INTERNATIONAL BUSINESS

668 Part 6" Cases

Boeing's newest commercial jet aircraft, the wide-body 787 jet, is a bold bet on the future of both airline travel and plane making. Designed to fly long-haul point-to- point routes, the 250-seat 787 is made largely of com- posite materials, such as carbon fibers, rather than traditional materials such as aluminum. Some 80 per- cent of the 787 by volume is composite materials, mak- ing the plane 20 percent lighter than a traditional aircraft of the same size, which translates into a big sav- ing in jet fuel consumption and costs. The 787 is also packed full of other design innovations, including larger windows, greater headroom, and state-of-the-art elec- tronics on the flight deck and in the passenger compartment.

To reduce the risks associated with this technological gamble, Boeing decided to outsource an unprecedented 70 percent of the content of the 787 to other manufac- turers, most of them based in other nations. In contrast, 50 percent of the Boeing 777 was outsourced, 30 percent of the 767, and only 5 percent of the 707. The idea was that in return for a share of the work, partners would contribute to the estimated $8 billion in development costs for the 787. In addition, by outsourcing, Boeing believed it could tap into the expertise of the most effi- cient producers, wherever in the world they might be located, thereby driving down the costs of making the plane. Furthermore, Boeing believed that outsourcing some work to foreign countries would help it to gamer sales in those countries. Boeing's role in the entire process was to design the plane, market and sell it, and undertake final assembly in its plant in Everett, Washington. Boeing also believed that by outsourcing the design of so many components, it could cut down the time to develop this aircraft to four years from the six that is normal in the industry.

Some 17 partners in 10 countries were selected to pro- duce major parts of the aircraft. The rear fuselage was to be made byVought Aircraft Industries in South Carolina; Alenia Aeronautical of Italy was to make the middle fu- selage sections and horizontal tailpieces. Three Japanese companies, Fuji, Kawasaki, and Mitsubishi, were to pro- duce the wings. The nose section was to be made by Toronto-based Onex Corporation. All of these bulky pieces were to be shipped to Everett for final assembly aboard a fleet of three modified Boeing 747 freighters called Dreamlifters.

Until late 2007, the strategy seemed to be working re- markably well. Boeing had booked orders for over 770 aircraft, worth more than $100 billion, making the 787 the most successful aircraft launch in the history of commercial aviation, But behind the scenes, cracks were appearing in Boeing's globally dispersed supply chain. In mid-2007, Boeing admitted the 787 might be a few

months late due to problems with the supply of special fasteners for the fuselage. As it turned out, the problems were much more serious. Byearly 2008 Boeing was admit- ting to a delay of up to 12 months in the delivery of the first 787, an additional $2 billion in development costs, and the possibility of having to pay millions in penalty clause payments for late delivery to its leading customers.

The core issue was that several key partners had not been able to meet Boeing's delivery schedules. To make composite parts, for example, Italy's Alenia had to build a new factory, but the site that it chose was a 300-year- old olive grove, and it faced months of haggling with local authorities and had to agree to replant the trees elsewhere before it could break ground. To compound problems, its first fuselage sections delivered to Boeing did not meet the required quality standards. Then when parts did arrive at Everett, Boeing found that many com- ponents had not been installed in the fuselages (as required), and that assembly instructions were available. only in Italian. Other problems arose because several . partners outsourced mission-critical design work to other enterprises. Vought, for example, outsourced the ..... design and building of floor pieces for which it was responsible to an Israeli company. In turn, the Israeli company had trouble meeting Boeing's exacting qualiry . standards. However, because it was reporting to Vought; ..... not Boeing, executives at Boeing did not learn of this < until it had already become a serious bottleneck. Upon learning of the issue, Boeing rapidly dispatched engi- neers to Israel to work with the company, but by now several months had been lost. Boeing also subsequentlyta acquired Vought in 2009, bringing the supplier'' in-house. ..•••.

Despite all of these issues, Boeing remains committed\ to its outsourcing program. However, the company haf leamed that if it is going to outsource work to foreign' suppliers, much closer management oversight and coordi- nation is required to make it work. The company has also indicated that as valuable as outsourcing can be, it prob-( ablywent too farwith the 787. Going forward, Boeing h~\ signaled that it will not outsource key components thar. are seen as a source of Boeing's competitive advanta:g~; (wings, in particular, are often mentioned as a compone ...•" that may not be outsourced for future aircraft models).'

1. What are the benefits to Boeing of outsourcing so .' much work on the 787 to foreign suppliers?Whatatf' the potential risks?Do the benefits outweigh the ris~

2. In 2007 and 2008 Boeing ran into several publicizec}c issueswith regard to its management of a globally.·.•·.'

dispersed supply chain. What are the causes of these problems? What can a company like Boeing do to make sure such problems do not occur in the future?

3. Some critics have claimed that by outsourcing so much work, Boeing has been exporting American jobs overseas. Is this criticism fair? How should the company respond to such criticisms?

Cases

1. J. L Lunsford, "Jet Blues,"The Wall StreetJoumal, December 7,2007, p. AI; J. Gapper, "A Cleverer Way to Build a Boe- ing," Financial Times, July 9,2007, p. 11; J. Teresko, "The Boeing 787: A Matter of Materials," Industry Week, Decem- ber 2007, pp. 34-39; and P. Sanders, "BoeingTakes Control of Plants," The Wall Streetlournal, December 23,2009, p. B2.

Following a European Union mandate, from January 1, 2005, onward, some 7,000 companies whose stock is pub- licly traded on European stock exchanges were required to issue all future financial accounts in a format agreed upon by the International Accounting Standards Board (IASB). In addition, some 65 countries outside of the EU have also committed to requiring that public companies issue accounts that conform to IASB rules. Even American accounting authorities, who historically have not been known for cooperating on international projects, have been trying to mesh their rules with those of the IASB.

Historically, different accounting practices made it very difficult for investors to compare the financial statements of firms based in different nations. For example, after the 1997 Asian crisis, a UN analysis concluded that before the crisis two-thirds of the 73 largest East Asian banks hadn't disclosed problem loans and debt from related parties, such as loans between a parent and its subsidiary. About 85 per- cent of the banks didn't disclose their gains or losses from foreign currency translations or their net foreign currency exposures, and two-thirds failed to disclose the amounts they had invested in derivatives. Had this accounting in- formation been made available to the public-as it would have been under accounting standards prevailing at the time in many developed nations-it is possible that prob- lems in the East Asian banking system would have come to light sooner, and the crisis that unfolded in 1997 might not have been as serious as it ultimately was.

In another example of the implications of differences in accounting standards, a Morgan Stanley research project found that country differences in the way corporate pension expenses are accounted for distorted the earnings state- ments of companies in the automobile industry. Most strik- ingly, while U.S. auto companies charged certain pension costs against earnings and funded them armually, Japanese auto companies took no charge against earnings for pension costs, and their pension obligations were largely unrecorded. By adjusting for these differences, Morgan Stanley found that the U.S. companies generally understated their earn- ings, and had stronger balance sheets, than commonly sup- posed, whereas Japanese companies had lower earnings and weaker balance sheets. By putting everybody on the same

footing, the move toward common global accounting stan- dards should eliminate such divergent practices and make cross-national comparisons easier.

However, the road toward common accounting stan- dards has some speed bumps. In November 2004, for ex- ample, Shell, the large oil company, announced that adopting international accounting standards would reduce the value of assets on its balance sheet by $4.9 billion. The reduction primarily came from a change in the way Shell must account for employee benefits, such as pensions. Similarly, following lASB standards, the net worth of the French cosmetics giant L'Oreal fell from 8.1 billion to 6.3 billion euros, primarily due to a change in the way certain classes of stock were classified. On the other hand, some companies will benefit from the shift. The UK-based mobile phone giant Vodafone, for example, armounced in early 2005 that under newly adopted IASB standards, its reported profits for the last six months of 2004 would have been some $13 billion higher, primarily because the com- pany would not have had to amortize goodwill associated with previous acquisitions against earnings.'

1. What are the benefits of adopting international accounting standards for (a) investors and (b) business enterprises?

2. Wha[ are the porential risks associated with a move in a nation toward adoption of international accounting standards?

3. In which nation is the move to adoption of IASB standards likely to cause revisions in the reported financial performance of business enterprises, the United States or China? Why?

Sources 1. E.McDonald, ''What Happened?" The Wall Street}ourTlal,

April 26, 1999, p. R6; P. Grant, "IFRS BoostsVodafone Profits by Sterling 6.8 Billion," Accountancy Age, January 20, 2005; and G. Hinks, "IFRS to Wipe $4.7 billion off Shell's Balance Sheet," Accountancy Age, November 23, 2004.

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