Boeing Dreamliner zakaz lotów w Europie.

Wczoraj – czwartek 17-01-2013 – władze lotnicze European Aviation Safety Agency –

nałożyły zakaz lotów na B787,   Dreamliner.

(-)Red.

Boeing Dreamliner debacle caused by Outsourcing, Offshoring,

“Shareholder Value” – Forbes

Dreamliner-468

(1) Millions of Lithium ion batteries replaced in laptops, because they

caught fire

(2) Yuasa Lithium-ion batteries use petroleum solvent as electrolyte; it

can heat up and ignite

(3) Yuasa batteries have cobalt oxide cathodes, less safe than iron

phosphate or nickel-metal hydride

(4) Dreamliner uses electricity much more than other planes, eg for

dimming windows & de-icing the wings

(5) Boeing Dreamliner debacle caused by Outsourcing, Offshoring,

“Shareholder Value” – Forbes

(6) The Formidable Dimensions of Boeing’s Dreamliner Problem – Eamonn

Fingleton

(7) The Dumbest Idea In The World: Maximizing Shareholder Value

 

(1) Millions of Lithium ion batteries replaced in laptops, because they

caught fire

 

{visit the webpage to see the photos}

 

http://prowiki.isc.upenn.edu/wiki/Lithium_ion_batteries

 

Lithium ion batteries

 

Lithium ion (or Li-Ion) batteries are most often found in electronics

such as laptops and PDAs. They are useful due to their high power

density and ability to sustain repeated charges without suffering from

the “memory effect” that plagues nickel-cadmium and other types of

rechargeable batteries. Lithium ion batteries were first devised in the

early 1900s, with the technology reaching commercial maturity in 1991.

The technology is perpetually undergoing further development to increase

battery life, as well as to decrease battery size and weight. Recently,

there has been an increase in documented cases of lithium ion batteries

failing and catching fire. …

 

Advantages

 

Lithium ion batteries have a much lower self-discharge than other

batteries: Lithium ion batteries tend to discharge at a rate of 5% per

month, as compared to other batteries which are often closer to 15-30%

per month. This means that between charge and use, Li-Ion batteries are

more capable of retaining a useful charge. …

 

Dangers

 

The failure of Li-Ion batteries has been receiving more and more

attention lately. Research indicates that this sort of failure is not as

uncommon as manufacturers had originally led people to believe. There

are a number of different reasons that a Li-Ion battery can fail, but

the most common is exposure to extreme heat. If a battery is allowed to

sit in extreme heat, such as a hot car, or in a computer under heavy use

on an insulating surface, the likelihood of failure is increased,

especially if the battery is used before it has an opportunity to cool off.

 

Occasionally, the built in monitors may fail, allowing the internal

temperature of the battery to exceed the safety thresholds. Once this

happens, individual cells may catch fire, likely igniting other cells.

Due to the cobalt oxide in lithium ion batteries, they are also somewhat

susceptible to a process called “thermal runaway”, in which the cobalt

oxide reaches a certain, high temperature at which it begins to

self-heat, causing a dramatic rapid rise in temperature which culminates

in explosion to releive the pressure built up inside the battery.

Additionally, if a battery is allowed to erode or be ruptured in some

other manner, the electrolyte fluid inside the battery can cause short

circuits, which will ignite the electrolyte causing what has been

described as a “flame thrower”. The Sony-built batteries causing

failures in Dell laptops in the Summer of 2006 were this type of

failure. A number of metal fragments are left floating in the

electrolyte fluid inside individual cells as a result of the

manufacturing process. Unfortunately, in these batteries manufactured by

Sony, the barriers between the anodes and cathodes were more susceptible

to being breached. As the battery gets hotter and hotter due to charging

or use, the metal fragments move around more, increasing the likelihood

of a breach. The breach leads to one of the scenarios above.

 

Recent Recalls

 

* In August of 2006, Dell recalled 4,163,495 batteries due to three

confirmed incidents in which the batteries overheated and damaged both

the computers and, to some extent, their surroundings. Batteries

matching identification numbers at the Dell site listed below will be

replaced at no charge to the consumer. …

 

* iBook G4/PowerBook G4 battery recall: iBooks and PowerBooks sold

between October 2004 through May 2005 contained lithium ion batteries

manufactured by LG that were prone to overheating, causing a fire

hazard. Batteries matching serial numbers listed at the site below can

be replaced by Apple at no charge to the customer. …

 

* In October of 2005 Hewlett-Packard recalled 135,000 batteries on

HP and Compaq laptops manufactured between March and September of 2004.

In 16 reported cases, these laptops suffered an electrical short allowed

the batteries to overheat and melt the casing, sometimes resulting in

fire. …

 

Notable Incidents

 

* At a Japanese conference in June of 2006, a Dell laptop

“exploded” and caught fire, with smaller explosions continuing for about

5 minutes afterward until the fire was put out. This was one of the

incidents that motivated Dell to initiate the recall.

o http://www.theinquirer.net/default.aspx?article=32550

 

* A Dell Inspiron not covered under Dell’s recalls was left on the

floor of the passenger side seat of 1966 Ford F-250 as the owner and his

friend prepared to head home from a hunting trip in July of 2006. The

flames from the laptop were sufficient to ignite the ammunition in the

glove box above, which subsequently detonated the fuel tank, resulting

in the demolition of the truck and all contents. Fortunately, the two

hunters had managed to take cover just before the bullets began firing

out of the truck, and were not harmed by the following explosion.

o http://www.consumeraffairs.com/news04/2006/08/dell_fire.html

 

* In an engineering office, a Dell laptop plugged into power and

turned on caught fire in July of 2006. The battery burned a hole through

the laptop and caused some damage to the table below. The fire

extinguishers used to put out the fire caused some amount of damage as

well. This incident was well documented by someone with a 7.1MP camera.

This is one of the incidents that motivated Dell to initiate the recall.

o

http://forumz.tomshardware.com/Dude-Dell-freaking-blew-ftopict192887.html

 

* A 15-inch PowerBook plugged into a wall socket was left in

Standby mode over night in August of 2006. At six AM, the owners were

awoken by acrid smell and smoke. The battery had overheated and ignited.

This battery had been covered under the Apple recall noted above.

o http://www.flickr.com/photos/41783769@N00/

 

* This page was last modified 14:19, 3 July 2012.

 

(2) Yuasa Lithium-ion batteries use petroleum solvent as electrolyte; it

can heat up and ignite

 

http://www.yomiuri.co.jp/dy/national/T130117004677.htm

 

Battery problem may have grounded ANA 787

 

The Yomiuri Shimbun

 

(Jan. 18, 2013)

 

Overheated batteries may have caused a Boeing 787 passenger jet to make

an emergency landing at Takamatsu Airport on Wednesday after a strange

smell was detected in the plane, according to transport safety authorities.

 

The incident occurred as the cutting-edge airliner, operated by All

Nippon Airways, was flying over Kagawa Prefecture.

 

The Japan Transport Safety Board said the incident was likely caused by

the overeating of lithium-ion batteries used for plane operation

control, as an electrolyte leak was detected.

 

The board examined the plane Wednesday evening to determine whether the

incident is related to the case of a Japan Airlines 787 in which a small

fire occurred at Boston’s Logan International Airport after arrival from

Tokyo on Jan. 7. Both planes use the same type of batteries.

 

The main batteries in the ANA plane are located in a compartment for

electronics systems behind and underneath the cockpit. The batteries,

which can heat up and ignite in abnormal conditions, are stored in a

metal container with a control apparatus.

 

The safety board found the container had turned black due to electrolyte

believed to have spilled inside it. The liquid also was found on the

floor of the plane.

 

Sources said the batteries were replaced in October following a problem

with engine ignition. The airplane was introduced in January last year.

 

According to GS Yuasa Corp., the Kyoto-based manufacturer of the

lithium-ion batteries, petroleum solvent is used for the batteries’

electrolyte, a solution that can come to a boil and cause a spill when

batteries overheat due to overcharge or overdischarge.

 

On Thursday, the Land, Infrastructure, Transport and Tourism Ministry

issued a technical circular directive to ANA and JAL to temporarily

ground all Boeing 787s following the issuance of a similar airworthiness

directive by the U.S. Federal Aviation Authority to U.S. airlines.

 

(3) Yuasa batteries have cobalt oxide cathodes, less safe than iron

phosphate or nickel-metal hydride

 

http://seattletimes.com/html/businesstechnology/2020149254_787batteryexplainerxml.html

 

Lithium-ion batteries pack a lot of energy — and challenges

 

From laptops on up to cars and now planes, lithium-ion batteries offer

benefits but also risks.

 

By Brier Dudley

 

Corrected version

Originally published January 16, 2013 at 7:54 PM | Page modified January

17, 2013 at 11:22 AM

 

The prospect of flying in a so-called plastic airplane was already

unnerving for some.

 

Now there’s the added concern of Boeing’s 787 Dreamliner using the same

kind of batteries that used to overheat and ignite laptops made by Dell,

Hewlett-Packard, Apple and others.

 

Lithium-ion batteries are state of the art, producing the most energy in

the lightest package at an acceptable price.

 

But they have had problems and continue to challenge engineers to manage

the temperature generated in their chemical reactions, particularly as

larger versions are produced for vehicles and now airplanes.

 

“It’s clear that there are some issues associated with thermal

management,” said Donald Sadoway, a battery expert and the John F.

Elliott Professor of Materials Chemistry at MIT.

 

Since Sony began manufacturing them in 1990, lithium-ion batteries have

led to a revolution in consumer electronics. They allow companies to

build lightweight phones, cameras, power tools and other gadgets that

run a day or more on a single charge.

 

In a phone, the batteries are thin and the heat is dissipated by the

front and back of the case, which act like cooling fins, said Sadoway.

 

It’s a different story when you’re talking about batteries that are

nearly twice the size of a car battery, like those used in the 787.

 

Tesla roadsters addressed the issue by using thousands of little,

finger-sized batteries, clustered together. Now larger batteries are

being used in cars such as Toyota’s plug-in Prius.

 

Boeing is the first company to use lithium-ion technology for the main

batteries in a commercial airplane. The supplier of those recently also

won a contract to upgrade the international space station to lithium-ion

batteries.

 

Safety remains a concern, though, especially if manufacturers try to cut

costs.

 

Sony learned this the hard way in 2006. Errant metal flakes inside some

laptop batteries it produced caused them to short-circuit, leading to

sudden and sometimes spectacular fires. This resulted in recalls of more

than 7 million batteries around the world, affecting major computer

companies using Sony batteries.

 

“That’s a concern this industry has: You’re building a very energetic

device; you’d better do it well or you’re going to have problems,’’ said

Vince Battaglia, a specialist in battery design at the Lawrence Berkeley

National Laboratory in California.

 

So how do the batteries work? Here’s how he would explain it to a lay

person:

 

“It consists of two electrodes that each accept lithium. But one does it

more easily than another. … You get a voltage difference because of

that relationship. You can use that energy and control it by discharging

the battery at whatever (level) you want.”

 

The breakthrough with lithium-ion batteries was in the electrolyte

material. Up until 1990 batteries were water-based. Researchers at

Berkeley found that using an organic electrolyte led to dramatic

increases in energy density, or the amount of energy in the package.

 

Lithium-ion batteries such as those used on the 787 have safeguards,

such as controllers that trigger a shut-off if temperatures rise too

much; vent built-up pressure; and prevent the batteries from bursting

into flame.

 

A Boeing executive said the 787 has a redundant safety system with four

controllers on the batteries, although that’s apparently not enough to

prevent incidents and satisfy regulators.

 

Research continues into improving lithium-ion batteries, but the

technology is now mature, said Jonathan Posner, associate professor of

mechanical engineering at the University of Washington, who called the

technology “a logical choice” for the 787.

 

“I don’t think Boeing would have used it if it wasn’t mature,” he said.

 

Posner said Boeing seems to have “an engineering issue that just has to

be resolved. But I would be surprised if they don’t continue to use

lithium-ion batteries in the 787.”

 

Different materials can be used in these batteries, some safer than

others. Based on information posted on its website, Boeing supplier GS

Yuasa appears to be using lithium cobalt oxide cathode material, which

is the original material used by Sony.

 

“From a safety point of view, that’s not the best,” said Ji-Guang Zhang,

a researcher at the Pacific Northwest National Laboratory in Richland.

He said cobalt oxide batteries ignite at lower temperature than lithium

batteries made with other materials, such as iron phosphate.

 

Supplier GS Yuasa declined to discuss whether the batteries in question

use cobalt oxide and referred questions to its partner Thales Group,

which didn’t promptly respond.

 

Still, it’s all relative.

 

“Theoretically, it is safe,” Zhang said. “I think it is not less safe

than a gasoline-powered engine. … Gas is much easier to burn than

batteries.”

 

Battaglia said iron phosphate “has been known to sort of be safer.” But

he added that “nothing is safe — you’ve still got a lot of energy and an

electrolyte in there that’s flammable.”

 

So should people feel comfortable flying in a plane with these batteries?

 

“Everybody in there has a lithium cobalt oxide in their pocket, so it’s

sort of a matter of scale or engineering,” Battaglia said.

 

One option for Boeing could be to revert to an older, safer type of

battery, but it would be heavier. While nickel-metal hydride batteries —

the type used in the Prius hybrid — would weigh about 50 percent more,

they’d add a relatively small amount of weight to the overall airplane,

Sadoway said.

 

“It’s not as though we’re talking about making the plane incapable of

getting off the ground,” he said.

 

Brier Dudley: 206-515-5687 or bdudley@seattletimes.com

 

This story, originally published Jan. 17, 2013, was revised the

following day to clarify that the type of lithium ion battery with a

higher ignition temperature uses iron phosphate.

 

(4) Dreamliner uses electricity much more than other planes, eg for

dimming windows & de-icing the wings

 

http://cjonline.com/news/2013-01-17/boeing-787s-grounded-over-concerns-battery-safety

 

Boeing 787s grounded over concerns with battery safety

 

Aircraft depends on lithium-ion batteries that can overheat

 

January 17, 2013 12:49 PM EST

 

SEATTLE — Boeing’s 787 Dreamliner, the planemaker’s most advanced jet

ever, is in trouble because of the technology that sets the aircraft

apart from its peers.

 

The Federal Aviation Administration ordered Wednesday that 787s in the

United States be grounded until their batteries are shown to be safe,

the first such action since 1979. The move came hours after two Japanese

airlines parked half the world’s Dreamliners following a battery fire

and an emergency landing.

 

Boeing’s plight stems from choices it made years ago to push the

boundaries of aircraft design in a bid to boost fuel economy. The 787

uses unprecedented amounts of electricity, five times as much as in

conventional jets, so less power is diverted from the engines to run

on-board systems. Boeing depends in part on lithium-ion batteries, which

provide quick, powerful charges and can also overheat and catch fire.

 

“These aren’t minor issues — it isn’t a matter of a coffee maker going

on the fritz or the in-flight entertainment system not working as

expected,” said Henry Harteveldt, an aviation analyst at Hudson Crossing

in San Francisco. “It could be expensive and lengthy to fix the problem.”

 

The Dreamliner already was the focus of a special FAA review triggered

by last week’s fire on a Japan Airlines jet at a Boston airport gate.

FAA officials certified the plane before it entered service in late 2011

and said last week that while they considered the plane to be safe, they

wanted the evaluation to remove any doubts.

 

Fresh questions surfaced Wednesday after a battery-fault warning on an

All Nippon Airways Dreamliner in Japan forced an emergency landing, and

at day’s end in Washington, the FAA issued its airworthiness directive.

 

United Continental Holdings, whose six Dreamliners make it the lone U.S.

operator so far, pledged immediate compliance with the FAA, which didn’t

say what corrective steps are needed or how long they may take. Christen

David, a United spokeswoman, declined to comment on any costs that might

result from repairs or passenger rebookings.

 

Japan’s Transport Ministry said it also would order a grounding, while

Indian aviation regulators said Air India will park its fleet of six

787s. There are 50 Dreamliners in service worldwide, according to the

FAA, whose grounding directive was the first for an entire model in

almost 34 years, after a DC-10 crash in Chicago killed 271 people.

 

The moves are a blow to Boeing as chief executive officer Jim McNerney

works to increase deliveries, trying to shed the weight of more than

three years of Dreamliner delays. Boeing is set to double 787 output

this year, to 10 planes per month, to help fill remaining orders for

about 800.

 

“We are confident the 787 is safe and we stand behind its integrity,”

McNerney said in a statement. “We will be taking every necessary step in

the coming days to assure our customers and the traveling public of the

787’s safety and to return the airplanes to service.”

 

Above all else, the 787 was designed to conserve fuel, the largest cost

for airlines. Boeing promises a 20 percent gain in fuel efficiency over

comparably sized planes.

 

Lightweight composite materials, the greater use of electrical power,

wings with improved aerodynamics and new engines all help shave fuel

burn compared with the Boeing 767 that the Dreamliner replaces, said

Hans Weber, the CEO of aerospace consultant Tecop International Inc. in

San Diego.

 

Boeing lists a range for the 787-8 model, the first to enter service, of

8,200 nautical miles. It seats as many as 250 passengers, retails for

$207 million and is aimed at airlines that want long-haul nonstop routes

without resorting to a bigger 777 or a 747 jumbo jet. Japan Airlines,

for example, has a 787 serving Boston and Tokyo.

 

“The 787 is a pioneering effort by necessity,” Weber said. “The plane is

very tightly designed to what Boeing’s perception is for the future of

the market.”

 

Electricity on the Dreamliner powers the usual needs, such as

instruments and air conditioning, as well as new touches that include

dimmable windows in place of traditional pull-down plastic shades.

Boeing also opted to turn to electricity for functions such as de-icing

the wings.

 

The electrical content is unique to the 787, shunning traditional power

systems that rely on hot, high-pressure air bled off the engines. Boeing

said its approach extracts 35 percent less power from the engines than

conventional pneumatic systems, so the extra air goes to produce more

efficient thrust.

 

“The lithium-ion battery was the right choice given the design

constraints that we had,” Mike Sinnett, Boeing’s 787 chief engineer,

told reporters last week on a conference call.

 

“It doesn’t mean that it was the only choice. It means that it was the

right choice.”

 

Dreamliners carry the batteries in electronics bays in their bellies.

Sinnett described the units as “something that’s one and a half to two

times bigger than your car battery.”

 

The lithium-ion batteries are made by Tokyo-based GS Yuasa Corp. and are

part of an electrical power conversion system built by France’s Thales

SA. United Technologies Corp.’s Aerospace Systems unit supplies the

overall system, which uses 1.45 megawatts of electricity, enough to

power 400 homes.

 

Resolving the electrical questions so would restore the luster that drew

airlines to the Dreamliner in the first place, from fuel savings to

more-comfortable cabins, said Hudson Crossing’s Harteveldt. The trick

will be in successfully making changes to a plane with an array of

technological firsts, he said.

 

“Don’t underestimate the complexity of the Dreamliner,” he said. “This

isn’t like taking your laptop to the computer repair shop and getting a

phone call the next day. This is not a quick fix.”

 

(5) Boeing Dreamliner debacle caused by Outsourcing, Offshoring,

“Shareholder Value” – Forbes

 

The Boeing Debacle: Seven Lessons Every CEO Must Learn

 

Steve Denning

 

Forbes, January 17, 1013

 

http://www.forbes.com/sites/stevedenning/2013/01/17/the-boeing-debacle-seven-lessons-every-ceo-must-learn/

 

Brake problems. A fuel leak. A cracked windshield. One electrical fire.

Then another. An emergency landing in Japan. A safety investigation

imposed by the FAA. Then two premier customers—Japan’s two main

airlines, ANA and JAL, ground their fleet of Boeing [BA] 787s. Then the

FAA grounds all 787s used by the only American carrier. Now other

regulators around the world follow suit, grounding all 50 of the 787s

delivered so far. The regulatory grounding of an entire fleet is

unusual—the first since 1979—and relates to a key to the plane’s claimed

energy-efficiency: the novel use of lithium ion batteries, which have

shown a propensity to overheat and lead to fires—fires that generate

oxygen and hence are difficult to put out.

 

And keep in mind: Boeing’s 787 project is already billions of dollars

over budget. The delivery schedule has been pushed back at least seven

times. The first planes were delivered over three years late. In fact,

out of a total of 848 planes sold, only 6 percent have been delivered.

 

Yet grave as these issues seem, they are merely symptoms of a deeper

disease that has been gnawing at the US economy for decades: flawed

offshoring decisions by the C-suite. Offshoring is not some menial

matter to be left to accountants in the backroom or high-priced

consultants armed with spreadsheets, promising quick profits. It raises

mission-critical issues potentially affecting the survival of entire

firms, whole industries and ultimately the economy.

 

Not just Boeing: an economy-wide problem

 

Thus Boeing is hardly alone in making flawed offshoring decisions.

Boeing is just the latest and most spectacular example of an

economy-wide problem.

 

“Many companies that offshored manufacturing didn’t really do the math,”

Harry Moser, an MIT-trained engineer and founder of the Reshoring

Initiative told me. As many as 60 percent of the decisions were based on

miscalculations.

 

As noted by Gary Pisano and Willy Shih in their classic article,

“Restoring American Competitiveness” (Harvard Business Review,

July-August 2009), offshoring has been devastating whole US industries,

stunting innovation, and crippling capacity to compete long-term.

 

Pisano and Shih write: “The decline of manufacturing in a region sets

off a chain reaction. Once manufacturing is outsourced,

process-engineering expertise can’t be maintained, since it depends on

daily interactions with manufacturing. Without process-engineering

capabilities, companies find it increasingly difficult to conduct

advanced research on next-generation process technologies. Without the

ability to develop such new processes, they find they can no longer

develop new products. In the long term, then, an economy that lacks an

infrastructure for advanced process engineering and manufacturing will

lose its ability to innovate.”

 

Pisano and Shih have a frighteningly long list of industries that are

“already lost” to the USA, including: compact fluorescent lighting; LCDs

for monitors, TVs and handheld devices like mobile phones;

electrophoretic displays; lithium ion, lithium polymer and NiMH

batteries; advanced rechargeable batteries for hybrid vehicles;

crystalline and polycrystalline silicon solar cells, inverters and power

semiconductors for solar panels; desktop, notebook and netbook PCs;

low-end servers; hard-disk drives; consumer networking gear such as

routers, access points, and home set-top boxes; advanced composite used

in sporting goods and other consumer gear; advanced ceramics and

integrated circuit packaging.

 

The list of industries “at risk” is even longer and more worrisome.

 

Now unless Boeing can quickly fix the technical issues afflicting the

787, its entire airline business will also be “at risk”. Manufacturing

airplanes could even become an addition to the list of industries

“already lost.”

 

These issues are a wakeup call not just to Boeing but to every CEO whose

firm or whose suppliers have been or will be involved in offshoring.

Every CEO must learn seven lessons.

 

1.      Use the right metrics to evaluate offshoring

 

In analyzing offshoring, firms must get beyond rudimentary cost

calculations focused on short-term profit,, such as the cost of labor or

the ex-factory cost and incorporate the total cost and risk of extended

international supply chains. This is easily done with the help of the

Reshoring Initiative, whose website includes an analytical tool enabling

companies to calculate the full risks and costs of offshoring. It’s

called the Total Cost of Ownership Estimator[TM]. And the price is

right. It doesn’t require hiring high-priced consultants: it’s free.

 

The Estimator poses a series of questions. What’s the price of the part

from each of the destinations? How far is it away? How often are you

going to travel to see the supplier? How much intellectual property risk

is there? How long do you think you are going to make it? It uses the

answers to calculate twenty-five different costs. When they are added

up, that’s the Total Cost of Ownership.

 

Most companies have tended to make their sourcing decisions based on the

wage rate or the ex-works price or the landed cost, and leave out

another twenty cost categories. The Estimator makes it easy for the

company to calculate the other twenty costs.

 

“Often what firms find,” says Moser, “is that whereas the offshoring

price is perhaps 30 percent less than the US price, all these other

costs add up to more than 30 percent. If they are willing to recognize

all of them, then they can see that it may be profitable to bring the

work back.”

 

“For instance,” says Moser, “I took the last 27 cases where users

compared China to the US. On average, the US price was 69 percent higher

than the production price in China. It turned out that the US total cost

of ownership was 4 percent lower. So it made a huge difference to make

that calculation. That’s an indication that a substantial portion of the

work that has been offshored would come back if people would use the

right metrics.”

 

2.      Review whether earlier outsourcing decisions made sense

 

Let’s back up a bit and note that Boeing’s problems have been visible

for some time. In August 2011, my article drew attention to the perilous

offshoring course on which Boeing was embarked.

 

In December 2012, fellow Forbes contributor Jonathan Salem Baskin wrote:

“The company was convinced by one or more management consulting firms to

outsource design and production of the 787’s components. While this idea

might make sense for sourcing coffeemakers, it was a nonsense approach

to assembling perhaps the most complicated and potentially dangerous

machines shy of nuclear reactors. I’m sure blather from Harvard Business

Review supported the idea that distances between factories in Seattle

and Outer Mongolia were no farther than a VOIP chat, but the reality was

a mess. Parts didn’t fit together with others. Some suppliers

subcontracted work to their suppliers and then shrugged at problems with

assembly. When one part wasn’t available, the next one that depended on

it couldn’t be attached and the global supply chain all but seized up.

Boeing had to spend $1 billion in 2009 to buy one of the worst offenders

and bring the work back

in-house.”

 

“The grounding — an unusual action for a new plane — focuses on one of

the more risky design choices made by Boeing, namely to make extensive

use of lithium ion batteries aboard its airplanes for the first time,”

write Christopher Drew, Jad Mouawad and Matthew Wald in the New York

Times: “The 787’s problems could jeopardize one of its major features,

its ability to fly long distances at a cheaper cost… The maker of the

787’s batteries, Japan’s GS Yuasa, has declined to comment on the

problems so far. “

 

What was Boeing thinking when they opted to embrace such extensive

offshoring? Moser believes the error lay in using the wrong measure of

the impact of offshoring on earnings. “Many companies that offshored

manufacturing didn’t really do the math,” Harry Moser, an MIT-trained

engineer and founder of the Reshoring Initiative told me. “A study the

consulting company, Archstone,  showed that 60 percent of offshoring

decisions used only rudimentary cost calculations, maybe just price or

labor costs rather than something holistic like total cost. Most of the

true risks and cost of offshoring were hidden.”

 

For many companies, it’s time to redo the math, and then verify whether

they still have the expertise to bring manufacturing back.

 

3.      Don’t outsource mission-critical components

 

“Boeing has acknowledged, says Moser, “that its biggest problem was in

outsourcing not only manufacturing but also a lot of the engineering.

There were multiple tiers of outsourced companies who were supposed to

be making their designs consistent so that the parts fit together. And

they didn’t fit together. If Boeing had taken full responsibility for

the engineering and then had jobbed the parts out and gotten them made

to print, their problems would have been a lot less severe. It seems

like they had this brilliant idea of outsourcing a lot of engineering

with the manufacturing. There’s almost nothing as complicated as a

Dreamliner.

 

“For example, an iPhone isn’t nearly as complicated. The downside risk

isn’t as great. Apple has succeeded with outsourcing almost everything

to Foxconn, mainly because they first completely manufacture the new

product in the US. They make sure it’s right, while Foxconn is working

in parallel with them, developing their tooling and whatever. So Apple

has a finished product and they say to Foxconn: make it just like this!

What Apple has done has worked amazingly well, because they have the

capability to do the perfect prototype here, before it gets offshored to

Foxconn. Most companies don’t have that.

 

“Thus Boeing didn’t have a finished product. So there were all kinds of

risks of things not coming together. The tendency is too often for

companies to try to do the engineering over here and the manufacturing

over there. Eventually the innovation declines and the risk increases,

as outlined by Pisano and Shih.”

 

4.      Bring some manufacturing back

 

Moser estimates that when the total costs are included, around 25

percent of manufacturing that is currently outsourced could be

profitably brought home, if the manufacturing expertise still exists.

Looking ahead, changes in relative economics are likely to increase that

percentage.

 

It is important to take into account rapid changes in relative costs.

Oil prices are three times what they were in 2000. Natural gas in the US

is a quarter of what it is in Asia. Chinese wages are five times what

they were in 2000 and are expected to keep rising rapidly. And in any

event labor is a steadily decreasing percentage of the cost of

manufacturing.

 

Reshoring is already happening to a limited extent. Apple [AAPL]

announced recently that it will resume manufacturing of one of the

existing Mac lines in the US next year. GE [GE] is spending some $800

million to re-establish manufacturing in its giant facility—until

recently, almost defunct—at Appliance Park, in Louisville, Kentucky.

Whirlpool [WHR] is bringing mixer-making back from China to Ohio. Otis

is bringing elevator production back from Mexico to South Carolina. And

Wham-O Toys is bringing Frisbee-molding back from China to California.

Based on the Reshoring articles in the ReshoreNow Library, Moser

calculates that at least 50,000 manufacturing jobs have recently been

reshored in the last three years.

 

Where companies see that it could be profitable to bring manufacturing

back, they will need to ensure that they either have or can rebuild the

necessary expertise—sometimes a daunting challenge.

 

5.      Adequately assess the risk factors of offshoring

 

In Boeing’s case, as  Jonathan Salem Baskin notes: “It didn’t help that

the outsourcing plan included skipping the detailed blueprints the

company would have normally prepared, and allowing vendors to come up

with their own. Delivered components arrived with instructions and notes

written in Chinese, Italian, and other languages. Oh, and they decided

to build the airplane out of plastic along with other novel materials

and technologies, so it would have been a big experiment even if Boeing

approached manufacturing like it always had.”

 

Clearly firms have underestimated the risk of having extended

international supply chains. I asked Moser whether Total Cost of

Ownership Estimator can help firms get a better handle on that risk.

 

“The TCO Estimator assigns no factor values apart from freight,” says

Moser. “The user assigns all the factors. The user answers questions

about the delivery time, and the price. That enables the Estimator’s

algorithm to assess the inventory and the inventory carrying costs.

There’s a section on opportunity cost. If the firm will lose orders

because it can’t deliver, then put a value on that. There are sections

on natural disaster risk and political risk. “

 

If Boeing had been using this earlier what would be the implications? If

they underestimated the delay risk or the technical risk as low, the

Estimator would have reflected the underestimation of the risk.

 

“The Estimator would have encouraged them to try to estimate each of the

risks,” says Moser. “When you have twenty-five of them, you only have to

put in 1 percent in each to balance the savings you might get from going

offshore.

 

“If you are buying pencils, not much intellectual property risk; if you

can’t get it from this source, you can get it from somewhere else. The

margins aren’t big, so you don’t lose so much. You don’t have much image

to lose. But when you are making airplanes, there’s a lot of risk.

Instead of having one size fit all, the Estimator lets you adapt for

each product, each market, and make a more holistic and informed decision.

 

“The Reshoring Initiative site also offers resources. Library contains

articles about transportation industry and equipment, and firms can

understand where production was reshored and why. They might conclude:

‘Looks like a lot of companies are having problems with these things.

Maybe we should increase our risk levels?’

 

“The Initiative also has information on what other users have found on

the distribution of average costs. If they look at that, they might

realize that some costs and risks have been underestimated. So the

Estimator can help them make better decisions.”

 

6.  Adequately value the role of innovation

 

Much of the offshoring that has taken place has assumed that the

outsourced items are “little do-hickeys” with low value and so didn’t

really matter much in the overall scheme of things. The little

do-hickeys are worth pennies or less and have next-to-no margin. While

those “little do-hickeys” might seem cheap in themselves, the lessons to

be learned in improving their manufacture in the end can turn out to be

highly valuable. (In cost accounting and economics, which usually don’t

explicitly value knowledge, this loss is invisible and so doesn’t get

taken into account.)

 

Firms often haven’t thought through how often they are going to redesign

this product. “If it’s a bracket and you’re not going to redesign it for

30 years, it doesn’t matter very much,” says Moser. These days however

there are very few components that are good for another thirty years.

“If it is something that you are updating every six months or every

year, then that becomes a lot more important. It’s the difference

between a commodity and something that’s design-driven. The result of

answering those questions is an ‘innovation cost of being at a

distance.’ The Reshoring Initiative has resources so that firms can

develop the understanding to make better decisions.“

 

The opportunity cost of lost innovation can be significant. Thus when GE

decided to bring manufacturing of its innovative GeoSpring water heater

back from the “cheap” Chinese factory to the “expensive” Kentucky

factory, the cost of production went down. “The material cost went down.

The labor required to make it went down. The quality went up. Even the

energy efficiency went up. GE wasn’t just able to hold the retail

sticker to the ‘China price.’ It beat that price by nearly 20 percent.

The China-made GeoSpring retailed for $1,599. The Louisville-made

GeoSpring retails for $1,299.

 

GE’s water heater as originally designed for manufacture in China had a

tangle of copper tubing that was difficult to weld together. In the

past, GE had been shipping the design to China and telling them to “make

it”. Confronted with making the water heater themselves, they discovered

that “in terms of manufacturability, it was terrible.” So GE’s designers

got together with the welders and redesigned the heater so that it was

easier and cheaper to make. They eliminated the tangle of tubing that

couldn’t be easily welded. By having those workers right at the table

with the designers, the work hours necessary to assemble the water

heater went from 10 hours in China to two hours in Louisville.

 

“For years,” Charles Fishman writes in a great article in The Atlantic,

“too many American companies have treated the actual manufacturing of

their products as incidental—a generic, interchangeable, relatively

low-value part of their business. If you spec’d the item closely

enough—if you created a good design, and your drawings had precision; if

you hired a cheap factory and inspected for quality—who cared what

language the factory workers spoke? … It was like writing a cookbook

without ever cooking…. there is an inherent understanding that moves out

when you move the manufacturing out. And you never get it back.”

 

What is only now dawning on the smart American companies, Lou Lenzi,

head of design for GE appliances says, is that when you outsource the

making of the products, “your whole business goes with the outsourcing.”

 

7.      Get to the root of the problem: maximizing shareholder value

 

While several decades of outsourcing were under way, why didn’t these

smart managers think about the importance of innovating and protecting

intellectual property? Why didn’t these well-educated managers realize

that it was important to have designers, engineers, and assembly-line

workers talk to each other? Why didn’t these MBA graduates realize that

outsourcing might be mortgaging the future of their firms?

 

“There was a herd mentality to the offshoring,” John Shook, the CEO of

the Lean Enterprise Institute, in Cambridge, Massachusetts. “And there

was some bullshit. But it was also the inability to see the total

costs—the engineers in the U.S. and factory managers in China who can’t

talk to each other; the management hours and money flying to Asia to

find out why the quality they wanted wasn’t being delivered. The cost of

all that is huge.”

 

When managers manage with a spreadsheet rather than real-world knowledge

about what is actually going on in the factory and what were its

possibilities, they overlook hidden costs of the erosion of skills, the

loss of quality and constraints on innovation. They also missed the

potential added value to customers that could be generated by designing

and manufacturing things differently. They also missed the costs and

risks of an international supply chain, which is increasingly out of

step with the shorter, faster product cycles.

 

Why did all these smart, highly educated people make all these mistakes?

The root cause of these errors is a focus on the dumbest idea in the

world: maximizing shareholder value. Focusing on short-term shareholder

value ended up destroying vast quantities of long-term shareholder value.

 

A focus on maximizing shareholder value leads the firm to do things that

detract from maximizing long-term shareholder value, such as offshoring,

favoring cost-cutting over innovation, and pursuit of “corner cutting”

and “bad profits” that destroy brand equity. The net result can be seen

in the disastrously declining ROA and ROIC over the last four decades in

large US firms as documented by Deloitte’s Shift Index.

 

The errors of offshoring are thus not isolated events. They are the

result of the underlying philosophy of shareholder value, rather than

the true purpose of every firm: create value for customers. The

resurrection of American manufacturing will require more than simply

bringing back production to America. Global manufacturing is at the cusp

of a massive transformation as the new economics of energy and labor

plays out and a set of new technologies—robotics, artificial

intelligence, 3D printing, and nanotechnology—are advancing rapidly.

Together these developments will spark a radical transformation of

manufacturing around the world over the next decade. The winners in the

rapidly changing world of manufacturing will be those firms that have

mastered the agility needed to generate rapid and continuous

customer-based innovation.

 

Success in this new world of manufacturing will require a radically

different kind of management from the hierarchical bureaucracy focused

on shareholder value that is now prevalent. It will require a different

goal (adding value for customers), a different role for managers

(enabling self-organizing teams), a different way of coordinating work

(dynamic linking), different values (continuous improvement and radical

transparency) and different communications (horizontal conversations).

Merely shifting the locus of production is not enough. Companies need

systemic change—a new management paradigm.

 

Pursuit of maximizing shareholder value at Boeing led to offshoring that

has caused massive damage to shareholder value. The eventual scale of

the damage can only be guessed at today. The remedy lies not in pointing

fingers at Boeing’s management, but rather in treating the economy-wide

disease that caused the problem.

 

(6) The Formidable Dimensions of Boeing’s Dreamliner Problem – Eamonn

Fingleton

 

The Formidable Dimensions of Boeing’s Dreamliner Problem

 

Eamonn Fingleton

 

Forbes, January 17, 2013

 

http://www.forbes.com/sites/eamonnfingleton/2013/01/17/the-formidable-dimensions-of-boeings-dreamliner-problem/

 

How serious is Boeing‘s 787 problem? Gerhard Fasol, chief of the

Tokyo-based consulting firm Eurotechnology, takes a pessimistic view.

 

He believes that one key paragraph in last night’s statement by the

Federal Aviation Administration defines Boeing’s problem: “Before

further flight, operators of U.S.-registered, Boeing 787 aircraft must

demonstrate to the Federal Aviation Administration (FAA) that the

batteries are safe.” As Fasol points out, this sets the bar high, given

that the 787’s lithium-ion batteries, made by GS Yuasa of Japan, have

never before been deployed in a commercial aircraft. “It could be weeks,

if not months, before they get to the bottom of this,” he says.

 

A key part of the problem seems to be that, compared to nickel-cadmium

batteries, which have hitherto been standard on commercial jets,

lithium-ion batteries require more careful handling. They are more

volatile and if overcharged, for instance, are more prone to causing fires.

 

So, if these batteries are the root of the problem, why not go back to

nickel-cadmium? This unfortunately is easier said than done. For a start

it would require major reworking of software and circuitry. Even more

problematic, however, is the fact that lithium-ion batteries are much

more compact than nickel-cadmium ones. They can store about twice as

much energy per unit volume. They also can be moulded to make maximum

use of irregular spaces in an aircraft. “As lithium-ion batteries were

built into the design from the start, space constraints may make it

difficult to revert to more traditional batteries,” says Fasol.

 

One thing is clear: selling of Boeing’s stock continued today. Meanwhile

shares of EADS, the Netherlands-based company that makes Airbus planes,

continued their recent outperformance. Compared to last Thursday’s

Boeing is down 3.5 percent, whereas EADS is up 5.8 percent. As for

Thales and United Technologies, two key Boeing suppliers whose inputs

may come under scrutiny, their stocks are more or less level over the

last week, in line with the S & P index.

 

(7) The Dumbest Idea In The World: Maximizing Shareholder Value

 

http://www.forbes.com/sites/stevedenning/2011/11/28/maximizing-shareholder-value-the-dumbest-idea-in-the-world/

 

by Steve Denning

 

Forbes.com, 11/28/2011 @ 1:19PM |439,751 views

 

There is only one valid definition of a business purpose: to create a

customer.

 

Peter Drucker, The Practice of Management

 

[…] In today’s paradoxical world of maximizing shareholder value,

which Jack Welch himself has called “the dumbest idea in the world”, the

situation is the reverse. CEOs and their top managers have massive

incentives to focus most of their attentions on the expectations market,

rather than the real job of running the company producing real products

and services.

 

The “real market,” Martin explains, is the world in which factories are

built, products are designed and produced, real products and services

are bought and sold, revenues are earned, expenses are paid, and real

dollars of profit show up on the bottom line. That is the world that

executives control—at least to some extent.

 

The expectations market is the world in which shares in companies are

traded between investors—in other words, the stock market. In this

market, investors assess the real market activities of a company today

and, on the basis of that assessment, form expectations as to how the

company is likely to perform in the future. The consensus view of all

investors and potential investors as to expectations of future

performance shapes the stock price of the company.

 

“What would lead [a CEO],” asks Martin, “to do the hard, long-term work

of substantially improving real-market performance when she can choose

to work on simply raising expectations instead? Even if she has a

performance bonus tied to real-market metrics, the size of that bonus

now typically pales in comparison with the size of her stock-based

incentives. Expectations are where the money is. And of course,

improving real-market performance is the hardest and slowest way to

increase expectations from the existing level.”

 

In fact, a CEO has little choice but to pay careful attention to the

expectations market, because if the stock price falls markedly, the

application of accounting rules (regulation FASB 142) classify it as a

“goodwill impairment”. Auditors may then force the write-down of real

assets based on the company’s share price in the expectations market. As

a result, executives must concern themselves with managing expectations

if they want to avoid write-downs of their capital.

 

In this world, the best managers are those who meet expectations.

“During the heart of the Jack Welch era,” writes Martin, “GE met or beat

analysts’ forecasts in forty-six of forty-eight quarters between

December 31, 1989, and September 30, 2001—a 96 percent hit rate. Even

more impressively, in forty-one of those forty-six quarters, GE hit the

analyst forecast to the exact penny—89 percent perfection. And in the

remaining seven imperfect quarters, the tolerance was startlingly

narrow: four times GE beat the projection by 2 cents, once it beat it by

1 cent, once it missed by 1 cent, and once by 2 cents. Looking at these

twelve years of unnatural precision, Jensen asks rhetorically: ‘What is

the chance that could happen if earnings were not being “managed’?”’

Martin replies: infinitesimal.

 

In such a world, it is therefore hardly surprising, says Martin, that

the corporate world is plagued by continuing scandals, such as the

accounting scandals in 2001-2002 with Enron, WorldCom, Tyco

International, Global Crossing, and Adelphia, the options backdating

scandals of 2005-2006, and the subprime meltdown of 2007-2008. The

recent demise of MF Global Holdings and the related ongoing criminal

investigation are further reminders that we have not put these matters

behind us.

 

“It isn’t just about the money for shareholders,” writes Martin, “or

even the dubious CEO behavior that our theories encourage. It’s much

bigger than that. Our theories of shareholder value maximization and

stock-based compensation have the ability to destroy our economy and rot

out the core of American capitalism. These theories underpin regulatory

fixes instituted after each market bubble and crash. Because the fixes

begin from the wrong premise, they will be ineffectual; until we change

the theories, future crashes are inevitable.”

 

“A pervasive emphasis on the expectations market,” writes Martin, “has

reduced shareholder value, created misplaced and ill-advised incentives,

generated inauthenticity in our executives, and introduced parasitic

market players. The moral authority of business diminishes with each

passing year, as customers, employees, and average citizens grow

increasingly appalled by the behavior of business and the seeming greed

of its leaders. At the same time, the period between market meltdowns is

shrinking, Capital markets—and the whole of the American capitalist

system—hang in the balance.”

 

How did capitalism get into this mess?

 

Martin says that the trouble began in 1976 when finance professor

Michael Jensen and Dean William Meckling of the Simon School of Business

at the University of Rochester published a seemingly innocuous paper in

the Journal of Financial Economics entitled “Theory of the Firm:

Managerial Behavior, Agency Costs and Ownership Structure.”

 

The article performed the old academic trick of creating a problem and

then proposing a solution to the supposed problem that the article

itself had created. The article identified the principal-agent problem

as being that the shareholders are the principals of the firm—i.e., they

own it and benefit from its prosperity, while the executives are agents

who are hired by the principals to work on their behalf.

 

The principal-agent problem occurs, the article argued, because agents

have an inherent incentive to optimize activities and resources for

themselves rather than for their principals. Ignoring Peter Drucker’s

foundational insight of 1973 that the only valid purpose of a firm is to

create a customer, Jensen and Meckling argued that the singular goal of

a company should be to maximize the return to shareholders.

 

To achieve that goal, they academics argued, the company should give

executives a compelling reason to place shareholder value maximization

ahead of their own nest-feathering. Unfortunately, as often happens with

bad ideas that make some people a lot of money, the idea caught on and

has even become the conventional wisdom.

 

During his tenure as CEO of GE from 1981 to 2001, Jack Welch came to be

seen–rightly or wrongly–as the outstanding  exemplar of the theory, as a

result of his capacity to grow shareholder value at GE and magically hit

his numbers exactly. When Jack Welch retired from GE, the company had

gone from a market value of $14 billion to $484 billion at the time of

his retirement, making it, according to the stock market, the most

valuable and largest company in the world. In 1999 he was named “Manager

of the Century” by Fortune magazine. Since Welch retired in 2001,

however, GE’s stock price has not fared so well: GE has lost around 60

percent of the market capitalization that Welch “created”.

 

Before 1976, professional managers were in charge of performance in the

real market and were paid for performance in that real market. That is,

they were in charge of earning real profits for their company and they

were typically paid a base salary and bonus for meeting real market

performance targets.

 

The change had the opposite effect from what was intended

 

The proponents of shareholder value maximization and stock-based

executive compensation hoped that their theories would focus executives

on improving the real performance of their companies and thus increasing

shareholder value over time. Yet, precisely the opposite occurred. In

the period of shareholder capitalism since 1976, executive compensation

has exploded while corporate performance has declined.

 

“Maximizing shareholder value” turned out to be the disease of which it

purported to be the cure. Between 1960 and 1980, CEO compensation per

dollar of net income earned for the 365 biggest publicly traded American

companies fell by 33 percent. CEOs earned more for their shareholders

for steadily less and less relative compensation. By contrast, in the

decade from 1980 to 1990 , CEO compensation per dollar of net earnings

produced doubled. From 1990 to 2000 it quadrupled.

 

Meanwhile real performance was declining. From 1933 to 1976, real

compound annual return on the S&P 500 was 7.5 percent. Since 1976,

Martin writes, the total real return on the S&P 500 was 6.5 percent

(compound annual).  The situation is even starker if we look at the rate

of return on assets, or the rate of return on invested capital, which

according to a comprehensive study by Deloitte’s Center For The Edge are

today only one quarter of what they were in 1965.

 

Although Jack Welch was seen during his tenure as CEO of GE as the

heroic exemplar of maximizing shareholder value, he came to be one of

its strongest critics. On March 12, 2009, he gave an interview with

Francesco Guerrera of the Financial Times and said, “On the face of it,

shareholder value is the dumbest idea in the world. Shareholder value is

a result, not a strategy… your main constituencies are your employees,

your customers and your products. Managers and investors should not set

share price increases as their overarching goal. … Short-term profits

should be allied with an increase in the long-term value of a company.”

 

The shift to delighting the customer

 

What to do? Given the numbers of the people and the amount of money

involved, rescuing capitalism from these catastrophically bad habits

won’t be easy. For most organizations, it will take a phase change. It

means rethinking the very basis of a corporation and the way business is

conducted, as well as the values of an entire society.

 

“We must shift the focus of companies back to the customer and away from

shareholder value,” says Martin. “The shift necessitates a fundamental

change in our prevailing theory of the firm… The current theory holds

that the singular goal of the corporation should be shareholder value

maximization. Instead, companies should place customers at the center of

the firm and focus on delighting them, while earning an acceptable

return for shareholders.”

 

If you take care of customers, writes Martin, shareholders will be drawn

along for a very nice ride. The opposite is simply not true: if you try

to take care of shareholders, customers don’t benefit and, ironically,

shareholders don’t get very far either. In the real market, there is

opportunity to build for the long run rather than to exploit short-term

opportunities, so the real market has a chance to produce

sustainability. The real market produces meaning and motivation for

organizations. The organization can create bonds with customers, imagine

great plans, and bring them to fruition.

 

“The expectations market,” says Martin, “generates little meaning. It is

all about gaining advantage over a trading partner or putting two

trading partners together, then tolling them for the service. This

structure breeds a kind of amorality in which information is withheld or

manipulated and trading partners are treated as vehicles from which to

extract money in the short run, at whatever the cost to the relationship.”

 

By contrast, the real market contributes to a sense of authenticity for

individuals. Because individuals can find meaning in their jobs. They

are not playing a zero-sum game. They are doing something real and

positive for society.

 

Examples of the shift

 

Martin cites three examples of firms that are, even within the legal

limits of today’s world, focused on the real world of customers and

products more than gaming the stock market.

 

One is Johnson & Johnson [JNJ]. In 1982, when the Tylenol poisonings

occurred, “J&J was in a terrible bind. Tylenol represented almost a

fifth of the company’s profits, and any decline in its market share

would be difficult to reclaim, especially in the face of rampant fear

and rumor. Yet, rather than attempt to downplay the crisis—it was after

all, likely the work of an individual madman in one tiny part of the

country—J&J did just the opposite. Chairman James Burke immediately

ordered a halt to all Tylenol production and advertising, distributed

warnings to hospitals across the country, and within a week of the first

death, announced a nationwide recall of every single bottle of Tylenol

on the market. J&J went on to develop tamper-proof packaging for its

products; an innovation that would soon become the industry standard.”

Burke’s actions were not the heroic act of a single individual, says

Martin. The actions flowed from the company credo

which is engraved in granite at the entry to company headquarters,

which makes crystal clear that customers are first, then employees, and

shareholders absolutely last. Martin contrasts J&J’s handling of the

Tylenol crisis with the handling of the Deepwater Horizon oil spill in

2010 by BP [BP], which he sees as driven by a short-term concern for

BP’s profits.

 

A second example is Procter & Gamble [PG] which “declares in its purpose

statement: ‘We will provide branded products and services of superior

quality and value that improve the lives of the world’s consumers, now

and for generations to come. As a result, consumers will reward us with

leadership sales, profit and value creation, allowing our people, our

shareholders and the communities in which we live and work to prosper.’

For P&G, consumers come first and shareholder value naturally follows.

Per the statement of purpose, if P&G gets things right for consumers,

shareholders will be rewarded as a result.”

 

A third example is Apple. Steve Jobs seemed to delight in signaling to

shareholders that they didn’t matter much and that they certainly

wouldn’t interfere with Apple’s pursuit of its original customer-focused

purpose: ‘to make a contribution to the world by making tools for the

mind that advance humankind.’ Jobs’s feisty, almost combative demeanor

at shareholder meetings is legendary. At the meeting in February 2010,

one shareholder asked Jobs, “What keeps you up at night?” Jobs quickly

responded, ‘Shareholder meetings.’”

 

Making needed legal changes

 

Admonishing CEOs (and investors) to ignore the expectations market and

refocus on delighting the customer isn’t going to work, says Martin.

It’s as likely to be “as effective as admonishing frat boys to stop

chasing girls.” For CEOs, there are massive incentives for staying

attuned to it and severe punishments for ignoring it. Investors,

analysts, and hedge funds continue to reward firms that meet

expectations and punish those that do not. Missing expectations, a

dropping stock-price, and real-asset write-downs can together create an

unstoppable downward spiral. In the current environment, to simply

ignore the expectations market is to court disaster.

 

One of the great values of the Martin’s book is that he puts his finger

on the needed legal changes that can help shift the dynamic of business

away from gaming the expectations market and back to doing the real job

of delighting customers.

 

* One is the repeal of 1995 Private Securities Litigation Reform

Act, which contains what has become known as the “safe harbor”

provision. “To move ahead productively,” he writes, “the safe harbor

provision should simply be repealed. Executives and their companies

should be legally liable for any attempt to manage expectations. Without

the safe harbor provisions, there would be no earnings guidance and that

would be a great thing.” Making this change would immediately bring the

practice of giving guidance to the stock market, and so gaming

expectations, to a screeching halt. There is, says Martin, simply no

societal value to earnings guidance. The market will know exactly what

earnings are going to be at the end of the quarter, in just three or

fewer months. Society is not better off to have an executive publicly

guess at what that number is going to be. We need to turn executives

from the useless, vapid task of managing expectations to

the psychologically and economically rewarding business of creating value.

 

* A second is the elimination of regulation FASB 142 which forces

the real write-downs of real assets based on the company’s share price

in the expectations market. The current rule forces executives to

concern themselves with managing expectations in order to avoid

write-downs. Changing the rule would remove the major sanction that now

exists for executives who ignore the expectations market.

 

* A third is to restore the focus of executives on the real market

and on an authentic life by eliminating the use of stock-based

compensation as an incentive. This doesn’t mean that executives

shouldn’t own shares. If an executive wants to buy stock as some sort of

bonding with the shareholders or for whatever other reasons, that’s just

fine. However, executives should be prevented from selling any stock,

for any reason, while serving in that capacity—and indeed for several

years after leaving their posts. Stock based compensation is a very

recent phenomenon, one associated with lower shareholder returns,

bubbles and crashes, and huge corporate scandals. In 1970, stock based

compensation was less than 1 percent of compensation. By 2000, it was

around half of compensation. For the last 35 years, stock-based

compensation has been tried. It had the opposite effect of what was

intended. We should learn from experience and discontinue it.

 

Other needed changes

 

Martin also argues for associated changes:

 

* We must restore authenticity to the lives of our executives. The

expectations market generates inauthenticity in executives, filling

their world with encouragements to suspend moral judgment. They receive

incentive compensation to which the rational response is to game the

system. And since they spend most of their time trading value around

rather than building it, they lose perspective on how to contribute to

society through their work. Customers become marks to be exploited,

employees become disposable cogs, and relationships become only a means

to the end of winning a zero-sum game.

 

* We need to address board governance. Boards have become complicit

in gaming the expectations market, and the associated inflation of

executive compensation.

 

* We need to regulate expectations market players, most notably

hedge funds. Net, hedge funds create no value for society. They have

huge incentives to promote volatility in the expectations market, which

is dangerous for us but lucrative for them. So, we need to rein in the

power of hedge funds to damage real markets.

 

In a book that offers so much, one is tempted to ask for more. Perhaps

in subsequent writings, Martin will expand and carry his thinking

forward. In future writings, he might document more of the economically

disastrous practices that enable firms to meet their quarterly targets,

such as  looting the firm’s pension fund or cutting back on worker

benefits or outsourcing production to a foreign country in ways that

further destroy the firm’s ability to innovate and compete.

 

He might also spell out the specific management changes that are

necessary to delight the customer. The command-and-control management of

hierarchical bureaucracy is inherently unable to delight anyone–it was

never intended to. To delight customers, a radically different kind of

management needs to be in place, with a different role for the managers,

a different way of coordinating work, a different set of values and a

different way of communicating. This is not rocket science. It’s called

radical management.

 

He might also show how the shift from maximizing shareholder value to

delighting the customer involves a major power shift within the

organization. Instead of the company being dominated by salesmen who can

pump up the numbers and the accountants who can come up with cuts needed

to make the quarterly targets, those who add genuine value to the

customer have to re-occupy their rightful place.

 

He might also build on the theme that the shift from maximizing

shareholder value to delighting the customer doesn’t involve sacrifices

for the shareholders, the organizations or the economy. That’s because

delighting the customer is not just profitable: it’s hugely profitable.

Bottom-line: capitalism is at risk

 

American capitalism hangs in the balance, writes Martin. His book gives

a clear explanation as to why this is so and what should be done to save

it. A large number of rent-collectors and financial middlemen making

vast amounts of money are keeping the current system in place. The fact

that what they are doing is destroying the economy will not sway their

thinking. As Upton Sinclair noted, “It is difficult to get a man to

understand something, when his salary depends upon his not understanding

it.”

 

Is change possible? Martin believes so, quoting Vince Lombardi: “We

would accomplish many more things if we did not think of them as

impossible.” Other “impossible” changes have been accomplished.

 

“Not long ago, it seemed fanciful that public smoking would be

restricted and tobacco companies would sponsor public service ads that

discourage smoking,” wrote Deepak Chopra and David Simon in 2004. “But

this shift in awareness occurred when a critical mass of people decided

they would no longer tolerate a behavior that harmed many while

benefited a few.”

 

For instance, the Aspen Institute’s Corporate Values Strategy Group has

been working  on promoting long-term orientation in business decision

making and investing. In 2009, twenty-eight leaders representing

business, investment, government, academia, and labor (including Warrent

Buffett, CEO of Berkshire Hathaway, Lou Gerstner, former CEO of IBM and

Jim Wolfensohn, former president of the World Bank) joined with the

Institute to endorse a bold call to end the focus on value-destroying

short-term-ism in our financial markets and create public policies that

reward long-term value creation for investors and the public good.

 

Ultimately, the change will happen, not just because it’s right, but

because it makes more money. Once investors realize what is going on,

the economics will drive the change forward. The recognition that

maximizing shareholder value is the dumbest idea in the world is an

obvious but still a radical idea.

 

Like all obvious, radical ideas, in the first instance it will be

rejected. Then it will be ridiculed. Finally it will be self-evident and

no one will be able to remember why anyone ever thought otherwise.(i)

 

Buy the Martin’s book. Read it. Implement it. The very future of our

society “hangs in the balance”.

 

Roger L. Martin:  Fixing the Game: Bubbles, Crashes, and What Capitalism

Can Learn from the NFL. Harvard Business Review Press 2011.

 

And read also:

 

Q&A with Roger Martin: Fighting The Kool-Aid Of Stock-Based Compensation

 

Peter Myers

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