Business Best Practices
Multinational corporations have experienced withering criticism for employing children in Asian factories. On the surface, this practice appears to be unethical. But is it?
When we study supply chain management, I engage my students in a discussion of this topic. Here is the scenario:
Industrial size textile factory in developing country, workers on lunch break
“Major corporations with overseas subcontractors (such as Ikea in Bangladesh, Unilever in India, and Nike in China) have been criticized often with substantial negative publicity, when children as young as 10 have been found working in the subcontractor’s facilities. The standard response is to perform an audit and then enhance controls so it does not happen again. In one such case, a 10-year-old was fired. Shortly thereafter, the family, without the 10-year-old’s contribution to the family income, lost its modest home, and the 10-year-old was left to scrounge in the local dump for scraps of metal.” —adapted from Principles of Operations Management
A student of mine from India said that the decision to hire the child was ethical; and the judgment to fire him was unethical. My student defended his position by stating that Americans do not understand the depth of poverty in India. In many circumstances, families rely on child labor, so that the family can survive. When he grew up, there was no compulsory education, so working did not deprive Indian school-age children from going to school. [In 2009, the Indian parliament legislated a compulsory education law for elementary school children.] Other students of mine who have grown up in developing countries—such as China and Bangladesh—have agreed with this line of reasoning.
After all, during the 19th century, the U.S. was once a developing country. For many years, we condoned the practice of employing children in the workplace. Once our standard of living improved—and universal, public education became a realistic objective—we passed child labor laws that prohibited this practice. So, in the present, does showing outrage at Ikea, Unilever and Nike amount to hypocrisy?
It is useful to examine public policy decisions through the lenses of utilitarianism. This philosophy states that, in all situations, you should act in a way that generates the greatest benefit for the greatest number of people. Everyone’s interests are considered equal. Thus, if utterly poor families are only able to survive when the children can work, it is unethical to prevent them from doing so. By permitting child labor, we are promoting the greatest good for the greatest number of people. The family remains intact as a result of the income received, while U.S. and European consumers obtain inexpensive goods from their retailers.
Although the philosophical justification for child labor is convincing, major corporations cannot withstand the negative publicity associated with these practices. Just this week, Apple indicated that they are going to have an independent firm audit its suppliers, because of criticisms over conditions at its overseas factories. So, from a public relations perspective, not a moral perspective, we cannot condone this practice.
Several years ago, Nike initiated a compromise solution. Children worked in their Vietnamese factories, but the company also provided them with food and a free education.
Do you think that it is ethical to employ underage children in factories located in developing countries? If a multinational corporation also provided educational opportunities, would that be acceptable?
The supply chain in China, including thousands of mainland factories, is reeling from a 13.6% increase in the minimum wage, as reported yesterday by CNBC. As a result, the lowest salary is being pushed up to 1,500 yuan or $240 per month. The increase was caused by a series of strikes that occurred around the Pearl River Delta, a major Chinese industrial center.
Chinese export manufacturers in the Hong Kong area expect that the increase will result in the downsizing—or complete closing—of 1/3 of Hong Kong’s 50,000 factories in China. These suppliers are critical links in the supply chain that stretches all the way from China to Europe and the U.S. In addition to the wage increase, another reason for the anticipated decline in Chinese production relates to the general downturn in global economic activity.
The gap between U.S. labor costs and Chinese labor costs is narrowing. In fact, a recent article in the New York Times described how GE is bringing back jobs to the U.S. at GE’s Appliance Park in Louisville, KY. In return, the union agreed to a two-tier labor structure, where the U.S. employees who are hired will be paid $10 to $15 per hour less than what the current union workers are making.
Let’s do the math. The offshore jobs that are being backsourced to GE’s Appliance Park will result in U.S. workers making between $20,000 to $38,000 per year. The workers in China, who will receive the 13.6% increase in their minimum wages, will be making $2,880 per year. Thus, G.E.’s workers will be paid approximately 700 to 1,300 per cent more than their Chinese counterparts. Jeffrey Immelt, GE’s CEO, is spearheading the U.S. government’s campaign to bring jobs back to the U.S. Are these new, Appliance Park jobs being brought back because of lower labor costs? Or, are political factors affecting the decision?
As discussed in an interview with a U.S. manufacturing executive who lived in China for 13 years, global manufacturers who are looking to minimize their labor costs are locating factories in Viet Nam, not China. This strategy—chasing every cent of labor savings—requires rejiggering the supply chain every few years. Vietnam’s minimum wage is only US$85 per month (or $1,020 per year). Thus, Chinese workers are paid 282% more than Vietnamese workers.
Although the labor differential gap between the U.S. and Asian countries is narrowing, it is still significant. Offshoring will continue to be attractive to firms with products that have
- High labor content
- Large Production volumes
- Low variety
- Low transportation costs
Products that meet these criteria—such as electronics assembly—will most likely never return to the U.S. Furthermore, in certain industries—for example, in computer and cell phone production—most of the companies that comprise the supply chain are situated in Asia. Given this reality, moving production to the U.S. would be uneconomical. In these industries, hoping for backsourcing to happen is like waiting for an airplane to touch down that is simply not going to land [on U.S. shores].
In conclusion, the key determinant in terms of where to produce is based on total cost, not just labor cost. One must begin by looking at the manufacturing process to determine where the most economical location is. Although China’s increase in its minimum wage is significant, it is just one of many factors to consider.
What do you think? Is there a future for manufacturing in the U.S.? Given the labor differential between China and the U.S., do you think that we can still compete?
There is a glaring lack of ethics in terms of Apple’s supply chain management practices, as suggested by the New York Times. Many Asian suppliers are violating basic ethical principles. Here are some of the questionable practices cited:
- Horrendous occupational safety violations
- High suicide rates due to stressful working conditions
- Long working hours: repetitive 60-hour, 7-day weeks
- Employment of children as young as 15 years-old
Although Apple has responded to problems in its Asian supplier base by conducting supplier audits, the worlds’ largest company—in terms of stock market value—has been reluctant to put its foot down. The fate of a 22 year-old college graduate, Lai Xiaodong, is a case in point. He moved to Chengdu in southwest China to take a job at Foxconn, an electronics supplier that employs 1,000,000 people. He was quickly promoted to oversee a team that polished iPad cases. This process 
generated dust, which is a known safety hazard. Mr. Lai and 3 teammates died from a ghastly explosion, which also injured 14 other workers. After the accident, which seared 90% of Mr. Lai’s body, Apple contacted “the foremost safety experts in process safety,” and assembled a team to make recommendations to prevent future accidents. In December, 2011—7 months after Mr. Lai was killed—another iPad factory exploded due to aluminum dust. As a result, 59 workers were injured; and 23 hospitalized.
I was initially shocked after reading about the story of Mr. Lai, and Apple’s apparent lack of commitment to correcting poor worker-safety practices. Although allowing unnecessary accidents—resulting in worker injuries and deaths—cannot be condoned, we must take a more nuanced view regarding Apple’s predicament, from both a historical and cultural perspective.
In a supply chain management class that I recently taught, we discussed the ethics associated with the use of child labor in developing countries. One of my students grew up in India. He indicated that poverty in India is severe, and compulsory education is not mandated by law. To survive in this environment, some families require that their children work. Were we to impose our ethical values and prevent children from working in Indian factories, we would be depriving Indian families of sorely needed income. It is easy—but wrong-headed—to believe that our ethics and moral values are superior to the moral values held by other societies.
The reasons against using child labor are not moral as much as they are practical ones. It is bad business to permit children to build Apple’s products, if young people are simply being used as a means to an end. Consumers in the west will no longer think that it is “cool” to own i-Phones, if they have been built by Chinese teenagers. How many parents would want to be part of a 21st scene, taken from a 19th century Dicken’s novel?
In Viet Nam, Nike has implemented an innovative solution to this dilemma. Although some of Nike’s Vietnamese suppliers employ children, they also provide employees with a regular wage, free or subsided meals, free medical services and training and education. Nike, as well as western consumers, benefit from low labor costs. At the same time, the workers improve their standard of living and also receive access to education.
Regarding the various safety issues that were described by the New York Times, one has to put them into a cultural context. I recently interviewed an executive who lived in China for 13 years, setting up factories and growing American businesses. During the course of our conversation, he made the point that public safety is non-existent. When walking down the street, you have to always be on the lookout for possible hazards. There may be a big hole in front of you, which is not blocked off with barriers. Or, there could be an electrical wire dangling at eye-level. If unaware, you could walk right into it. If a lack of public safety is the norm in China, how can one expect the private sector to be any different? Would we be correct to impose our ethical standards—as relates to public safety—onto the Chinese? Specifically, should we preach that barriers should be placed in front of Shanghai’ s sinkholes?
Getting back to Apple, from a business perspective, the company must enforce strict, safety practices for all of its suppliers; otherwise, more articles—such as today’s scathing indictment in the New York Times—will appear, tarnishing Apple’s brand. Only by adding teeth to Apple’s supplier responsibility reports and recommendations, will the company avoid future, public relations disasters.
In conclusion, with global competition, superior supply chain management results in consumers receiving products at low prices. But our western ethical tastes are repulsed at stories of worker abuse. Apple must take strong, corrective measures against suppliers who use workers solely as the means to an end, namely, achieving low, production costs. In supply chain management, good ethics makes for good business.
Interview with James L Waite who set-up factories and grew American businesses in China
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Interview by TIM MOJONNIER
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You lived in China for 13 years. When did you live there? I arrived in January 1997 and returned to the U.S. in November 2010, with occasional trips back to the U.S. During my time in China, I spent 8 years in the Shanghai area, and the balance in the south, Guangdong area.
What was it like living in China for all those years? What were the biggest challenges in adapting to the local culture? Initially, my wife and I felt uncomfortable going into the streets, and shopping by ourselves. Because we were foreigners, the prices were higher and the Chinese way is to negotiate for everything. We also had to acclimatize ourselves to being long term expatriates (expats). Most expats typically live in a country for 2-3 year assignments. Since we lived in China for over a decade, we always had to make new friends. In addition, dealing with a translator was a challenge, because the translator would just translate the words, but not the meaning. Furthermore, the Chinese do not always speak their mind, and they do not speak directly. After being there several years we were able to understand the meaning of Chinese conversations. We also learned how to communicate basic things and feel comfortable shopping in local open air markets and moving with the flow in the crowded streets. In conclusion, once we got over the initial shock of living in a different culture, we realized that the Chinese are a warm people, who enjoyed being around Americans, in part because it provides them with an opportunity to practice their English. Chinese business people are all educated and very smart. It was a pleasure working with them, and we have developed many friends who visit us when they pass through Chicago.
What did you do before you lived in China? After graduating from the university, I worked in the Chicago area for 7 years in construction and design engineering. Later, I held manufacturing management positions such as V.P. Manufacturing and General Manager. I was employed in industries that produced air pollution control equipment, pumps, industrial testing equipment, laboratory testing equipment, etc.
What did you do during your stay there? I had three primary engagements. First, I managed a joint venture between an American ball valve manufacturer and a Chinese company. The assignment entailed overseeing the relationship between the two organizations as well as running the business. Second, for Sloan Valve Co., a global manufacturer and distributor of flush valves and faucets for high end commercial buildings, I developed a business plan that described a strategy to enter the Chinese market selling American products in the China market. The plan was funded, and I started up the operation in China, where I worked for 6 years. Third, I worked for Weber-Stephens, establishing a supply chain management company. The focus was on finding suppliers, qualifying suppliers, and monitoring their performance. I traveled to many places in China for all 3 companies, and gained an understanding of what products are made in various locations and the Chinese customs to do business.
Given ever increasing levels of inflation and local labor rates as well as the appreciation of the Renminbi, is China still an attractive country to outsource production to? If so, why? $1.90 per hour is the highest Provence minimum wage (Guangdong Providence), which includes all of the employer costs to put an employee on board. However, the City of Shenzhen recently announced increases for the minimum wage effective starting Feb. 2012 = $2.17/hour including burden. Skilled Chinese workers can command more. Still, outsourcing work to China provides a manufacturer with significant labor savings, but you need to have the correct strategy for why you are doing business in China. Companies trying to penetrate the local market have the best opportunity. The Chinese like western products; they desire the things and life style we have. Look at Apple’s phones; they had a sale on their latest model and the demand was so great that they cancelled the sale, and shut shops down. Demand for these types of products is unbelievable. But outsourcing labor-intensive work to China—while developing channels to enter the local Chinese market—is not an easy thing to do. However, the return can be great. Finally, if you are only focused on reducing labor costs, then outsourcing work to places like Viet Nam may be a better option. However, this strategy involves chasing a few cents savings and moving to new factories or new vendors every few years.
What are the main challenges associated with running a business in China? That’s a big question. It depends on whether you are just sourcing components from China or making product for the local Chinese market. If you are only manufacturing and exporting, then quality is especially important. Also, retaining good employees is always a challenge, especially given wage inflation. Pirating good employees is an issue. You need to have cultural sensitivity, understanding what people expect from an employer. Having a first-rate Human Resources policy and activity is important in order to retain good employees. Also, it is very difficult for small manufacturers. The Chinese think that bigger is better. They believe that it is better to work for a big company, which is especially an issue when dealing with the government. The bigger the company, the greater the likelihood that officials will work with you. If you are a small guy, it is difficult to attract their attention.
What are the main opportunities associated with running a business in China? For the years 2007, 2008, and 2009, the American Chamber of Commerce in Shanghai and Booz & Co. conducted a survey of about 1,000 manufacturers to understand why they came to China. The following is a list of the major reasons, ranked from most important to least important:
- 83%: Access to the local Chinese market
- 66%: Labor cost savings
- 51%: Access to the broader Asian market—having a business in China provides you with
the ability to export to other Asian countries without import duties - 44%: Material savings
- 41%: Strategic move against key global competitors
In November 2011, you returned to China for a month. How have things changed since you were last there? Previously, China put a lot of effort in infrastructure projects, but at the time I left, there was a downturn in this activity. I was surprised to see a great amount of construction still going on. Housing prices are finally coming down, enabling the middle class to buy their own apartments. Business in general is just booming; people are busy, hustling, you can just feel the energy in the streets. You don’t feel that here [in the U.S.] at all. Nevertheless, the Chinese business people are concerned. Previously, the economy was growing at a 10 % clip, but it has slowed to 7% projected GDP growth in 2012. However, the government is committed and will make the 7% growth happen. Inflation has increased, and there is concern about an anticipated leadership change in the highest levels of government.
What does your firm do?
Ops-Asia helps businesses to be successful in Asia and/or the U.S. We focus on small to mid-sized companies that don’t have the resources to do this type of activity. The primary market segments served are industrial products, building materials, household appliances & automotive components. We assist firms in 4 areas: business development, operations competitiveness, project management, and supply chain management.♦
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James L. Waite is President of Ops-Asia, which has offices in Shanghai, China and Northbrook, IL
The Battle Between Asian Rivals
Honda and Toyota have fallen down in three areas: New Product Development, Total Quality Management, and Supply Chain Management. As a result, they have lost market share to their Korean competitors: Hyundai and Kia. Honda’s profits dropped by 56% for the quarter ended Sept. 30, according to an article in yesterday’s Wall Street Journal. Also, their U.S. market share has declined by 1% over the past year. Since 2008, Toyota has lost 4.5 percentage points in U.S. market share. In contrast, Hyundai’s (and Kia’s) U.S. market share has increased, from 1% in 1999 to approximately 9% in 2011.
Once, Honda and Toyota were both considered the gold standard in terms of automotive excellence. In the case of the latter company, U.S. executives traveled to Japan in order to understand the secrets of its highly touted, Toyota Production System. But no more.
In the following three sections, I will describe how Japan’s formidable competitors have lost ground to their Korean adversaries.
1. New Product Development
Since Apple ranked #1 in the Boston Consulting Group’s 2010 survey of the worlds most innovative companies, let’s examine Apple’s formula for success. A sleek look and feel—in addition to ease of use—is what distinguishes the company’s products. Steve Jobs indicated that beauty—not novelty—was the highest value. Design, as it were, is an intangible and emotional subject. So, let me share with you my personal experience relating to Honda’s automotive designs.
Our family currently owns two Honda’s: a 1999 Odyssey, and a 2007 Accord. In addition, my wife has owned several Toyotas. We are big Honda and Toyota fans. This fall we were in the market for a new car, so I test-drove Honda’s small SUV: the CRV.
A Boxy 2011 Honda CRV Small SUV
It felt solid and sturdy, but the styling was boxy and dowdy. Immediately afterwards, I drove a Hyundai Tucson.
Not only was the styling beautiful, but also the interior of the Hyundai was contemporary and ergonomic. Although Honda is introducing a new 2012 version of the CRV in the near future, I wondered how could Honda’s management allow the company to become a design follower rather than the design leader?
A Sleek 2011Hyundai Tuscon Small SUV
Incidentally, I test-drove a Kia (sister company to Hyundai) family SUV: the Sorento. In contrast to the Honda CRV, driving the Sorento was delightful. Several years ago, Kia hired Peter Schreyer, formerly Audi’s top design engineer. The Sorento’s Germanic solidness and craftsmanship showed during the test drive. The price was right as well. Ultimately, my positive emotional experience resulted in my buying a Sorento.
Another example of Honda design issues relates to last months introduction of the new, 2012 Honda Civic, which was widely panned in the press. Dan Neil, the Wall Street Journal’s auto writer, said it all: “The redesigned 2012 Honda Civic…is a dud. A Sham. A shud. Massive fail, LOL.” A salesperson at a local Honda dealer said this: “I could not believe it. The 2012 Honda Civic lacked basic features such as Bluetooth.” As a result of the criticisms received, Honda is responding by rushing a mid-cycle, re-design of the Civic to the market.
In the past, Korean car designs were neutral. It was difficult to tell the difference between one model and the equivalent Japanese car. Now, Hyundai’s design prowess is leaving the two largest Japanese producers in the dust.
A 2012 Kia Sorento Family SUV
Superior design is one of the reasons why Hyundai and Kia have increased their U.S. market share at the expense of their Japanese competitors. Honda needs to restructure its design group, beginning by bringing in a new design czar, who will oversee the creation of products that delight customers.
2. Total Quality Management
Akio Toyoda, CEO and grandson of Toyota’s founder, has acknowledged that his firm chased market share over quality during the last decade. The result has been a car wreck: from 2008-2010 Toyota recalled over 10 million cars. Although Toyota has taken measures to shore-up its quality shortcomings, quality is all-about perception. And the chickens are now coming home to roost: During the last three years, Toyota’s U.S. market share has declined from 16.5% to 12.5% (2011).
In contrast, the Koreans’ quality has risen substantially. This year, Hyundai and Kia ousted mainstays Honda and Toyota to take the #1 spot in customer loyalty. The Sonata–Hyundai’s newly designed mid-sized sedan–won Road & Track magazine’s 2011 International Car of the Year award. In addition, Hyundai and Kia provide a standard 5 year/60,000 mile bumper-to-bumper warranty, whereas Toyota and Honda offer only a 3 year/36,000 mile bumper to bumper warranty, There is a new sheriff in town.
3. Supply Chain Management
Toyota’s and Honda’s supply chain network needs to be re-evaluated and reengineered. There are two primary reasons for this.
First, the appreciation of the yen vis-à-vis the U.S. dollar has penalized production in Japan. Profitable automobile manufacturing there has become difficult at best, impossible at worst. There are several ways of dealing with the fluctuating exchange rates as well as with the appreciation of the yen:
a) Develop robust forecasting models for predicting short term and long-term exchange
rates.
b) Hedge currencies to neutralize the effect of fluctuations.
c) Offshore assembly/production of automobiles to lower cost countries and/or to countries
where the currency is depreciating. For example, Kia now produces its Sorrento in Georgia, U.S.
d) Outsource components to suppliers in lower cost countries.
e) Create excess, flexible capacity so that production can be shifted in response to
intermediate term changes in foreign exchange rates.
Second, as advocated in a recent blog post, all automobile manufacturers must evaluate and re-think their supply chain networks to mitigate against the risk from natural disasters. Honda had 113 suppliers that were located in areas that were affected by Japan’s March, 2011 earthquake and tsunami. Shortly after the earthquake, the company was unable to establish contact with more than 40 of them. (Source: Autoweek). Currently, the introduction of the 2012 Honda CRV may be delayed due to the flooding of Honda’s auto plant in Thailand.
Although Just-in-time (JIT) inventory control—or lean operations—has been a dominant global operations strategy, some of its precepts need to be challenged. For example, some automotive companies have reduced the number of suppliers for critical components to a single-source. But when natural disasters cripple the component supplier, final assembly plants must curtail production; in some cases, they are forced to shutdown their operation.
This is exactly what happened during the Sept. 30 quarter. Due to supplier shortages of components and sub-assemblies, both Toyota and Honda had to curtail production. When shopping for cars this summer, a sales manager told me that a major Toyota dealer in the western suburbs of Chicago parked their cars diagonally, because they wanted to hide the fact that their inventory of new autos was less than 50% of what it should have been.
Unlike the Japanese, the Korean auto companies are less reliant on suppliers in Japan and Thailand. Thus, during the quarter ended Sept. 30, Hyundai and Kia did not experience component shortages due to the recent natural disasters.
In summary, there is a saying: “You cannot sell oranges from an empty cart.” If product is unavailable, regaining market share becomes impossible, and achieving acceptable levels of profitability amounts to a fiction.
Toyota and Honda can do a better job of evaluating—and modifying—their supplier networks in order to minimize risks. There are many risks that can affect the smooth functioning of a supply chain. The main threats that need to be dealt with immediately relate to natural disasters and currency fluctuations.
Conclusion
Honda and Toyota are both great companies. However, they have stumbled badly, and need to regain their footing. To right their teetering ships, they must radically reshape processes in three areas: New Product Development, Total Quality Management, and Supply Chain Management.
What other factors do you think account for Toyota’s and Honda’s misfortunes? What do they have to do to recover?
