Disney case highlights China supply chain pitfalls

By John Ruwitch

SHENZHEN, China (Reuters) - In his dim two-room flat, Huang Renzhong showed a visitor a Mickey Mouse statuette and explained how creating Disney figurines during 15-hour work days in a grim factory led to a $90,000 lawsuit.

The circumstances surrounding the case Huang filed with four colleagues last year suggest that firms such as the Walt Disney Co that outsource production to licensees are more exposed to poor labor practices than companies with more direct control over their supply chains, despite concerted efforts to stamp out labor violations.

Conditions in the factory where Huang worked in Shenzhen, a boomtown across the border from Hong Kong, were tough, and for years Disney did not even know its branded products were being made there. Huang said about 80 percent of his work was Disney-related.

Workers were threatened with the sack if they paused, even to help someone who'd fainted, Huang said. They had no insurance, slept 12 to a dorm room, and were charged for room and board.

During five years at Haowei Toys, Huang often worked from 8 a.m. until 11 p.m., or later, with breaks.

"We worked extremely long hours, but the amount they paid us was too little," said, Huang, 39, puffing on a cigarette.

Huang and four other craftsmen decided to act after hearing media reports of workers who had won back-pay cases.

In February 2007, they quit Haowei and, after fruitless talks with the boss, sued the district labor bureau claiming it had failed to help recover what they calculated to be about 650,000 yuan ($90,310) in unpaid overtime.

Haowei has said it owed them nothing, and the labor bureau says it did all that it legally could to help them.

They launched their case after one of the workers found contact details on the Internet for a Hong Kong NGO that monitors labor violations in China. They also called a newspaper, the Legal Daily, which wrote about them.

Cases like Haowei -- and recent product safety scandals and toy recalls -- underscore challenges multinationals face as they struggle to control their supply chains in a country where law enforcement is spotty, the labor pool is vast and fickle, and wages and raw material costs are rising sharply.

WORK CONDITIONS

Disney said it did not learn about the latest problems at Haowei until May.

It wasn't the first time the No. 3 U.S. entertainment company had heard such allegations: like many high-profile firms, Disney has been dogged by anti-sweatshop crusaders for years.

Since 1996, it has set guidelines and monitored working conditions and schedules, pay and benefits, environmental and safety rules, non-discrimination and group bargaining rights.

Over the past decade, the company has performed countless audits and has collected data on 40,000 factories around the world to track potentially systemic problems and to eliminate troublesome facilities from its supply chain.

Affiliates get "three strikes" to comply before Disney revokes approval to produce its merchandise.

"We remove authorization on a regular basis because we take this seriously," said Mark Spears, Disney's director of international labor standards.

But while the tough audit regimes upon which many Western companies base their compliance efforts may look good on paper, experts say they don't solve the core problems.

"The comply-or-die audit model has outlived its usefulness," said Ian Spaulding, a private consultant and a former Director of Sears global compliance efforts.

"While some workers have seen an improvement as a result of compliance efforts, unfortunately, far too many have not seen the kind of impact that the audit model promised."

A robust underground cottage industry, replete with consultancies and cheat-sheets, has emerged in China to help factories pass audits even if they don't comply.

Add a layer of licensees between the brand and the manufacturers, like Disney and others, including Time Warner's Warner Bros and Viacom's Nickelodeon, and simply tracking who is making products in your name can be challenging.

"Supply chain compliance is a difficult and challenging question, and anybody who has an outsourcing model has a lot of challenges," said Jeremy Prepscius, of the group Business for Social Responsibility. "It's a question of influence."

For the most part, Disney does not directly manufacture the goods, which range from toys to foods to home furnishings, that bear its trademarked characters.

The company generated $2.3 billon in 2007, about 10 percent of its total revenues, in fees from granting manufacturing rights for its products to thousands of licensees.

Disney officials declined to say how many licensees the firm uses, or how many factories produce Disney-branded products, but experts say it has one of the longest supply chains in the world stretching to thousands of factories worldwide.

Haowei underscores the pitfalls.

A Disney licensee had manufactured toys legitimately at Haowei in the past, but Disney told them to cut ties in 2001 after the factory failed three times to meet standards.

The licensee, however, continued to give Haowei business under Disney's radar.

SOCIAL COMPLIANCE

When Disney learned of the problems at Haowei Toys, rather than move its business elsewhere and put hundreds of workers out of jobs, it tried to mediate with the factory to improve conditions as part of a corporate social compliance policy.

Disney has carried out a number of initiatives in recent years, including setting up testing programs in Chinese factories to encourage sustained compliance with labor codes and pioneering a partnership with a Hong Kong NGO to run worker complaint hotlines in some factories in China, including Haowei.

"They've come a long way from not knowing to a more hands-on approach, but that wasn't just Disney, that was Wal-Mart, that was GAP in the mid-1990s," said David Schilling, corporate accountability director at the Interfaith Center on Corporate Responsibility.

Disney was also considering a letter grade system to give factories an incentive to move "away from absolute compliance to an ongoing effort to comply," Spears said.

But problems still slip through the cracks lower down in the supply chain.

"I think we can fairly say we have seen some real improvement over the last 10 years," Schilling said. "There are still systemic issues that monitoring can't address."

For the time being, Disney has no plans to change the licensing business model that makes its supply chain so tangled.

($1 = 7.184 yuan)

(Additional reporting by Gina Keating in Los Angeles, editing by Megan Goldin)