Thursday, August 23, 2007

Recalls highlight price of corporate cost cuts

From Reuters:

Recalls highlight price of corporate cost cuts
By Brad Dorfman and Justin GrantThu Aug 23, 1:50 PM ET
The recent health and safety scares that led to major toy and food recalls highlight the pressures facing companies that export their manufacturing, and just how quickly a corporate image can become tarnished.
Mattel Inc last week announced a recall of millions of Chinese-made toys due to hazards from small magnets and lead paint, its second major recall this month.
The actions followed news of pet deaths blamed on tainted wheat gluten and rice protein exported from China, and the recall of toothpaste made in China that contained a chemical used in antifreeze.
Quality and safety of production has become one of companies' and investors' chief concerns, especially in recent years when so much U.S. manufacturing has been jobbed out to third parties in countries with far less monitoring.
Mattel's recalls helped to push the U.S. Consumer Product Safety Commission into talks with the Chinese government over safety requirements before Chinese products come to market.
"There are manufacturing standards in the U.S. that have saved lives," said CPSC spokesman Scott Wolfson. "We want manufacturers to understand there's an expectation that those standards will be met."
Whether it's children's toys with easily swallowable magnets attached, bibs covered with lead paint or manufacturing facilities that pay slave wages, there is a seemingly endless list of things that can go wrong in a supply chain.
While much of the recent focus has been on apparently lax Chinese safety standards, U.S. companies are making a choice to have their products manufactured there, experts said.
Shareholders may be happy when costs go down, but regretful when major recalls hurt a company's brand.
"When you have a long supply chain, when you're aggressively pushing the suppliers to capture every penny of value, some unscrupulous suppliers are going to try to cut corners, said the CEO of toy seller FAO Schwarz, Edward Schmults, in an interview. "You can still get a lot of lead paints and lead items in China. It's not well policed."
A poorly supervised supply chain can cause problems in a hurry.
"Your product is damaged and your reputation is damaged, and ultimately your profitability is damaged," said Charles Elson, director of the Weinberg Center for Corporate Governance at the University of Delaware.
Consumers are price conscious, but they will balk at lower-cost goods when they become a safety risk.
"It wouldn't surprise me if (scrutiny of manufacturers) resulted in higher prices ... Consumers may have to pay a little bit more to ensure that their toys are safe, but I think that's a premium that most consumers don't really mind paying," said Bob Goldsborough of Ariel Capital Management, whose firm owns about 4 million Mattel shares.
Increased regulation, whether by government agencies or by the companies themselves, will drive manufacturing costs up.
"We complain about the government regulation, we complain about the high prices of products," said Pam Ellen, assistant marketing professor at the Robinson College of Business at Georgia State University.
"So we get more of these lower-priced products which solve our pocketbook interests, but then we find out the advantages we have with all of these regulatory agencies that run the prices up," she said.
While outsourcing to China or other low-cost countries may save money, at some point companies can find themselves in a position of having to say there is only so low prices can go, Northwestern University's Kellogg School of Management professor Kent Grayson said.
"I think these events in China, and how they have rippled through the United States, will encourage companies to consider other solutions or investigating fixing the current solution," Grayson said.
Those fixes can be expensive, according to experts.
"They can try to do a lot more inspection -- that's costly," said Marshall Meyer, a professor of management at the University of Pennsylvania's Wharton School of business.
Other options, either having more employees in other countries to monitor subcontractors, or investing in and taking control of some of the subcontractors, also will be costly, he said.
Mattel didn't respond to a request for comment.
Hasbro Inc, the world's No. 2 toy maker, said it doesn't seek the cheapest possible manufacturing available, and instead pursues contractors that meet certain criteria.
In the past, U.S. companies have had to take major steps to mitigate consumer concerns about overseas manufacturers.
Nike Inc was forced into the spotlight in the mid-1990s when it was revealed that its goods were being assembled in Asian sweat shops by underpaid, underage workers who were exposed to harassment and toxic chemicals.
The athletic shoe maker, which maintained that it was unfairly singled out, responded by cutting ties to some subcontractors and took steps to improve the factories.
"We've built a very robust program of looking at supply chain issues," said Nike spokesman Erin Dobson. "Anyone will tell you with these massive supply chains, you can't catch everything as much as you believe you can."
The more popular the product, the more scrutiny is required for companies.
"The issue is, if you have a brand name now, you need to be sure your suppliers are performing the work on site and you can monitor all the work," said John Horan, publisher of industry newsletter Sporting Goods Intelligence.
"Obviously, not just looking at the final product and seeing it's the right color," he said.
And in the wake of recent quality issues, Kellogg's Grayson maintains that Mattel and other U.S. manufacturers will now be charged with an equally difficult task: "to reassure consumers ... greater controls have been put in place to keep the same thing from happening again."
(Additional reporting by Alexandria Sage)

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