When W. James McNerney Jr. decided that Boeing Co.'s (BA ) top managers needed a loud wake-up call, the new chief executive chose the obvious place to sound the alarm: the company's annual executive retreat on Jan. 4 and 5. A year earlier, the event had been held at the posh Mission Hills Country Club in Palm Springs, Calif., and nobody apparently had a better time than McNerney's predecessor, Harry Stonecipher. After a day devoted largely to socializing and playing golf, the former CEO, surrounded by Boeing's elite, closed down the bar and then fired up a cigar. It was at the same event that the married Stonecipher began a relationship with a female vice-president at Boeing -- a misjudgment that ultimately paved the way for his humiliating ouster on Mar. 6, and for McNerney's appointment as CEO on July 5. Stonecipher could not be reached for comment.
The "Palm Springs fling," as it became known at Boeing, marked an all-time low for the company. It followed a three-year binge of widely publicized corporate misbehavior highlighted by the jailing of Boeing's former chief financial officer for holding illegal job negotiations with a senior Pentagon official, the indictment of a manager for allegedly stealing some 25,000 pages of proprietary documents from his former employer, Lockheed Martin Corp. (LMT ), and the judicial finding that Boeing had abused attorney-client privilege to help cover up internal studies showing that female employees were paid less than men. Scandals involving multiple forms of misconduct in geographically scattered locations enveloped nearly every division at Boeing, leaving little doubt that the legendary company, even as it began to enjoy a cyclical boom, was plagued by a poisonous culture.
Given that backdrop, nobody was particularly shocked when the 2006 annual retreat was moved to the more quotidian Hyatt Regency in Orlando and pared from three days to one and a half. The real surprises began during a breakfast speech when the normally upbeat McNerney launched into the sharpest critique of the company he had ever aired before such a large audience. Speaking without notes, McNerney said that "management had gotten carried away with itself," that too many executives had become used to "hiding in the bureaucracy," that the company had failed to "develop the best leadership." The next day, McNerney introduced General Counsel Douglas G. Bain, who really lowered the boom, railing against Boeing's pervasive "culture of silence." To grab the group's attention, Bain rattled off the federal prison numbers of two jailed former employees. "These are not Zip Codes," Bain snapped. With McNerney looking on in clear support, Bain warned the audience that many prosecutors "believe that Boeing is rotten to the core."
The challenge of cleaning out the rot at the heart of Boeing is one for which McNerney, 56, has spent his entire professional life preparing. Since earning his master's degree from Harvard Business School in 1975, he has uprooted his family every two or three years in search of the next professional test. He started in brand marketing at Procter & Gamble Co. (PG ), jumped to McKinsey & Co., and then climbed the ranks through General Electric Co. (GE ) for 18 years, where he topped out as CEO of GE's aircraft engine business, one of Boeing's most important business partners. After losing in a three-way race to replace Jack Welch as CEO of GE, McNerney was snapped up by 3M Co. (MMM ) in 2001 to turn around the struggling manufacturer. A short time later, he joined Boeing's board.
McNerney is a leader who both understands and cares about the aerospace giant. The series of ethical violations that surfaced at Boeing grated on the arrow-straight McNerney when he was a director, as did the fact that in 2003 the iconic company lost its status as the world's No. 1 commercial aircraft company to Airbus. Now McNerney has what he has always wanted: a chance to seal his legacy at one of America's most important companies. But to do so, he'll have to reinvent the 153,000-employee, $55 billion colossus, which, besides losing its moral compass, has not yet reached its profit-making potential. "I think the culture had morphed in dysfunctional ways in some places," the polished, soft-spoken McNerney said in a recent conversation with BusinessWeek, his first extensive interview since taking the job. "There are elements of our culture that I think we all would like to change."
Specifically, McNerney wants to unite a balkanized management team that has been at war ever since Boeing merged with McDonnell Douglas Corp. in 1997. The distinct cultures of the two companies never meshed, and the differences calcified into bitter rivalries. Having spent his first six months on the job in a "deep dive" learning about the company, McNerney believes that internal rivalry not only is at the root of the company's ethical scandals but also has prevented managers from cutting costs and sharing good ideas effectively. His prescription includes some predictable elements, including exerting more effective central leadership over Boeing's three divisions, changing the way executives are paid, and encouraging managers to exploit the giant manufacturer's cost-cutting leverage. But it also includes some unusual ones, such as encouraging managers to talk more openly about Boeing's severe ethical lapses. "I want to try to make it O.K. to have that dialogue," says McNerney. The scandals at Boeing aren't "something that happened in a separate part of the company that half of us aren't responsible for."
If McNerney's plan succeeds, Boeing could be poised to soar. For all of Boeing's internal dysfunctions, McNerney inherited a company that is booming. Because of a recovery in the airline industry, Boeing's commercial airplane unit notched a record 1,002 firm airplane orders in 2005, with the 737 the company's biggest seller. The division's success is best epitomized by its first new aircraft in 10 years: the lightweight 787 Dreamliner, which carries 220 passengers and burns 20% less fuel than similar-sized airplanes. Sales have soared since Boeing launched it two years ago; the company secured 379 orders and commitments from 27 airlines. And even though Boeing Integrated Defense Systems faces a decline in revenues resulting from Pentagon cutbacks, the division is positioned well in key military growth areas such as network systems.
All of this has sent Boeing's stock price up 34% over the past 12 months. But McNerney believes that his company, historically a boom-and-bust enterprise, can do better. Relentless ethical scandals and bitter infighting, he believes, have dampened the aerospace giant's performance. "If we can get the values lined up with performance, then this is an absolutely unbeatable company," says McNerney.
Rather than simply giving speeches about management virtue, insiders say that McNerney is trying to lead by example. He wins praise from co-workers for paying attention to the small things like remembering people's names, listening closely to their presentations, and not embarrassing underlings in public. That marks a sharp distinction from the blunt Stonecipher and the remote Philip M. Condit, who stepped down as CEO in 2003 in the wake of the Pentagon scandals. And it's hardly the only contrast between McNerney and his predecessors. McNerney doesn't travel with a big entourage or even spend much time on Boeing's plush 737 business jet. "Harry and Phil used to have dozens of handlers. Phil had a private chef on the  and an aide-de-camp, but Jim mostly flies on the smaller Challenger," says a Boeing executive who has worked under all three leaders. Condit could not be reached for comment.
More important, McNerney asks different types of questions than Stonecipher and Condit. "Phil or Harry would get into the weeds on the technical stuff," says this executive. "But Jim is more interested in the human side. He is interested in how to ... create a culture where people speak up and take the risk and stop a production line because something is wrong."
The fact that Stonecipher and Condit didn't make these kinds of inquiries could be a big reason why bad news surfaced so slowly at the old Boeing. Consider the story of Kenneth Branch, a Lockheed Martin manager who accepted a job in 1997 with McDonnell Douglas in its space rocket program, which later became a Boeing unit competing against Lockheed. Branch took about 25,000 pages of documents, many with proprietary markings, from Lockheed Martin. About a dozen Boeing employees saw some of these documents over a 2 1/2-year period. It was only in June, 1999, that an employee came forward. "How could you have that many documents floating around and nobody said anything?" Bain asked at his presentation in Orlando. "Was there a culture of 'win at any cost?"' If that was indeed the case, the price turned out to be incredibly high -- and not just to the company's reputation. The incident cost Boeing $1 billion in government business, and Lockheed Martin is seeking up to $2 billion in damages, citing lost business.
McNerney also wants to erase an unhealthy legacy at Boeing's World Headquarters that developed in the Condit and Stonecipher eras. The corporate offices that Boeing adopted as headquarters when it moved from Seattle to Chicago in 2001 had become a hotbed of corporate infighting with executives competing for resources and recognition as the next in line for the CEO spot. Even when sales at the business units declined, costs at headquarters had continued to rise. To counteract the image of Boeing's Chicago base as some elite enclave, McNerney has changed the name from World Headquarters to "the Corporate Center." He says World Headquarters sounded "too imperial."
He's also narrowed the corporate headquarters' role to primarily supporting Boeing's two big profit-and-loss centers. Other staff functions such as legal, public relations, human resources, ethical compliance, finance, and international will be streamlined and reduced if necessary. McNerney has no plans to move corporate back to Seattle, but he wants the Chicago executive headquarters to rethink its role. "I think what happened is we got to Chicago, and then the definition of what we are was incomplete," McNerney says. "What do we do here? Do we all just live in a building? Or are we going to figure out a way to help make this company greater than the sum of its parts?"
Revamping pay is another powerful tool McNerney is using to reform Boeing's culture. In the old days, no points were awarded for collaborating with other units or following ethics rules. Now pay and bonuses are directly linked to how well executives embrace a set of six leadership attributes such as "Living Boeing Values." That includes new criteria such as promoting integrity and avoiding abusive behavior. McNerney is also giving managers financial incentives that better reflect the cyclical nature of the aerospace industry. Boeing's past long-term incentive system, called Performance Shares, paid out based on a higher stock price. But that system failed to consider management's performance during the down cycles inherent in the industry, thus offering managers few incentives to find a way to improve performance during a downturn.
McNerney also plans to take greater advantage of Boeing's economies of scale in the supply chain and to create a more efficient research and product development process. Both goals had been thwarted in the past by the company's balkanization. Consider the issue of global sourcing. Boeing currently buys 200 different kinds of safety glasses and 80 different shades of white paper. The defense and commercial airplane divisions each negotiate for their own aluminum and titanium, says James F. Albaugh, CEO of Boeing Integrated Defense Systems and the executive responsible for the global sourcing initiative. "Why can't we buy two or three different kinds of safety glasses? Why can't we have standard part numbers that go across the enterprise?" he asks. "It's all about making us one company. It will give us leverage and make us dependent on each other for success."
The job of improving Boeing's huge R&D operation falls to Chief Technology Officer James M. Jamieson. He wants to weed out redundant lab operations and create standard engineering tools. One area of focus: fixing the trouble-plagued spy satellite program, Future Imagery Architecture. The program's chronic design and production woes have cost Boeing hundreds of millions of dollars. Doing this will require managers to surmount a formidable challenge: The satellite and airplane cultures need to find a common language. "Part of Boeing talks very fluently of aerodynamics," says Jamieson. "[But] the satellite world talks about networks." And the satellite world tended to believe each satellite was unique. "Now we are beginning to use standard tools and processes," Jamieson says. "We're beginning to see real improvement in cost, schedule, and quality."
Expect to see much more of that under McNerney. As Jamieson observes, McNerney "looks down into the details and brings it up to a high level of strategy." He recalls how McNerney once asked him to explain the benefits of the composite technology being used on the 787. Jamieson started explaining about the longer fatigue life of composites and the lack of corrosion compared with aluminum, until McNerney stopped him. "I was giving him a pure technical answer, and he was asking what it means to business, the passenger, and the airlines," Jamieson says. "He's asking the broader questions. He has objectivity because he wasn't raised in one of our worlds."
By Stanley Holmes