Chapter One: Strategic Concerns


Chapter One: Strategic Concerns

There are many reasons why companies today are being forced to make a serious effort to ensure good social and environmental behavior by suppliers and business partners in their extended global supply chain. Those new pressures, including relocation of the manufacturing base and nongovernmental organization (NGO) and shareholder scrutiny, are effectively forcing companies to reassess their relationship with overseas suppliers for which a decade ago they assumed little or no responsibility.

Taking responsibility for the management of an ethical supply chain that extends to a corporation s supplier community is an evolutionary step of great importance to companies and to the global economy, and marks an important trend in the development of the modern corporation. The reason this new level of responsibility is increasingly being accepted by corporations worldwide ” which was not the case just a decade ago ” is worth analyzing, because it comes as a result of new, inescapable pressures on companies that are inherent in the new global economy.

Globalization

The most obvious reason companies today need to be concerned with actively helping to manage ” or at least to monitor and be aware of ” the ethical, social, and environmental policies of their suppliers and subcontractors is that, as part of the process of globalization, more and more organizations are either sourcing their products directly from overseas suppliers, or have relocated large portions of their manufacturing base to operations in low-cost labor markets. It is a fact of life in the global economy: For the foreseeable future, modern multinationals will continue to pursue strategies based upon the twin policies of a) cutting costs in domestic operations through delayering, downsizing, and automation and b) relocating manufacturing and assembly operations and outsourcing labor- intensive operations to low-cost labor markets in the developing world.

This relocation of the manufacturing and production base to cheaper labor markets overseas has been one of the key features of the emerging global economy, and although by no means a new phenomenon , when combined with efficiency increases , it is likely that so much of our low-skill manufacturing will be sourced through foreign operations that by 2015, less than 10 percent of the U.S. workforce will be involved in manufacturing. Moreover, while there are many cost advantages associated with this relocation, most companies are today ” or will be very soon ” facing corruption and human rights and environmental issues associated with their foreign supplier network that are very different from those that they have traditionally dealt with in their domestic markets.

The extent to which this globalization of the modern enterprise is occurring is best seen by looking at any of the Fortune 200 companies. Nike, a good example of the modern western apparel company, actually owns no manufacturing facilities of its own, choosing instead to outsource all its production to more than 900 contract factories worldwide, employing around 600,000 workers in their supply chain. The company has approximately 50 contractor factories in China alone, employing more than 110,000 workers. [1 ] A global parcel delivery company such as DHL now operates in 229 countries ; Intel has offices and manufacturing plants in over 40 nations. Dole, the largest distributor of fruit in the world, has 61,000 employees with 5,000 suppliers, 90 percent of which are based in developing nations. Walt Disney s consumer products division makes toys and garments through licenses with nearly 10,000 manufacturing facilities in 50 countries. Gap Inc. sources apparel from about 2,500 supplier facilities in 55 countries. [2 ] In short, most of these companies have pared down their domestic operations over the past 15 years so that they could focus on their core competencies ” design and marketing. The remaining manufacturing and assembly services have been contracted out on a global basis. We are not at the beginning of that process of global relocation, of course, but neither are we anywhere near the end. The reality is that companies today understand that they can take advantage of inexpensive and pliant labor in developing economies, reducing their production costs, increasing profits, and making their stock more valuable to investors.

There is no doubt that this process of relocation will continue in search of both low-cost labor and ever-expanding sales. Emerging markets are expected to continue growing at over 6 percent a year for at least the next decade, almost twice the rate of growth expected for the United States, the European Union, or Japan (see Figure 1-1). Not only are labor costs much lower, but local production will increase the likelihood of local sales in the future. It simply makes sense that companies will need to reduce their presence in the 25 percent of the world that is virtually satiated with products ” apparel, automobiles, televisions , refrigerators, computers ” and focus on selling to the remaining 75 percent of the world s population as they continue to purchase basic items today and, as they become wealthier, luxury goods in the future.

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Figure 1-1: Global GDP Growth Rates

Source: Financial Times/World Bank: Global Economic Prospects, The World Bank, at www.worldbank.org , as cited in De Jonquieres, Guy, and Swann, Christopher, World Bank Sees 5% Growth for Poorer Countries, The Financial Times, September 4, 2003, p. 7.

Integral to that process of globalization for companies, however, is the expansion and increased fragmentation of their supply chain. Today, products are purchased, manufactured, assembled , and sold without regard to borders. Components are purchased from around the world, consolidated in one nation, shipped to a production facility in a second country, stored in several others for distribution, and once the product is sold and used, it may be collected and disposed of by other subcontractors in countries around the world. All of this means that most companies today are either buying products from, or actively engaged in outsourcing production or assembly from, subcontractors that are located in these low-cost labor developing markets. In fact, a quick survey of various growth industries reveals the extent of globalization already taking place.

Let s begin with the automotive industry, today on the brink of what promises to be a massive expansion in global demand for cars and trucks throughout the developing world. In 1950 there were less than 70 million automobiles in the entire world. Today there are more than 700 million and that number is estimated to jump to well over a billion by 2050, almost all of that increase produced, purchased, and driven in developing countries.

These markets are critical for the continued viability of the leading auto makers , as the glut of automobiles in the United States and the European Union contributes to price deflation and forces auto makers into desperate measures (such as 0 percent financing schemes). Add to this the pension and health care costs of massive corporations such as GM and Ford, the continued slump and price deflation in Japan, and new tolls and a greater emphasis on public transportation in Europe, and the result is a potential disaster for one of the key industries within the G7 economies. Without question, all of this means that the bulk of both manufacturing and sales is directed toward developing nations, such as Mexico, China, Thailand, Egypt, India, where growing prosperity and huge populations provide a massive new global market. As those auto manufacturers continue this relocation process, more and more of the hundreds of thousands of suppliers that today feed that massive production process (and the maintenance services that follow) will also begin to relocate, or to rise up indigenously, in these low-cost labor markets so that they will be within easy distribution routes to these new automobile factories.

To help fuel those millions of automobiles, previously unexploited areasof the globe such as western and central Africa promise to become the focus of petroleum company efforts ” particularly as continued conflict in the Middle East makes dependence on traditional supplies of crude oil increasingly risky. African nations own 8 percent of the world s oil reserves , and crude oil imports from this area of Africa to the United States are forecast to jump from 15 percent of total U.S. oil imports to 25 percent over the next decade, meaning a certain expansion of western petroleum facilities in previously undeveloped areas of Africa such as Nigeria, Guinea, and Angola. In fact, U.S. and European oil executives are focusing their attention on western Africa, with estimated $200 billion in new oil revenues expected to accrue to African governments in the next 10 years, bringing the greatest inflow of capital and infrastructure in the continent s history. With U.S. government officials making sorties to the area now on a monthly basis, and President George W. Bush making an unprecedented (and previously perceived as unnecessary) visit to the African continent in 2003, observers and critics have been prompted to contend that, with the oil-savvy administration in Washington, the United States is preparing for an historic, strategic alignment with the area that will inevitably lead to a greater U.S. commercial and military presence on the continent. The continent that George W. Bush in his campaigning days said had no strategic importance to the United States is now, potentially , seen as an important new source of future American oil, and is being afforded the status (i.e., increased foreign aid, medical and health care support, weapons, military and security training) that was once reserved for countries in the Middle East.

This area of central and southern Africa, however, is notorious for corruption and human rights violations, and rightly or wrongly, western oil interests will be considered duplicitous unless they actively demonstrate that they maintain consistent standards for avoiding environmental and worker exploitation. Already this African emphasis is having its effect on oil companies. One of the most well-known cases, Wiwa v. Royal Dutch Petroleum Co., involves a civil lawsuit filed against the Shell Oil company that alleges that the giant multinational was complicit in human rights violations ” specifically , the persecution and execution of environmental activists ” by the government security forces in Nigeria. Other prominent lawsuits and disputes have involved western petroleum companies in Africa. British Petroleum/Amoco admitted that it paid the Angolan government $111 million in 2001; a new multibillion dollar project in Chad involving a consortium of oil companies led by ExxonMobil has been plagued with corruption concerns, and Chevron is embroiled in a lawsuit, charged with serious human rights abuses in neighboring Nigeria. These cases all reflect the dangers and difficulties of the extended supply chain. [3 ]

Similarly, other areas that once sustained the developed world economies are shifting their focus to developing world markets. Fast food retailers and soft drink distributors continue to seek out new markets in Africa, South and Central America, and Asia. With that expansion comes new and often unanticipated responsibilities. In a continent ravaged by the AIDS/HIV epidemic (in many African nations, up to 40 percent of the adult population are infected), employee safety as well as contributions to humanitarian relief efforts have become part of a company s license to operate . Yet, as a good illustration of how a combination of good intentions, poor judgment, and a focus on public relations can backfire on a company, in the autumn of 2002, Coca-Cola found itself the object of worldwide protests and ridicule when they misguidedly announced with some fanfare that they intended to spend some $5 million a year on HIV/AIDS treatment for the employees of its African bottlers. Whatever the good intentions, $5 million was seen by many as a derisory amount, provoking indignation among its many stakeholders. The incident illustrates not only the continued higher expectations of companies working in developing markets ” after all, the company had broken no laws and was offering to dedicate funds to help employees ” but also the increased need for companies to be able to better understand and gauge the effects of their actions in different cultures and in an increasingly more ethically demanding global environment.

Nowhere is the dilemma of promise and peril more obvious than in China, which has already become the premier location for apparel, automobile, and electronic component producers (and many others) as the old communist regime continues to give way to market liberalization and the region s economy grows. Again, using Coca-Cola as an example, the company has invested more than $2 billion in China, India, and Indonesia in recent years, three nations that alone account for nearly 40 percent of the total global population. While growth in its traditional markets such as the United States has remained steady at 4 “ 5 percent, Coca-Cola is anticipating growth rates in sales in the Asian markets doubling every 20 years. [4 ] McDonald s and Kentucky Fried Chicken have some 700 stores in China already; Proctor and Gamble is the biggest seller of shampoo in the Republic; and between them, Motorola, Ericsson, and Nokia have 90 percent of the growing mobile phone market there. [5 ]

The reality is, despite the sometimes frosty relationship between the two governments, U.S. companies and American consumers are integrally involved in China s economic growth. In 2002 the United States imported more than one-third (36 percent) of China s total exports, including 1.2 billion garments, which accounted for $39 billion in U.S. retail sales in 2002. Nearly every stuffed toy in America (95 percent) comes from China, and one-third (27 percent) of all wooden furniture is assembled there. Sixty percent of all shoes sold in America are made in China, and the rapid expansion of China s electronic and computer assembly industry is growing each year by more than 75 percent. With some 150 million migrant workers now looking for jobs in China s fast-growing coastal cities, their Pearl River Delta area alone today is pulling in nearly $1 billion in worldwide investment each month.

In fact, most economists believe that China will overtake the United States very soon as the world s most favored nation for foreign direct investment (FDI) with an estimated $55 billion capital inflow from multinationals rushing to take advantage of the newly liberalized Chinese markets. [6 ] This rapid economic growth promises an almost inexhaustible labor market to further fuel the continued relocation of global manufacturing. As a result, every major western apparel, small item, electronic component, and automotive manufacturer has now moved into the country.

Many of the factories that are emerging in these fast-developing regions , including Mexico and Central America, produce goods for hundreds of the industrialized world s most prominent brand labels. In the electronic component industry, for example, a typical factory such as Flextronics, located in Zhuhai, China, assembles electronic products for many of the West s most powerful companies: Microsoft, Philips, Dell, Apple, Sony, Ericsson, Motorola, Nokia, and 3-Com. Japanese firms such as Canon, Honda, and NEC have spent billions relocating their plants in China, with Japanese investment in China in 2001 exceeding $4.6 billion. In return, last year China surpassed the United States as the largest exporter to Japan.

And this relocation is not limited to just low-skill labor. Increasingly, higher-skill work ” software engineering, electronic component design, Web site development ” are all outsourced to these new markets. Forrester Research has predicted that this dramatic relocation of both high- and low-skill production will involve more than 3.3 million U.S. information technology jobs moving overseas in the next decade.

Whatever the pros and cons for local employment in the developing economy may be, shifting production to areas such as China, Africa, or Latin America can be fraught with problems for the parent companies involved. Disney provides a good example of how even the most family-friendly brand names can be caught out by poor labor practices. During the summer of 2000, a Hong Kong-based industrial committee investigated working conditions in 12 regular and seasonal factories in the Guandong province in China that were being used to produce Disney theme toys and garments, mostly for export to the United States and Europe. Most of the factory workers were young, female workers, sometimes as young as 16.

Disney, comparatively advanced with its ethical supply chain framework, has a corporate code of conduct that clearly requires its suppliers to adhere to high employment standards and national labor codes, and the company has put in place an independent monitoring system for inspection of suppliers in order to ensure that these standards are met. But the investigations found that despite these precautions , labor violations ” excessive hours, poverty-level wages , dangerous working conditions, overcrowded and dirty living accommodations ” were commonplace in factories making Disney toys. In one factory, it was alleged that up to 24 workers shared a single dormitory room, receiving salaries of between $49 and $85 each month ( between 13.5 and 36 cents an hour ). During the peak production season , employees were required to work up to 17 hours a day, seven days a week. Their pay several months in arrears, employees at one factory went on strike, but once they had received their pay, all who had participated were fired .

Needless to say, these are the types of issues that outrage consumers and terrify investors in the developed world, where similar conditions were outlawed and eliminated decades ago. As a result, a combined movement from socially responsible investors and American religious groups, together holding more than $1 million in Disney shares, has joined with human rights activists to demand that Disney agree to independent monitoring of its factories, to create a living wage policy for its contract factory workers, and to create reliable investor reports concerning policies and workplace improvements. In their shareholder proposal, this shareholder group warned that without reports validating progress toward implementing the Code of Conduct, lasting damage could occur to our company s reputation, brand value and its long- term profitability. [7 ] The situation is a good example of the yawning gap between stated goals and reality in the global supply chain.

There simply is no escaping the fact that an ever-growing portion of western manufactured goods are dependent upon the continued low wages ($100 “$150 per month) and unforgiving working hours that are inherent to these developing economies. Although there are many strong humanitarian arguments in favor of this economic expansion, and all indications are that these types of manufacturing jobs are highly sought after in developing economies, human rights activists rightly point out that employment conditions can be brutal.

And, of course, workers in these low-wage labor markets are only at the beginning of their economic growth cycle; just beginning to have money to acquire all of the material necessities of life that are today taken for granted in the West ” a TV, a car, a VCR. Today s low-wage production markets will quickly become future markets for sales of Western companies manufactured goods. With average economic growth rates hovering around 6 percent in these developing markets (compared with an average growth rate of little more than 3 percent in most Western economies even during the explosive growth of the late 1990s), Western corporations are increasingly dependent upon these emerging markets to fuel continued global economic expansion. In short, in nearly every way, the wealthy one quarter of the global population living in the advanced economies are now dependent upon the three quarters of the population living in relative poverty for their continued prosperity. That means that the globalization of the supply chain is set to increase dramatically in the years to come.

And, unlike the several interim economies such as Singapore, Malaysia, or Taiwan that inherited and then quickly passed on low-wage production because of wage inflation and a limited labor supply during the first wave of foreign direct investment in the 1980s and 1990s, China and India, for example, have a potentially limitless supply of low-cost labor. Counting surplus farm workers hoping to migrate into such jobs, the labor supply in China alone will soon expand by 400 million. That is good for the nation s economy as a whole, but it also means that the built-in regulation of limited labor and rising wages ” supply and demand pressures that are integral to most other economies ” does not apply, leaving China in a position of potentially becoming a giant, inexhaustible sweat shop. And despite growing prosperity and exposure to Western company policies, in many of the countries upon which the supply chain for U.S. manufacturing is now dependent ” China, Cambodia, Columbia, Mexico, Burma/Myanmar, Pakistan, Indonesia, many Middle East countries, and even South Korea ” trade unions are repressed or outlawed altogether. In 2001, over 4,000 trade unionists were arrested worldwide and more than 220 union leaders disappeared. [8 ]

Whatever the pros and cons of this new global arrangement in terms of economics and human rights, the situation provides considerable ammunition for pressure groups that see blatant exploitation of the poor and the uneducated at the hands of Western multinationals.

Of all the emotional and disturbing issues that emerge from foreign laborpractices, no issue is more explosive than that of child labor. There are at least 246 million children globally ” one in every six children in the world between the age of 5 and 17 ” that are currently engaged in the types of work that the International Labour Organization contends should be abolished: work that is so hazardous as to put their wellbeing at risk. Around 8 million children fall into the nastiest forms of work, such as forced labor or conscription for serving in armed conflict. Most of those children are working in the Asia-Pacific region (127 million), but nearly a third of all children in Africa are involved in child labor. [9 ]

A recent BBC report reflects a typical situation for Chinese child workers.Fangang, a young girl in the southeastern Chinese city of Fuzhou, was employed by the Tebiete handicraft manufacturing company to work 12-hour days in their factory. Like many other girls , she had just graduated from primary school. Although she was supposed to be receiving 200 “ 400 yuan each month, her room and board costs meant that after a year she had still not been paid. The situation, played out with hundreds of thousands of other children in the country, promises a life of little more than indentured servitude. [10 ]

Similarly, India is a targeted labor market for multinational companies creating software, electronic components, and apparel. The government, according to Human Rights Watch, continues to indulge exploitation of workers, including an estimated 60 million children involved in full-time labor, with traditional practices such as bonded labor, meaning that both children and adults are routinely required to work as part of a loan given by companies to their parents or families. These indentured workers, essentially modern slaves, make up a significant portion of labor for the garment and apparel industry. The practice is particularly rampant in silk manufacturing where an estimated 350,000 children, often as young as five years old, routinely work 12-hour days, sometimes seven days a week. There is too often little concern for employee health and safety. Unsanitary, unsafe working conditions are commonplace, and physical abuse is routine.

Yet, and this is an important point, national labor and safety laws are officially quite strict in India and China, demonstrating one of the key issues now facing global companies which buy products from these factories, or which subcontract for manufacturing and assembly in these areas. Despite the fact that India s Supreme Court and the national Human Rights Commission have both ruled that these laws must be obeyed, these types of violations remain routine. Given that is the case, argue activists, the responsibility for ensuring that these laws are enforced must fall not only on national governments (over which the NGOs have little power), but also on corporations (over which NGOs can have considerable influence).

And as we have already seen, even U.S. domestic suppliers can be guilty of similar levels of worker exploitation. For example, during the now famous raid in El Monte, California, in 1995, police found more than 70 illegal Thai immigrants being held against their will within a barbed wire compound being forced to sew garments for 15 hours a day, seven days a week. More recently, nearly 50,000 young women and girls from China, Thailand, and the Philippines were found to be working in similar conditions on the U.S. territory of Saipan. The clothing they were sewing had labels proudly declaring that the garments were Made in the United States. To get a good idea of how little these garment workers are paid, a recent study found that even if the salary for Mexican and U.S. apparel workers were to be doubled , it would only add 50 cents (1.6 percent) to the production costs of a man s shirt that retailed for $32 in the United States. [11 ]

These types of revelations, often involving illegal workers, are not as unusual as it may seem. Migrant workers picking fruit in the United States have essentially become a third-world labor supply, in terms of wages, health care, and living and working conditions, within our own borders. And despite the fact that, since an executive order in 1993, federal contractors are supposed to certify that child labor has not been used in manufacturing any of the products that they purchase, it is estimated that the government has been buying $57 million worth of products made in industries in which child labor is common. [12 ]

What all of this means is simply that as competition continues to force companies to compete in the global economy, corporations will continue to face potential pitfalls associated with buying low-cost goods through suppliers. Companies protect and enhance their brand equity, warns BSR, the U.S.-based business responsibility research and consultancy group, by ensuring their operations ” and those of their business partners ” are conducted in a manner consistent with human rights principles.

Businesses are increasingly aware that they share responsibility for their suppliers employees who manufacture, grow, or produce their goods, and recognize that they can improve supply chain management in the process. Companies working in zones of conflict are also realizing that they built their license to operate by developing practices consistent with human rights principles. [13 ]

The arguments for and against globalization are complex and important, but whatever your particular position as a company or a business manager, it is important to realize that these and similar issues mean that companies are facing a new era in monitoring and reporting of the social and environmental activities within their extended supply chain that will require some fundamental rethinking of corporate strategy, and involve more than mere public relations efforts ” donations to local charities and a boastful Web site ” to convince activists and investors that they are on top of the situation.

[1 ] Made in China. The role of U.S. companies in denying human and worker rights, National Labor Council, May 25, 2000.

[2 ] Labor Standards Initiative, As You Sow Foundation Web page at www.asyousow.org/laborstandards.htm#mcd.

[3 ] Charlotte Denny, Scramble for Africa Will Fuel Misery, The Guardian Weekly, July 3-1, 2003, p. 21.

[4 ] Brent Chrite, Local Knowledge Will Provide the Key, The Financial Times, August 26, 2002, p. 4.

[5 ] James Kynge, Doing Overtime in the Workshop of the World, The Financial Times, October 29, 2002, p. 7.

[6 ] Ibid.

[7 ] Working for Disney Is No Fairy Tale, at http:// members .tripod.com/~cawhk/9904/.

[8 ] Annual Survey of Violations of Trade Union Rights, International Confederation of Free Trade Unions, June 9, 2003, at www.icftu.org/list.asp?Type_ ALL&Order _ Date &Language _ EN&STEXT _ annual _ survey _ of _ violations .

[9 ] Child Labour Presentation, International Labour Organization, 2002, at www.ilo. org/declaration.

[10 ] China: Fujian Company Fined in Child Labour Case, BBC Monitoring Service, January 13, 2003.

[11 ] John Miller, Why Economists Are Wrong About Sweatshops and the Anti-sweatshop Movement, Ford School of Business, at www.fordschool.umich.edu/rsie/acit/Documents/Miller-Challenge.doc.

[12 ] Teresa Fabian, Supply Chain Management in an Era of Social and Environmental Accountability, at www.sustdev.org/journals/edition.02/download/sdi2_1_5.pdf.

[13 ] Introduction to Corporate Social Responsibility, BSR White Papers , May 2, 2002, at www.bsr.org/BSRResources/WhitePaperDetail.