Beyond Compliance

A new breed of managers take on environment, health, and safety issues in Chinese factories.by Matthew DeGrootFor decades, one of the biggest challenges facing companies that source products from China has been ensuring that their supply chains are clean, fair, and safe for workers and the planet. Companies are regularly forced to defend themselves from accusations that overseas supply factories employ unfair labor practices, pollute indiscriminately, or skimp on product quality. Corporate leaders have learned that they ignore these issues at their peril. Incidents involving child labor, factory fires, and chemical spills can result in lasting human and environmental costs, and permanently damage a brand’s reputation and credibility.

The early response to this responsibility challenge was simple and direct: Police the supply chain. Beginning in the mid-1990s, international companies started drafting “codes of conduct” for Chinese suppliers that established minimum standards for things like air quality, fire safety, and over-time limits—sometimes referred to as environment, health, and safety issues (EHS). To comply, they reviewed supplier EHS performance annually. Now, almost every multinational company sourcing products from China has some kind of supplier compliance and evaluation program in place, each spending millions of dollars a year in auditing and remediation costs.

In the meantime, however, something unexpected happened on the way to managing reputational risk. A few multinational companies discovered that when suppliers comply with EHS standards it doesn’t just reduce liability; it offers positive and measurable advantages in efficiency, affordability, and product quality across the value chain. This realization has slowly changed the way a handful of leading supply chain managers and corporate leaders think about EHS in the supply chain—not as a risk to be managed, but as an opportunity to be leveraged.

This idea is driving a critical rethinking of the prevailing “code and audit” approach. Even well-developed audit programs often do not do enough to prevent violations because they do not change basic behavior. Increasingly savvy suppliers have learned to provide the appearance of compliance without addressing root causes. Getting suppliers to internalize EHS and manage it effectively requires more than basic standards and inspections. It requires a fundamental change in thinking about production, resource efficiency, and the factory’s role in the community—and in the world. Ultimately, it requires a new breed of 21st century managers, champions capable of motivating and enabling suppliers to join their international partners in driving continuous improvement in EHS performance.

The value of EHS

Even leading brands once viewed compliance as a sunk cost, the price of doing business in an increasingly regulated business climate. The idea of compliance conjures pictures of safety and environmental engineers with clipboards and checklists, hairnets and repetitive motion studies, costly wastewater treatments, and emissions controls. Companies might have to pay to comply with legal requirements, but they did not usually go above and beyond the letter of the law.

In a competitive business climate, no aspect of business operations can escape the search for efficiencies and added value for long. Managers started noticing that some of the obvious benefits of EHS performance—using resources more efficiently, identifying less-costly-to-dispose-of chemicals, reducing lost work time due to injuries—had a far greater impact on a company’s bottom line than they expected. Reducing lost work time does not just lower replacement and turnover costs, it also increases worker productivity and improves retention of a company’s most valuable employees. Eliminating harmful air and water emissions does not just reduce the risk of fines, it can also create stronger and more positive ties to local officials and the surrounding community. Over time, managers began to uncover the hidden or intangible benefits of improving

EHS performance and overall business sustainability. Leading brands quickly saw the links between EHS compliance and product quality. Lee Scott, then-CEO of Wal-mart Stores, Inc., referenced this link in his remarks at Wal-Mart’s 2008 Sustainability Summit in Beijing where he launched the company’s new initiative to make purchasing decisions in China based not just on price, but on the EHS performance of suppliers.

“Meeting social and environmental standards is not optional,” Scott said at the summit. “I firmly believe that a company that cheats on overtime and on the age of its labor, that dumps its scraps and its chemicals in our rivers, that does not pay its taxes or honor its contracts, will ultimately cheat on the quality of its products. And cheating on the quality of products is the same as cheating on customers.” Like other leading companies such as Adidas AG, General Electric Co., H&M Hennes & Mauritz AB, and Hewlett Packard Co., Wal-mart was putting its Chinese suppliers on notice that EHS performance was no longer an afterthought in the company’s purchasing decisions. Companies that could not make the cut would no longer be Wal-mart suppliers.

The potential benefits of improving supplier EHS performance for these companies, which use thousands of suppliers in China, are enormous. Take GE, for example. “Our supplier auditing team has reviewed 3,000-plus Chinese suppliers since 2002 in an effort to help address the labor, health, safety, and environment challenges facing Chinese small and medium enterprises,” says Qin Zhigang, GE’s EHS director in North Asia. “Building the capacity of Chinese suppliers to comply with EHS laws and regulations is critical.”

Looking for a few good managers

Over the past decade, the PRC government has instituted ambitious targets for increasing energy efficiency, reducing air and water pollution, improving worker health and safety in its factories, and lowering greenhouse gas emissions. Pressure from a rising middle class combined with international scrutiny has led China’s leaders to consider the harmful effects of production domestically and on the global environment. Air and water standards, in particular, have become more stringent and penalties for noncompliance more severe. Faced with serious acid rain challenges, for example, China instituted new policies and penalties to control the emission of sulfur dioxide, and managed to reduce these emissions by 13 percent between 2006 and 2009.

Since the proliferation of new standards in China has been both profound and relatively recent, finding skilled Chinese managers who are familiar with these regulatory requirements and capable of complying with them can be difficult. As a result, even when international companies audit their suppliers and demand improvements, follow-through can be spotty or cosmetic at best. A few years ago, companies like GE, Wal-mart, and Adidas came together to look at this problem and identify innovative new strategies for overcoming it. At a workshop in Shenzen, Guangdong organized by GE and the Institute for Sustainable Communities (ISC), senior managers from these and other multinational companies identified a critical barrier to improving supply chain EHS performance—a significant lack of training programs in China aimed at producing the kind of skilled Chinese managers capable of driving positive change in their enterprises.

“Systemic change requires effective champions, managers who understand not just the technical aspects of EHS, but also how to convince enterprise owners and financial managers to invest in EHS improvements,” says George Hamilton, president of ISC.

The marriage of technical skill with management savvy is paramount. Understanding the chemical makeup of industrial waste discharge and its potential impact on the environment are important technical skills. But technical efficiency alone is not enough for a manager to make progress in reducing a company’s environmental impact, to make a compelling case for alternative solutions, and to secure the buy-in of decision-makers and entry-level workers. EHS management skills are in short supply in China, and international brands looking to identify and pursue meaningful EHS improvements in their supply chains find it difficult to gain ground.

In response to this challenge, in 2008 ISC, GE, and their corporate and Chinese partners established a new Environment, Health, and Safety Academy in Guangdong Province (see The EHS Academy). Trainees of the EHS Academy are equipped to drive systematic improvements in their enterprises’ EHS performance, energy use, and carbon emissions.

For instance, Yu Yang, an EHS Academy graduate working for Fortune Electric (Wuhan) Ltd., engaged the leadership of key departments across his company to institute a routine EHS evaluation program. Fortune department managers now conduct weekly evaluations, and communicate all findings and corrective actions with plant employees via public bulletin boards. This systematic approach led to significant improvements in EHS performance. From 2005 to 2009, Fortune’s measurement of lost time due to worker injuries increased steadily, but after Yu implemented the EHS evaluation program this rate fell dramatically.

Other achievements followed. By monitoring and managing its air emissions more effectively, Fortune reduced its atmospheric carbon output from 752 tons in 2009 to 610 tons in 2011—a 19 percent reduction in just two years. Fortune has also invested in facility upgrades to separate and improve its treatment of solid wastes, and to reduce leakages of oil and other chemicals used in its machinery. In 2010, GE highlighted Fortune as a model factory at its annual supplier summit.

Looking ahead—EHS 2.0 and beyond

Multinational companies are transforming the way they do business in China. Rather than focusing exclusively on suppliers who charge the lowest prices, brands increasinglyrecognize the value of helping suppliers improve their EHS performance, increase energy efficiency, and reduce carbon emissions. New training programs are providing managers with the skills they need to drive positive change.

Perhaps most encouraging of all, the Chinese government itself is supporting and joining efforts to improve EHS compliance in its factories. Officials from the Guangdong Bureau of Work Safety and the Guangdong Environmental Protection Bureau—agencies with regulatory and enforcement oversight of EHS compliance—have sought out and paid for training in significant numbers. Even more significantly, the Guangdong Bureau of Human Resources and Social Security, which oversees all professional certifications in the province, has invested its own resources in the development of a new protocol for the certification of qualified EHS managers, the first of its kind in China. This protocol is based on the EHS Academy curriculum, and the academy team contributed directly to its development. Currently being piloted at the provincial level, the corresponding national-level Ministry of Human Resources and Social Security in Beijing has expressed interest in adopting this protocol once approved in Guangdong. This development is critical to driving greater awareness of and interest in EHS as a profession, and in establishing quality EHS management as a routine component of doing business in China.

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The EHS Academy

Working with one of the most prestigious business management schools in China, Lingnan (University) College at Sun Yat-sen University in Guangzhou, the Institute for Sustainable Communities (ISC) and its partners established the first-ever Chinese-owned and -operated industrial training center focused on EHS performance—the EHS Academy. The EHS Academy was initiated through a public-private partnership between the US Agency for International Development and several private foundations, including the GE Foundation, the Walmart Foundation, the Citi Foundation, Adidas AG, SABIC Innovative Plastics, and Honeywell, Inc. The multinational companies also contributed funds to underwrite the academy’s development, and donated their internal, industry-leading environment, health, and safety (EHS) training materials and management tools to the effort. Working with representatives from these companies, ISC and Lingnan synthesized this material into an EHS curriculum for practicing factory managers at a fraction of the cost of comparable trainings offered by traditional international consulting firms. ISC also added energy and carbon management courses to create a more well-rounded curriculum for enterprise sustainability. Since the launch of training activities in 2009, the academy has educated more than 3,500 managers on job safety analysis, hazard risk and recognition, and clean production. Based on this success and with additional support from the GE Foundation, Pfizer, Inc., and the Alcoa Foundation, ISC launched a second EHS Academy in Jiangsu province, just west of Shanghai, in 2010.

Improvements commonly cited by EHS Academy graduates include using new tools and methodologies to assess EHS hazards and risks; implementing systematic incident analysis procedures to handle work injuries and identify root causes; delivering factory-wide trainings and performance guidelines; developing emergency management plans; improving energy, carbon, and resource management; redesigning procedures and requirements for chemical storage; and instituting new safety guidelines for machine operation.

By establishing a local source of high-quality, low-cost EHS training in China, the academy makes it easier for factories to comply with international and Chinese standards, and become more constructive players in helping China build a more sustainable economy. More than 200 international brands have now encouraged their suppliers to attend academy courses as part of their supply chain engagement programs.

Beyond China, the EHS Academy has brought direct benefits to the United States in a variety of ways as well. By motivating and equipping Chinese suppliers to comply with international standards, rather than take advantage of China’s historically lax labor and environmental regulations, the EHS Academy helps level the playing field for US manufacturers. Through its energy and carbon management initiatives, the academy helps US companies with industry leading energy products and services to improve their access to market opportunities in China. The academy is also helping position China to fulfill its international commitments on environmental performance and carbon emissions, and reduce the environmental impacts of Chinese industrial production on US air and water quality.

The academies have trained thousands of managers already. They are on track to achieve financial independence and help launch China’s first-ever EHS professional certification.

—Matthew DeGroot [/box]

[author] Matthew DeGroot ([email protected]) is the Asia program director at the Institute for Sustainable Communities. He is based in Shanghai. [/author]