Business News 2 October 2000

Wal-Mart's self-policing in the Chun Si factory was a disaster. What kind of monitoring system works?

Liu Zhang (not his real name) was apprehensive about taking a job at the Chun Si Enterprise Handbag Factory in Zhongshan, a booming city in Guangdong Province in southern China, where thousands of factories churn out goods for Western companies. Chun Si, which made Kathie Lee Gifford handbags sold by Wal-Mart Stores Inc. (WMT) as well as handbags sold by Kansas-based Payless ShoeSource Inc. (PSS), advertised decent working conditions and a fair salary. But word among migrant workers in the area was that managers there demanded long hours of their workers and sometimes hit them. Still, Liu, a 32-year-old former farmer and construction worker from far-off Henan province, was desperate for work. A factory job would give him living quarters and the temporary-residence permit internal migrants need to avoid being locked up by police in special detention centers. So in late August, 1999, he signed up.

Liu quickly realized that the factory was even worse than its reputation. Chun Si, owned by Chun Kwan, a Macau businessman, charged workers $15 a month for food and lodging in a crowded dorm--a crushing sum given the $22 Liu cleared his first month. What's more, the factory gave Liu an expired temporary-resident permit; and in return, Liu had to hand over his personal identification card. This left him a virtual captive. Only the local police near the factory knew that Chun Si issued expired cards, Liu says, so workers risked arrest if they ventured out of the immediate neighborhood.

HALF A CENT.

Liu also found that Chun Si's 900 workers were locked in the walled factory compound for all but a total of 60 minutes a day for meals. Guards regularly punched and hit workers for talking back to managers or even for walking too fast, he says. And they fined them up to $1 for infractions such as taking too long in the bathroom. Liu left the factory for good in December, after he and about 60 other workers descended on the local labor office to protest Chun Si's latest offenses: requiring cash payments for dinner and a phony factory it set up to dupe Wal-Mart's auditors. In his pocket was a total of $6 for three months of 90-hour weeks--an average of about one-half cent an hour. ''Workers there face a life of fines and beating,'' says Liu. Chun Kwan couldn't be reached, but his daughter, Selina Chun, one of the factory managers, says ''this is not true, none of this.'' She concedes that Chun Si did not pay overtime but says few other factories do, either. In a face-to-face interview in August, she also admitted that workers have tried to sue Chun Si.

Liu's Dickensian tale stands in stark contrast to the reassurances that Wal-Mart, Payless, and other U.S. companies give American consumers that their goods aren't produced under sweatshop conditions. Since 1992, Wal-Mart has required its suppliers to sign a code of basic labor standards. After exposes in the mid-1990s of abuses in factories making Kathie Lee products, which the chain carries, Wal-Mart and Kathie Lee both began hiring outside auditing firms to inspect supplier factories to ensure their compliance with the code. Many other companies that produce or sell goods made in low-wage countries do similar self-policing, from Toys 'R' Us to Nike and Gap. While no company suggests that its auditing systems are perfect, most say they catch major abuses and either force suppliers to fix them or yank production.

What happened at Chun Si suggests that these auditing systems can miss serious problems--and that self-policing allows companies to avoid painful public revelations about them. Allegations about Chun Si first surfaced this May in a report by the National Labor Committee (NLC), a small anti-sweatshop group in New York that in 1997 exposed Kathie Lee's connection to labor violations in Central America. For several months, Wal-Mart repeatedly denied any connection to Chun Si. Wal-Mart and Kathie Lee even went so far as to pass out a press release when the report came out dismissing it as ''lies'' and insisting that they never had ''any relationship with a company or factory by this name anywhere in the world.''

But in mid-September, after a three-month BUSINESS WEEK investigation that involved a visit to the factory, tracking down ex-Chun Si workers, and obtaining copies of records they had smuggled out of the factory, Wal-Mart conceded that it had produced the Kathie Lee bags there until December, 1999. Wal-Mart Vice-President of Corporate Affairs Jay Allen now says that Wal-Mart denied using Chun Si because it was ''defensive'' about the sweatshop issue.

Wal-Mart Director of Corporate Compliance Denise Fenton says its auditors, PricewaterhouseCoopers LLP (PWC) and Cal Safety Compliance Corp., had inspected Chun Si five times in 1999 and found that the factory didn't pay the legal overtime rate and had required excessive work hours. Because the factory didn't fix the problems, she says, Wal-Mart stopped making Kathie Lee bags there. Kathie Lee, who licenses her name to Wal-Mart, which handles production, concurred with the chain's action at Chun Si, says her lawyer Richard Hofstetter. Payless also stopped production there after an investigation, a spokesman says.

Still, the auditors failed to uncover many of the egregious conditions in the factory despite interviews with dozens of workers, concedes Fenton. Charges NLC Executive Director Charles Kernaghan: ''The real issue here is why anyone should believe their audits.''

A SECOND LOOK.

And it's not just Wal-Mart. The NLC's report, entitled Made in China, detailed labor abuses in a dozen factories producing for household-name U.S. companies (www.nlcnet.org). After it came out, bootmaker Timberland Co. asked its auditors to revisit its plant, also in Zhongshan. They found that the factory hadn't fixed most of the violations cited the first time, despite repeated assurances to Timberland that it had (table). Similarly, in mid-September, Social Accountability International (SAI), a New York group that started a factory monitoring system last year, revoked its certification of a Chinese factory that makes shoes for New Balance Athletic Shoe Inc. after auditors reinspected the plant following the NLC report. ''The auditors found that indeed there were many violations they had not picked up the first time,'' says SAI President Alice Tepper Marlin.

Because such efforts to reassure consumers have proven so unsatisfactory, a handful of companies, including Nike Inc. and Reebok International Ltd.--so far, the companies most tarnished by anti-sweatshop activists--have concluded that self-policing isn't enough. They--along with Kathie Lee--helped form the Fair Labor Assn., created in 1998 after a White House-sponsored initiative. The FLA now has a dozen members and is setting up an independent monitoring system that includes human rights groups.

Wal-Mart and many other companies, though, reject such efforts, saying they don't want to tell critics or rivals where their products are made. Yet without independent inspections, such companies leave themselves open to critics' accusations that self-policing doesn't work. ''The big retailers, such as Wal-Mart, drive the market today, yet...they're not committed to changing the way they do business,'' says Michael Posner, head of New York-based Lawyers Committee for Human Rights and an FLA board member. Wal-Mart's Allen says that after three years of talks, the company may soon set up independent monitoring with the Interfaith Center on Corporate Responsibility, a religious group in New York City.

Certainly, what happened at Chun Si illustrates the inadequacy of many labor-auditing systems in place today. Wal-Mart uses nine auditing firms, including PWC. Like other big accounting firms, PWC has a booming labor-auditing business inspecting many of the thousands of factories making toys and clothes made by Wal-Mart and other companies. After Kathie Lee's drubbing by sweatshop critics, she hired Cal Safety, a Los Angeles-based labor-auditing firm, to do separate audits of the factories that produce the clothing and accessories bearing her name. According to Wal-Mart's Fenton, Cal Safety inspected the factory four times from March to December of last year, and PWC inspected it once, in September. The auditors found that Chun Si had numerous problems, including overtime violations and excessively long hours, says Fenton.

But otherwise, concedes Fenton, the audits missed most of the more serious abuses listed in the NLC report and confirmed by BUSINESS WEEK, including beatings and confiscated identity papers. (Wal-Mart declined to allow BUSINESS WEEK to talk in detail to Cal Safety or PWC, citing confidentiality agreements. Randal H. Rankin, head of PWC's labor practices unit, insists his audit did catch many of the abuses found by the NLC, though he wouldn't provide specifics, also citing Wal-Mart's confidentiality agreement. Cal Safety President Carol Pender says her firm caught some, though not all, of the abuses.)

All the while, evidence was piling up at the local labor office in Zhongshan. There, officials received a constant stream of worker complaints--several a month since the factory opened 10 years ago, says Mr. Chen, the head of the local labor office, who declined to give his full name. ''Since they opened their factory, the complaints never stopped,'' he says. Officials would call or go to the factory once a month or so to mediate disputes, but new complaints kept arising, he says. Neither Wal-Mart's nor Kathie Lee's auditors discovered this history.

Chun Si also tried to hoodwink the auditors, according to the workers BUSINESS WEEK interviewed. After Cal Safety's initial inspection in March, 1999, Wal-Mart (through its U.S. supplier, which placed the order with the factory) insisted that Chun Si remedy the violations or it would pull the contract. Cal Safety found little improvement when it returned in June, as did PWC in September.

DOUBLE STANDARD.

Chun Si then took drastic steps, apparently in an effort to pass the final audit upon which its contract depended. In early November, management gave a facelift to the two attached five-story factory buildings, painting walls, cleaning workshops, even putting high-quality toilet paper in the dank bathrooms, according to Liu and Pang Yinguang (also not his real name), another worker employed there at the time whom BUSINESS WEEK interviewed in mid-September. Management then split the factory into two groups. The first, with about 200 workers, was assigned to work on the fixed-up second floor, while the remaining 700 or so worked on the fourth floor, leaving the other floors largely vacant. Managers announced that those on the fourth floor were no longer working for Chun Si but for a new factory they called Yecheng. Workers signed new labor contracts with Yecheng, whose name went up outside the fourth floor.

The reality soon became clear. Workers on the fourth floor, including Liu and Pang, were still laboring under the old egregious conditions--illegally low pay, 14-hour days, exorbitant fees for meals--and still making the same Kathie Lee handbags. ''It felt like being in prison,'' says Pang, 22. But those on the second floor now received the local minimum wage of $55 a month and no longer had to do mandatory overtime. A new sign went up in the cafeteria used by workers on all floors explaining that the factory was a Wal-Mart supplier and should live up to certain labor standards. Liu says there was even a phone number workers could call with problems: 1-800-WM-ETHIC. ''When we saw the Wal-Mart statement, we felt very excited and happy because we thought that now there was a possibility to improve our conditions,'' says Liu.

LAST STRAW.

Instead, they got worse. On Nov. 28, a second notice went up stating that starting on Dec. 10, all workers would be required to pay cash for dinner rather than just have money subtracted from their paychecks as before, say Liu and Pang. With up to 80% of workers already skipping breakfast to save money, the upper-floor employees were aghast, says Liu. ''If we had left the factory then, we wouldn't have had even enough money for a bus ticket home,'' he says. ''But if we stayed, we knew we wouldn't have enough money to eat.''

A group of workers, including Liu and Pang, met around a small pond on the factory grounds on one of the following evenings. They knew that workers had fruitlessly complained before to the local labor office. So they decided on a plan to smuggle out documents to prove Chun Si's illegal fees and subminimum wages. On Dec. 1, 58 workers overcame their fears of retaliation and marched out the factory gates, down to the labor office.

Faced with the throng of workers, local labor officials visited Chun Si and forced the factory to immediately pay the workers and return the illegally collected fees. But the officials also told these workers they would have to give up their jobs at Chun Si. Days later, some 40 labor officials returned, ordered Chun Si to properly register or shut down the so-called Yecheng factory, and fined the company about $8,500. Shortly after the blow-up, Wal-Mart ended production at Chun Si.

Kernaghan and other labor activists concede that Chun Si is an extreme example of working conditions in China today. Yet many experts think most factories in China producing for Western companies routinely break China's labor laws. Some Western companies' monitoring efforts do catch and fix some of these problems. But unless companies and governments alike take more serious steps, labor watchdogs will give little credence to company claims that they're doing the best they can.

By Dexter Roberts in Zhongshan and Aaron Bernstein in Washington