Boeing's biggest blunder? Financial engineering.

0:01NPR.

0:11This is The Indicator from Planet Money. I'm Darian Woods. And I'm Waylon Wong. Back in October, Kelly Ortberg presided over his first quarterly earnings release as the new CEO of Boeing. He'd been on the job for just over two months. And given all of Boeing's troubles, there really wasn't much of a honeymoon period. Yeah, 33 ,000 Boeing machinists were on strike. And Kelly Ortberg had announced plans to lay off about 10 % of employees. He told CNBC in an interview that his short-term priority was stabilizing the company and looking further ahead. And we really need to embark on a culture change that is something more than just a poster on the wall.

0:54It's really good. I guess those posters of the cat saying, hang in there, didn't work. If that doesn't work, I don't know what will. I know, I know. Let's just give up. You know, this culture change that Kelly Ortberg is talking about, it's an acknowledgement that what's gone wrong at Boeing was something fundamental, interwoven in the very nature of the company and its decision-making. And for many Boeing observers, the mistake was shifting focus from engineering to financial engineering.

1:26Today on the show, we explain what financial engineering is and why this cultural change at Boeing may have led to the company's current problems.

1:40Carl Tack is a former corporate lawyer and investment banker. Today, he teaches finance at the College of William & Mary. And a couple weeks ago, he gave a talk about Boeing to a group of students. And he opened with a provocative question. What is the purpose of a business corporation? What's the purpose of Boeing? These are deep metaphysical questions. Many a corporation has sat on a hillside and pondered this very thing. These were mostly finance majors. And when I polled the class, the vast majority of students put up their hand effectively to say the purpose of a business corporation is to make money for shareholders.

2:17That's what I would have said. That's what a lot of people say. And it's not necessarily wrong. The real question is, OK, but how? And what does that mean when we have a situation where, for example, serving customers conflicts with making money for shareholders, which takes priority? Yeah, which does take priority. You know, Carl thinks it should be serving customers by making products or services that they want to buy. Boeing makes airplanes. That's why Boeing exists. To do that sustainably over long periods of time, we have to make money for shareholders, because if we don't make money for shareholders, we're not going to attract the funding we need to build airplanes.

2:59In other words, making money should be subordinate to the goal of making airplanes. For Carl, the tension between these two purposes, making money or making airplanes, is at the heart of Boeing's troubles. But this tension wasn't always so apparent. For the first part of Boeing's history, the company was known for its engineering prowess. There's this old saying, if it's not Boeing, I'm not going. And the company actually still sells merch on its website with the slogan. Chances are you've heard about the plane with the spiral staircase in first class. This 1969 commercial for Pan Am touts the features of the Boeing 747, the first airplane with two aisles.

3:39Because of its size, it revolutionized air travel when it was introduced. The plane with the two wide aisles and the three widescreen movies and the eight-foot ceilings and economy. And chances are... Chronicles of Boeing's history point to 1997 as a turning point for the company. That year, Boeing acquired fellow airplane maker McDonnell Douglas. And then effectively, McDonnell Douglas executives took over the company. By all accounts, that changed the culture of Boeing over a 20-year period from a firm of engineers to, you know, a business run by not necessarily engineers. Boeing became much more financially oriented.

4:20This is financial engineering. Earlier, this mindset had transformed General Electric. It was during the tenure of legendary CEO Jack Welch. He was known for a relentless focus on short-term profits and boosting GE's stock price. In practice, this led to closing factories and laying off workers. Former GE executives took the Jack Welch playbook to other companies. And this group of alums included a CEO of McDonnell Douglas, who later became CEO of Boeing. I can tell you the hallmarks of a financial engineering-run company, and they look a lot like GE in its heyday. We're going to talk about two of these hallmarks, aggressive cost management and distributing money to shareholders.

5:02So number one is pushing costs down. For Boeing, this meant layoffs, freezing out suppliers that refuse to discount their prices, and evaluating managers based on their ability to cut costs. Former Boeing employees have talked about feeling pressured to choose efficiency over safety, although the company disputes this. The focus on cost-cutting also meant outsourcing more manufacturing. Now, this is something a lot of companies do, from Apple to Boeing's European rival Airbus. But the supply chain for, say, Boeing 737 MAXs became really complex. It had over 600 suppliers, including ones for critical components, and that limited how much oversight Boeing had when it came to quality.

5:46Here's one example of that outsourcing. In 2005, Boeing offloaded plants in Kansas and Oklahoma to an investment firm. That investment firm created a new company that later became the supplier of fuselages for the 737 MAX. The supplier came under intense scrutiny this year after a door plug blew out of the site of an Alaska Airlines 737. This summer, Boeing announced it was acquiring that supplier, basically reversing the deal it did back in 2005. Carl thinks Boeing may be having second thoughts about outsourcing some of its core operations. When Boeing shifted from 25 years ago, a culture of engineering, design, manufacturing excellence, to in this middle period making a lot of money for shareholders, decisions were made which may have had some relationship to Boeing's recent travails.

6:43I'm not going to pound the table and say Boeing's, you know, had the crashes in 18 and 19 and the Alaska airline incident because of financial decisions they made 15 years ago. I'm not saying that. I can't say that. But a lot of insiders think those two things are related. So hallmark number one of a financial engineering focused company is aggressively keeping costs down. The second hallmark is distributing lots of money to shareholders. Carl says Boeing spent$65 billion on stock buybacks and dividends between 2013 and 2019. Money that could have been used in the company in various ways, and instead it went out the door to shareholders.

7:29Boeing is the dominant commercial aircraft maker in the U.S. Carl thinks executives may have believed their company was too big to fail, and that might have enabled greater risk-taking on the financial side. This is a concept known as moral hazard. And Carr believes Boeing's habit of paying shareholders instead of reinvesting profits or saving money for a rainy day, it worked until it didn't. When the proverbial stuff hit the fan, Boeing was in a financial position, which could very well have taken down the company. Right? As of now, it hasn't. But they're still not out of the woods, I don't think.

8:08We reached out to Boeing for the story, and the company referred us to a statement CEO Kelly Ortberg recently made where he said, we need to be on the factory floors, in the back shops, and in our engineering labs. It's language that harkens back to Boeing's roots, and he does have the pedigree to match. He's a former engineer who previously ran an aerospace company. Still, Kelly Ortberg has a long list of problems to address. They include an almost$60 billion debt pile, a backlog of more than 5 ,000 commercial airplanes, and maybe most importantly, a re-engineering of Boeing's culture.

8:49This episode was produced by Angel Correras with engineering by Gilly Moon. It was fact-checked by Sierra Juarez. Kicking Cannon is our show's editor, and The Indicator is a production of NPR.

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