina could force half of the board out in short order. And only a new board would be sufficiently ruthless about the current executives.
The entire Leeham newsletter is very much worth reading. It also argues that Boeing needs to launch a new plane.
As with Wells Fargo, the most likely source for root and branch reform at Boeing will be outside pressure, but absent a bona fide crisis, again it is hard to see big enough changes soon. Even so, Boeing’s suppliers and its 737 Max customers are already at their wits’ end. Many of them are powerful companies in their own right, either nationally or in Congressional districts. If Boeing does not get its act together on the 737 Max in relatively short order, the knock-on effects will only get worse.
Matt Stoller highlighted a critical point we confess we’d missed about Boeing’s misleading accounting, which he lifted from a 2016 Wall Street Journal article (emphasis his):
Boeing is one of the few companies that uses a technique called program accounting. Rather than booking the huge costs of building the advanced 787 or other aircraft as it pays the bills, Boeing—with the blessing of its auditors and regulators and in line with accounting rules—defers those costs, spreading them out over the number of planes it expects to sell years into the future. That allows the company to include anticipated future profits in its current earnings. The idea is to give investors a read on the health of the company’s long-term investments.
As we indicated above, the last time we saw anything remotely like this…booking not-yet-earned future profits on a current basis was with CDOs, and that very abuse was a major driver of the financial crisis. The idea that Boeing could unravel seems far fetched. But the idea that AIG could fail would have been dismissed as fantastical in 2006.
Again, it’s easy to dismiss these concerns as a tail risk. But those tails are fatter than you think.
1 We have way more detail on how this scheme worked in ECONNED and past posts, but here is the short version: The links between the demand for CDOs and the “negative basis trade” that was arguably a widespread form of bonus fraud. When a AAA instrument, in this case the AAA tranche of CDOs, was insured by an AAA guarantor (think AIG or the monolines), internal reports typically treated it as if all the expected income in future years was discounted to the present. As we know now, in the overwhelming majority of cases, bonuses were paid on income that was never earned. This mechanism was THE reason many banks would up holding so much AAA CDO inventory – it was more lucrative for the traders to retain and “hedge” it than sell it.
2 We see via Leeham News that this appears to be a widely-shared take; for instance, Lion Air used the same expression in a letter commemorating the Muilenburg exit.