APPAREL INDUSTRY SUPPLY CHAIN

PLBS-BADM 590

SP-2014

Your first course as an MBA candidate, Structures of Global Industries, featured a case called
Sweatshirts from Sweatshops, a copy of which is attached. It concerned the ethical propriety of
the practices of a fictitious firm, Niko Industries, doing business in a fictitious country, Indostan.
During class on Thursday, March 27, we will add some facts and circumstances to that case and
reconsider it from a leadership point of view. Preparation includes familiarity with this
document, which includes a primer on the apparel industry supply chain, and another by Brown
and colleagues called Is There a Business Case for Improving Labor Standard? (on Bb)
_______________________________
Although fairness might not appear in a list of ethical obligations, it is of central importance to
leaders. However, it does not arise very often with regard to the terms and conditions of
employment in the context of developed economies. Generally speaking, fairness can be
assumed when labor markets are competitive and when unemployment does not have
catastrophic consequences. Simply put, the latitude to decline a job is a check against
exploitation. Thus it is no surprise that some of the most vexing leadership challenges stem from
operating in places with the following characteristics:

chronic long-term underemployment,

inadequate social safety nets,
underdeveloped and irregularly enforced labor law,
ineffective regulation of workplace safety, and
systemic government corruption.

Such conditions place workers at an extreme disadvantage in terms of maintaining their health
and safety, much less advancing their economic interests. Although garment factory workers are
not uniquely vulnerable, their situation is particularly complex and persistent. Their place in the
apparel industry supply chain is explained in the companion reading for this class session.
Following is some additional background information.
Most apparel brands maintain employment standards for workers engaged in the production of
their merchandise. Provisions in purchase orders make these so-called codes of supplier conduct
binding on contract manufacturers (CMs). Each brand employs a version of an industry
sponsored model code (http://www.fairlabor.org/our-work/labor-standards). And although there
are differences, the following provisions are more or less universal.

Forced Labor in any form is prohibited.

Child Labor: Workers must be at least 15 (sometimes 16) years of age.
Compensation: Workers must be paid the legal minimum wage or the prevailing
industry wagewhichever is higher. And all legally mandated benefits must be provided.
Working conditions: Workers must be provided a safe and healthy workplace
Benefits: All legally mandated benefits must be provided.
Hours of work/overtime: Employers must comply with legally mandated wage and hour
rules. And unless the law is more generous, employees must receive one day off in
seven, and no more than 60 hours of work per week on a regularly scheduled basis.

Labor Rights: Employers must respect internationally recognized rights of workers to

free association and collective bargaining.
Discrimination: Employers are forbidden from discriminating on the basis of gender, race,
religion, age, disability, sexual orientation, nationality, political opinion, social group or
ethnic origin.

These are very high level summaries of general requirements. Depending on the brand, the actual
requirements can be more extensive. For an example, following is a link to the Nike code
http://nikeinc.com/system/assets/6276/Nike_Code_Leadership_Standards_Jan2012_original.pdf?
1325287549
The same mechanism is typically employed when organizations license their trademarks to
apparel producers. In those cases, a licensee agrees to comply with the code of conduct of the
trademark owner as a condition of the licensing agreement. Following is a link to one such code
in the collegiate market: http://publicaffairs.georgetown.edu/page/1242676325479.html
___________________________
Imagine you are an officer, director, or brand manager of an apparel firm that sources from
contract manufacturers (CMs) around the world. Some of them are located in places where the
assumption of fairness cannot be assumed (see above). Your code of vendor conduct contains the
standard language with regard to compensation:
Wages and benefits must comply with all applicable laws and regulations, and match or
exceed the local prevailing wages and benefits in the relevant industry.
Now, imagine that one of your CMs is operating in a place where the legal minimum and the
prevailing industry wages and benefits are identical: $250 per month for a sewing machine
operator. For reference purposes, a workers subsistence wage (bare minimum of food and
shelter) in this locale is $325 per month. And a living wage (subsistence plus medical care,
support of one dependent, and sundry other necessities) is estimated to be $750 per month.
Your contract manufacturer pays $250 per month. Granted, nobody is forced to accept it and the
employees of this plant are better off because of it. Indeed, $250 per month is enough to stave off
malnutrition, a looming fear of people in this part of the world. Nonetheless, the fairness of this
arrangement is questionable.
___________________________
Another practice raises similar concerns: a denim stressing operation in Bangladesh that uses
fine particulate sandblasting equipment. Exposure to free crystalline silica is potentially lethal,
but the workers are aware of the risk and are not forced to take it. They remain employed
because there are no realistic alternatives. In the words of an 18 year old worker, I know the
effects this is having on my health, but I continue to do it because I need to feed myself and my
family. I am a poor man, so I do this to survive (BBC, 2011).
The effects of this work were documented by Akgun and colleagues (2008) in the European
Respiratory Journal. They discovered that the sandblasting is done in small spaces with little or

no ventilation. Indeed, many such areas are sealed to conserve on the material. The work is
performed with inadequate or in some cases no respiratory equipment. Thus the workers breath
air that contains a high concentration crystalline silica, which explains why of the 157
sandblasters in Akguns study, all but 26 (16.7%) of them suffered some form of pulmonary
impairment, with 77 receiving diagnoses of silicosis.
Many, if not most, codes of supplier conduct would prohibit this practice; there are safe
alternatives to stress denim. However, it is very difficult to monitor. A sandblasting operation
could be a 2nd or even a 3rd tier suppliers to an apparel brands. Without a direct contractual
relationship, brands rely on their 1st tier suppliers to police their fabric providers. However, these
firms are not apt to devote their limited resources to compliance.

HUMANE MANAGEMENT
Edward Soule
McDonough School of Business
Georgetown University

John M. Kline
Edmund A. Walsh School of Foreign Service
Georgetown University

I. The Apparel Industry Supply Chain

Characteristics and Competitive Dynamics
Features of the apparel industry and characteristics of its participants have direct bearings on
the responsibilities of its leaders. Accordingly, we profile the participants occupying two key links
of the apparel industry supply chain and describe the nature of their dealings.
Participant Profiles
The apparel industry consists of a wide range of activitiesfrom the production of natural and
synthetic fiber to the sale of clothing and headwear. The bulk of these activities are conducted by
participants within the following categories: 1) manufactures of thread, yarn, textiles, and other
basic components, 2) garment manufactures, and 3) apparel brands1 (or simply brands). This
study does not address the first category; instead, we focus on garment manufacturers and the
brands for which they produce. Employment is concentrated in this portion of the supply chain, as
are the controversial practices and outright abuses associated with sweatshops. To understand
this stage of the supply chain is to understand the root causes of those departures from standard
labor arrangements. The explication begins with the division of labor between apparel brands and
garment manufactures.
Typical apparel brands engage in the design, marketing, distribution, and financing of the garments
that sport their logos and trademarks. Although some brands produce a portion of their
merchandise, the vast majority of apparel manufacturing is sourced from independent firms. These
so-called contract manufacturers (CMs) produce to the specifications of their apparel brand
customers. The primary activities of these firms is captured by references to them as cut-and-sew
operations. Brands maintain large networks of CMs, so large that no single CM captures a
commanding share of a brands merchandise requirements. Although a brand may monopolize a
CMs output for brief periods, we are not aware of any CM being fully captive to a single brand.
There is a sharp contrast between the organizational profiles of apparel brands and those of CMs.
As for the former, those of interest here are relatively large organizations of national, regional, or
global scope with the sophistication to create and maintain mass market consumer brands. Perhaps
because clothing designs are difficult to protect, most brands are innovative organizations with the
marketing prowess to support an ever-changing product line. And because their supply chains are

as intricate as any and more disbursed than most, the competencies of apparel brands include
logistics and information management.
To provide a sense of the scale and complexity of these firms, consider V.F. Corporation (VF),
owner of a collection of brands (e.g., The North Face, Timberland, and Wrangler). During 2012,
VF sourced approximately 126 million apparel items from 29 company-owned and -operated
manufacturing facilities. Another 324 million units were outsourced to 1,900 facilities in 60
countries. None of VFs suppliers received orders representing 5% or more of the firms cost of
goods sold during 2012. VF sells through multiple channels, including 1,129 company-owned and
-operated retail stores. The firm had 57,000 employees and reported $10.9 billion in revenue during
2012. (VF 2012 10K: 9) One final figure: VFs market capitalizationthe value of its outstanding
common stockwas nearly $26 billion on December 16, 2013.
In comparison to an apparel brand, the typical CM has but a few competencies. To illustrate,
consider the most basic configuration of the contractual relationship between brands and CMs:
fabric and other components are acquired by a brand and delivered to a CM with patterns and
specifications for every element of the fabrication process from cutting and sewing to trimming,
finishing, tagging, and packaging. Ideal performance is timely delivery of flawless garments. This
is no small task, far more demanding than it is often described. But note the lack of any occasion,
cause, or incentive to innovate or to develop a repertoire of competencies. As an exercise in rote
production, contract manufacturing is a pathway to a commodity business and underdeveloped
organizations. As such, CMs rank far below apparel brands on a scale of organizational
sophistication.
To substantiate and extend the foregoing characterizations, consider a telling indicator of
organizational promise: access to capital markets. While apparel brands enjoy access to public
equity and credit markets, one would be hard-pressed to identify a single CM whose shares are
listed on a major exchange or whose bonds are actively traded.2 Although there are privately held
CMs of distinction (e.g., Esquel Group3), the dearth of public ownership speaks volumes about the
attractiveness of the sector. Although financial and operational data for CMs is not in the public
domain, investor disinterest is more or less conclusive evidence of their substandard returns and
dim prospects for creating value.
To sum up thus far, apparel brands bear the hallmark characteristics of contemporary global
enterprises, in sharp contrast to their supplier base of organizationally primitive CMs. This
disparity provides a window on an aspect of the apparel industry of considerable importance to
this study. Some scholars and commentators believe that substandard conditions of apparel
production are typical of a stage in economic development, one that will improve if left alone.4
We believe that analysis is woefully incomplete. What follows is intended to fill in the laissezfaire narrative with a closer examination of brands and their supplier CMs.
2

Why are there no large-scale sophisticated firms among the prime or first tier suppliers to apparel
brands? There are several among the firms performing final assembly in the electronics industry.
Why is there no apparel industry equivalent to Foxconn Technology Group Co., Ltd. or MicroStar International Co., Ltd.? Both final assembly and contract manufacturing are low value-adding
services. And yet Foxconn employed 1,290,000 people in 2012 and ranked 43rd on the Fortune
Magazine Global 500. Why has no CM managed to even go public, much less achieve the stature
of these firms. To add to the mystery, apparel manufacturing predates electronics and is far larger
in terms of unit volume. Granted, Apple does not source finished devices from 1,020 assemblers,
the number of cut-and-sew factories that supply Gap, Inc. But that raises the question, why does
Gap, Inc. have such a sprawling supply chain? These are but two of the incongruous features of
the apparel industry supply chain, perplexities that defy economic logic.
There is a good reason why the upper tier of the apparel industry supply chain defies economic
logic: it took shape during a prolonged period in which economic forces were suspended. Such
was the impact of the Multifiber Arrangement (MFA), a global trade regime in force from 1974 to
2005. The MFA was a multilateral arrangement that imposed quotas on a country-by-country,
garment-by-garment basis. In practice, the MFA constrained the capacity of individual garment
producers during the critical period in which apparel brands experienced rampant growth. For
example, Nikes apparel revenues grew from nothing in 1979 to $3.9 billion in 2005 (1996 10-K:
6). The only way to satisfy that demand was to source offshore, and the only way to avoid
exceeding MFA quotas was to establish a vast network of suppliers.
In summary, there are good reasons to implicate the MFA in the current configuration of the
apparel industry supply chain. Quotas stunted the maturation of CMs in at least two ways. The
first is the arbitrary limitation on their size. The second is less obvious. As with other barriers to
trade, the MFA would have lessened the pressures on firms to innovate, achieve scale, and
otherwise develop the attributes of organizational sophistication. To illustrate, consider that a CM
could have received to produce a particular garment because it was domiciled in, say, Honduras,
and the Honduran quota for that garment had not been exhausted. As such, this firm would have
been sheltered against competing manufacturer in, say, China. Generally speaking, firms do not
develop to their fullest behind the protective walls of trade preferences. In the cause of the MFA
quotas, the result is a tier of producers that is both undersized and unsophisticated.
Vestiges of the MFA linger on in the structure of the apparel industry supply chain. Eight years
after it expired there are nascent signs of change. Some brands are streamlining their supplier
bases. Fundamental change will require an overhaul of a massive infrastructure that took over 30
years to create. Whether economic forces alone can alter the status quo whether the substandard
conditions in fabrication plants will improve in each and every place where apparel is produced
is an open question. To claim otherwise is to engage in careless speculation.
3

Competitive Dynamics
The typical brand-CM relationship is one in which the former enjoys outsized bargaining power
over the latter. CMs can be, and oftentimes are, pitted against one another in bruising battles for
short-term orders. This is the predictable result for supplier tier in which value-adding activities
are situated above (i.e., brands) and below (i.e., textile producers) it. What makes this one
particularly ferocious is chronic overcapacity, a fact of life for most manufactured goods but rarely
a permanent condition. In the case of garment manufacturing, overcapacity persists because
capacity can be increased rapidly5 and inexpensively.6 To compound matters, there are virtually
no barriers to enter the business: production methods are easily replicated, capital costs are low,
and facilities can be located in places with an overabundance of inexpensive labor. The upshot of
this competitive dynamic is intense downward pressure on fabrication prices.
The relationship between brands and CMs should not be confused with the typical scrum between
buyers and sellers of other goods and services. CMs are beset by a condition dubbed chronic price
deflation by a major apparel brand, Gap Inc. (Gap, 23). In an arrangement where brands dictate
virtually every facet of production, price is often the determining factor. In neoclassical economic
terms, this is the expected result of an arrangement in which buyers enjoy monopsony bargaining
power. Citing the analysis of Gereffi & Memedovic (2003), apparel industry economists Frederick
Fernandez-Stark and Gary Gereffi describe the arrangement as follows:
The apparel industry is the quintessential example of a buyer-driven commodity chain
marked by power asymmetries between the suppliers and global buyers of final apparel
products. Global buyers determine what is to be produced, where, by whom, and at what
price (2011, 7).
For a CM on the receiving end of this buyer-driven commodity chain, the relief valve of choice is
labor costs, compensation and working conditions. The price pressures that brands bring to bear
on CMs, and CMs relieve by reducing labor costs causes the race to the bottom that features so
prominently in the apparel industry supply chaina worldwide scramble to locate production in
places that offer relatively lower wages, relatively laxer regulation, and relatively weaker
enforcement of labor laws.
The race to the bottom is not hypothetical. Subsequent to the expiration of the MFA, China
attracted a commanding share of global apparel production (37.8 % of US imports in 2011). But
according to a 2011 McKinsey & Company survey, Chief Purchasing Officers of leading apparel
players in the US and Europe almost unanimously favor moving some of their sourcing away
from China. Bangladesh was the substitute location for 89% of the respondents; a testament to
garment factory wages that average $51.76 per month.7 Despite a series of lethal fires and a
building collapse that claimed over 1,125 lives, Bangladeshi apparel production increased 13% (to
$21.5 billion) for the year ended June 2013 [Cite the Reuters report]. And in a recent update of
4

this survey (July and August of 2013), Bangladesh remained the finish line in the apparel industrys
race to the bottom.

To be consistent with industry nomenclature, apparel refers to clothing and headwear only. It
does not include footwear, accessories, and other merchandise categories commonly associated
with apparel. Apparel brands or simply brands, refers to the clothing and headwear businesses
of familiar firms like Gap, Inc. and NIKE, Inc.; and the private label or store brand apparel
lines of retailers such as George and Faded Glory (Wal-Mart) or Merona and Mossimo (Target).
1

A publicly traded CM is a reference to firms whose primary business is contract manufacturing.

Thus it does not include integrated brands that manufacture for third parties.
2

And Esquel is not a very promising candidate for public equity. To cite a few factors that diminish
its investment thesis: the firm manufactures one item (shirts); it does not command a meaningful
market share (61 million units); and it has a precarious concentration of sales to one customer
(Nike).
4

A notable exception is Dani Rodrik 2011).

Although it is a labor intensive business, CMs can locate in parts of the world with an abundance
of low-wage workers, and relocate or shift production in the event that conditions change.
6
According to Jones (2006, 40) the capital costs of contract manufacturing was 703 per UK
employee in 2003, versus an average investment of 3,633 for all UK manufacturers.
7

Bangladesh law specifies a number of garment factory job categories and mandates a complex
tangle of base wages, allowances and bonuses. The figure used here was derived by the Fair Wear
Foundation, an NGO representing European apparel brands. It is an average of the actual pay of
334 workers from 20 factories. The result, 4,27 BDT, was converted based on .01289 USDs per
BDT on October 24, 2013. The FWF report can be downloaded at:
http://www.fairwear.org/ul/cms/fckuploaded/documents/countrystudies/bangladesh/MinimumWageImplementationBangladesh.pdf

SWEATSHIRTS FROM SWEATSHOPS

Niko is a multinational sporting goods supply company that manufactures sports equipment and
athletic clothing. Most of its sales are in the developed countries of North America and Europe. It
has recently seen its market share begin to erode due to competition from companies located in
China, India, and other Southeast Asian countries. These companies are able to sell products
comparable to Niko's at lower prices due to the low cost oflabor in their home countries. In
response, Niko has opened its own manufacturing facility in Indostan, a highly impoverished
country in Southeast Asia.
Indostan is governed by a military junta. There is no labor legislation in Indostan. Thus, there is
no legally required minimum wage, no legal restJi~!Jo~ on_~()rking hours or child labor,_and_no .
-legfilly enforce~rsfilety oihealth standfil-ds~Unemployment is very high and a majority of the
population struggles to meet its basic needs.

Niko pays its employees at its Indostan plant only 97 cents an hour. Although exceedingly low by
United States standards, this wage rate is nevertheless slightly above the market rate for similar
plants in Indostan. Niko's Indostan employees work 10 hours per day and are not paid overtime.
Again, this is comparable to other manufacturing facilities in the country. Niko sometimes
employs children in it plant when the child's parent is an employee and requests it. Although
Niko provides o benefits such as health insurance or family leave, it does have an infirmary in
the plant that employees may use if they become ill on the job. The infirmary is staffed by a nurse
who can dispense non-prescription medicines to employees at no cost Few, if any, other plants in
Indostan have such an arrangement.
Although Niko's employees work long hours for very little pay, many Indostan workers regard
working in Niko's plant as superior to the available alternatives, which usually are farm work or
unemployment. As a result, there are vastly more applications for positions in Niko's plant than
there are positions available.
Is Niko behaving ethically in operating its Indostan plant?