Siemens Goes Mega

By William Boston / Berlin

Klaus Kleinfeld had a solution to one of the world's pressing problems. For the first time in human history, more people live in cities than in a rural environment. This massive urbanization is taxing public infrastructure, such as roads, railways, health-care systems, power networks and water resources. In the old industrial countries, infrastructure is aging. In the developing world, the infrastructure needed to sustain a modern economy often doesn't exist. A study by Booz Allen Hamilton concludes that from now until 2030, the world will spend $41 trillion just to maintain infrastructure at current levels. Kleinfeld, 49, the CEO of Siemens, which makes everything from power plants and water systems to CT scanners and dishwashers, was determined to be the go-to guy to take care of the planet's fix-it list.

"If you want to label it and call it infrastructure in a broad sense, it's what Siemens is really about," Kleinfeld told TIME earlier this year. "Everybody should have the opportunity to lead a reasonably good life. And if we really, truly believe this, I think we have to act on those types of challenges--water, clean water, as well as a clean environment and energy. Those are massive problems."

But before Kleinfeld got a chance to solve the world's troubles, he couldn't adequately solve one massive problem at Siemens. For months now, prosecutors and securities watchdogs in Europe and the U.S. have been investigating current and former Siemens employees, including some senior executives, on various allegations of corruption and foul play. In November, police raided some 30 Siemens offices--Kleinfeld's among them--confiscating documents and detaining several executives in connection with alleged illegal bribes paid to foreign officials to win telecommunications contracts.

Although Kleinfeld has never been implicated in anything illegal, key directors on the supervisory board that oversees management felt a clean sweep at the top was necessary to restore the company's credibility. Kleinfeld's future took a dismal turn on April 19, when his predecessor and mentor, Heinrich Von Pierer, most recently the chairman of the supervisory board and under whose watch the alleged crimes occurred, resigned under pressure. The board then took off the table discussions to extend Kleinfeld's contract, which is due to expire in September, until it had a better idea of where the investigation was heading. It was a prudent action, but Kleinfeld, disgusted by the lack of confidence, took himself off the table, telling the company he would no longer be available as of Oct. 1. "Every day I have to go out there and put my credibility on the line," he told reporters on April 26. "The team needs to know there is clear leadership. It's not about individuals but whether you have the entire supervisory board united behind you. That was the issue for me."

It's a loss for Siemens--and bitterly ironic in that Kleinfeld had acted boldly not only in responding to the investigation but also in separating Siemens' culture and strategy from that of Von Pierer's. Kleinfeld appointed the law firm Debevoise & Plimpton LLP to do a complete audit of the company, and another heavyweight, Davis Polk & Wardell, as corporate counsel. He named Daniel Noa, a former German prosecutor, as the company's new chief compliance officer (CCO) and hired Michael Hershman, a former U.S. military intelligence officer and one of the founders of anticorruption watchdog Transparency International, as a compliance consultant.

Kleinfeld and Hershman met in early December at the Bayerischer Hof Hotel in Munich, where the consultant sized up the Siemens boss. At one point during dinner, Hershman leaned forward and said, "Don't hire me if you've got a problem, because I'm going to find it, and if I feel misled or hindered, I will leave, and that won't be good for your company." Stirring the ice in his Diet Coke, Kleinfeld coolly replied, "I have nothing to hide."

During the first phase of his tenure, Kleinfeld focused on putting out the fires that were burning up the company's earnings. Despite accruing restructuring charges of $1.2 billion, the company managed acquisitions totaling $8.6 billion. In the past year, profits were up 35%, to $3.96 billion, and sales 16%, to about $117 billion. Investors rewarded Kleinfeld's decisiveness. Siemens shares have risen more than 40% since he took the helm in January 2005.

In repositioning the company as a focused solutions provider, he split with his predecessor and broke the back of the traditional German business culture that ruled Siemens. Von Pierer, CEO from 1992 to 2005, had begun to transform the company from a sprawling bureaucracy that largely lived off fat contracts from Germany's state- owned firms into a global operator. He rationalized Siemens' many disparate businesses into a group of 13--such as automation, power generation, medical technology and telecommunications. By the end of last year, Siemens employed 475,000 people in 190 countries and generated 81% of its sales outside Germany. "He turned Siemens into a proper company," says Michael Hagmann, a London-based analyst with investment bank UBS Ltd. "If you're a purist, you could say he could have done more. But there were a lot of people trying to prevent change."

Von Pierer was ultimately a defender of the old Siemens corporate tradition, however, always trying to balance the interests of shareholders and stakeholders, often at the expense of the former. He believed that synergies among the various divisions justified Siemens' cumbersome structure; well-performing businesses would offset weaknesses in other divisions.

Kleinfeld wants Siemens to go to market as a seamless, flexible provider of infrastructure--from lightbulbs to electrical grids--a program the company calls Siemens One. He points to Qatar, where massive development is under way. A number of firms could supply, say, light rail equipment. But Siemens can build a transportation system and power grid in one contract, optimizing its strengths in each of these segments. "If you put some of these things together, you can really have a competitive advantage," says Ken Cornelius, who heads Siemens One. For a hospital, Siemens can deliver 40% of a total project, from imaging machines to IT systems to power management, with one contract. "We are," Kleinfeld says, "the only company that has that capability. And there are customers, when they build a new hospital, that say, I might only have the chance once in my lifetime and then I want to do the full thing."

Kleinfeld was influenced by his three years in the U.S., which included being in charge of Siemens U.S., a collection of cats and dogs that didn't work well together. There he developed a program to get everyone to play nice with one another. Now, Siemens One is in 40 countries.

And he acted more like an American portfolio manager, discarding businesses that didn't meet profit targets or fit into his megacities strategy. Co-workers say Kleinfeld, a music lover who plays a mean blues harmonica, is easygoing and adaptable, a contrast to the stiff corporate culture of Von Pierer's world.

Their differences showed. In recent months, say insiders, Kleinfeld and Von Pierer often clashed over strategy. In corporate Germany, a departing CEO often becomes chairman of the supervisory board. In the case of Siemens, Von Pierer simply moved across the hall to a new office in the executive suite, sharing his old secretary and staff and even the executive washroom with Kleinfeld. Von Pierer began to block Kleinfeld from taking more radical restructuring steps, say these insiders. In the end, Von Pierer had to fall on his sword, but one tantalizing theory is that Von Pierer made sure he took Kleinfeld down with him. "With Von Pierer, one of the last great representatives of the old Germany Inc. is retiring," wrote the daily Frankfurter Allgemeine Zeitung. "For Von Pierer, the systemic conflict in the Siemens leadership has taken a tragic end."

Inside Siemens, the habits of Germany Inc. have been dying for a long time. In fact, the company has changed so much that it's fair to ask whether Siemens is really a German company anymore. Siemens has businesses in the U.S. ranging from water technologies to medical equipment that employ 104,100 people and generate $31 billion in sales, some 26% of revenue. Asia, where Siemens is building low-emission coal-fired power plants in Shanghai, accounts for 15% of the company's sales. In Europe, excluding Germany, Siemens has 127,400 employees and nearly a third of its sales. Germany accounts for just 19% of sales but 34% of the company's staff.

Siemens One notwithstanding, managing the growing multicultural community is sometimes a diplomatic challenge. Last year, for example, a row broke out between American and Iranian engineers during a training seminar at a Berlin turbine plant. The Americans, a plant official explains, refused to work with the Iranians. To resolve the issue, the seminar leader removed the name Iran from a map of Siemens locations, replacing it with "Sandy County." "The Americans were adamant," says the official. "Even though we're all in one company, we can't escape global politics."

In December, Kleinfeld was caught by surprise during a visit to the company's industrial-steam-turbine business in Goerlitz, a provincial city on the Neisse River, which divides Germany and Poland. Kleinfeld walked into a meeting with about 200 of the division's staff, shook a few hands and launched into a pep talk in German. As he started to hit his stride, many of the division's top executives looked on dumbfounded. Then Rene Umlauft, the division CEO, intervened, waving his hand at Kleinfeld and forcing him to stop midsentence. "Excuse me, Mr. Kleinfeld," said Umlauft. "But you can't speak German here. They don't understand. You have to speak English." Startled, Kleinfeld quickly grasped the humor of the situation.

The growing number of non-German engineers is a result of economics and education. Countries like India, China and the Czech Republic are producing highly qualified engineers who are less expensive than their German counterparts. And it's not just engineers who are caught in the global squeeze. In 2004 Siemens extracted an agreement from its workforce at two mobile-phone-handset plants in Bocholt and Kamp-Lintfort to work longer hours and accept a cut in holiday pay. Frustrated union leaders say they were blackmailed into eating what amounted to a 20% wage cut. "We had to accept these terms because there was the constant threat that these jobs would go to Hungary if we didn't," says Wolfgang Mueller, who was IG Metall union's representative on the Siemens supervisory board at the time. The concession didn't help much. When Kleinfeld took over in 2005, he jettisoned the handset business, selling it to Taiwan's BenQ, which shut it down a year later, embarrassing Kleinfeld and sparking protests from workers and politicians.

Kleinfeld wasn't done with telecom though. He put the struggling telecommunications-equipment business into a joint venture with Nokia, creating Nokia Siemens Networks, the No. 2 manufacturer in its industry. The rationale was simple: in a rapidly globalizing telecom business, with distinctions between fixed line and wireless disappearing, Siemens had to get the scale to compete. "It's No. 2 from the start, and that's a big win," Kleinfeld told TIME. "We'll have a true opportunity to be one of the top players in the industry."

The pressure from global competition inside and outside Siemens has a huge impact on careers. While there are still very few non-Germans in high executive positions, they are becoming more common. For example, a year ago, Umlauft needed a director for global sales. "Everyone expected me to appoint a German," he says. "But I hired a guy out of India. He's now in Goerlitz, and he's a great sales guy."

Or take Ajit Singh, 43, a computer scientist who grew up in northern India and moved to the U.S., where he joined Siemens in 1989. There he worked closely with Kleinfeld and has been one of the people driving Siemens' development of medical scanners that use digital image processing for the early detection of disease. Singh explains that a doctor could take digital images of a beating heart and compare them with images of a healthy heart and determine if there is an anomaly, often long before symptoms of an impending heart attack appear. Last year he moved from San Francisco to Erlangen, Germany, to run Siemens' global image- and knowledge-management business. "I have never come across any ceiling--visible or invisible," Singh says. "If you look at a 10-year span for somebody born in India, working in the U.S. and responsible for a global business at a German-based company, I would view that as best in class."

The ranks of Siemens' multicultural community were certainly rooting for Kleinfeld and a weakening of what remains of the German Old Boy network in Munich. With the executives of the Von Pierer era either retired or under investigation, Kleinfeld was supposed to have had a free hand to go about cleaning up the company from the inside and to take his restructuring drive to the next level. But the past had one blast left, and it got Kleinfeld.

Julian Mitchell, an analyst with Credit Suisse, applauds Kleinfeld for sorting out the bad businesses in the company's portfolio but says Siemens--no matter who runs it--still has a lot of work to do. "The next phase is all about improving execution in the core areas of the company, the areas the company is good at, like power and automation and health care, and then further streamlining the portfolio," he says.

Kleinfeld expected to have his contract extended. And with good reason. He presented first-half results that show that all the company's divisions are profitable again for the first time in years. Dieter Scheitor, the IG Metall union representative on Siemens' supervisory board who gave Kleinfeld a shove, says what matters most is whether all the bad news is out now. "Experience teaches us that the scandal probably has not reached its final act yet," he says.

Hershman, the ethics cop whom Kleinfeld hired, has been holding compliance training sessions with hundreds of executives. The week before Easter, he met the chief financial officers of divisions in a conference room at the busy Munich airport. Most of their questions were technical in nature, but some revealed how raw emotions are at the company. "How long will it take before everything is known?" asked one. "How long will it take before Siemens' reputation is restored?" asked another. During his wanderings, Hershman has been learning a lot about what went wrong at Siemens. The Munich meeting, for example, was the first time these key execs had ever met to discuss compliance. "I don't see any evidence to suggest that there was a top-down policy at Siemens to get business any way you can," says Hershman. "But there was a complete breakdown in their compliance system."

Siemens now requires any consulting contracts linked to sales to have the final approval of Noa, the CCO, and rules requiring divisions to report to the CCO have been strengthened. Siemens businesses may no longer use a bank outside a vendor's home country to pay the supplier. At Kleinfeld's request, Hershman dispatched four teams to scrutinize Siemens operations in what the CEO calls high-risk countries.

After four months of digging around Siemens, Hershman says he is suffering from dej`a vu. He compares Siemens' dilemma to General Electric's when Jack Welch was forced to confront similar issues, and he believes the challenge for German industry is much broader. "Germany is now not unlike the U.S. in the 1970s, when there was a host of big corruption cases," he says. For Siemens, the end of the bad news is far from over. As Kleinfeld was making his parting statements, the SEC launched an official investigation into the company. And Siemens conceded that the amount of money siphoned off for bribes at its telecom unit is probably much higher than the $570 million previously thought.

In the aftermath of Kleinfeld's decision to walk, Siemens' stock tanked. But Kleinfeld's has risen. He was hoping that three to five years down the road, people would look back and say Siemens had a problem but used it as an opportunity to become totally transparent and remodel the company for the epic infrastructure build-out that is unfolding around the world. It may still happen, but Kleinfeld's view of his handiwork will probably be that of a spectator.