Recent reports and discussions over Zoom with industry executives of factories producing the clothing apparel brands that we wear every day reveals a dismaying state of affairs.
In the middle of the Covid-19 pandemic effects in Europe and North America, many companies are cutting off the financial lifelines of their small and medium suppliers, using delayed payments as a way to ensure their own survival. Although survival is an important objective during this crisis, executives need to consider the plight of supply chain partners upon whom they also rely to survive.
For the last few decades, apparel manufacturers have outsourced all production to low cost countries, first in China, and over time have outsourced ore to Bangladesh, Vietnam, Sri Lanka, and India. Because the coronavirus has hugely impacted the global economy, apparel manufacturers (like many other sectors) are reeling, bleeding out revenue and cash. And to stem the tide, many are cutting off payments to key suppliers in low cost countries to void contracts and use force majeure clauses that they believe relieves them of any responsibility or payments to key supply chain partners.
This is a dangerous game, as advocated in a recent Harvard Business Review (HBR) article titled It’s Up To Manufacturers to Keep Their Suppliers Afloat1 that emphasizes how manufacturers should support the ecosystem of suppliers that they depend on.
During the great depression of 2008, our research2 shows that buyers who established regular risk-based performance reviews during the crisis were more likely to adjust payment terms and work with suppliers to improve cash flows of those facing financial strains. These actions had the profound effect of helping key suppliers to stay afloat during the bad times, and enable them to surge when the economy bounces back when things return to normal. Even simple communications to understand the status of the supplier’s financial condition and joint planning on business continuity measures can make a big difference.
A recent survey shows that more than half of Bangladesh suppliers have the bulk of their in-process or already completed, production cancelled since the beginning of the coronavirus epidemic.3 When these orders were canceled, 72% of buyers refused to pay for raw materials already purchased by the supplier, and 91% of buyers refused to pay for the production cost of the supplier. As a result, 58% of factories surveyed report having to shut down most or all of their operations.
More than one million garment workers in Bangladesh already have been fired or furloughed, and suppliers report that buyers are refusing to contribute to pay even partial wages for workers who are being sent home without pay for work they have already completed. Disregarding contractual and purchase order terms, buyers are only pushing out payments for orders they have already placed, and are cancelling orders that are completed in Bangladeshi factories and ready for shipment. They are also cancelling all future orders that were already in the pipeline, many with commitments to raw material that exist.
These actions result in scathing and catastrophic impacts on the apparel supply chain. Cancellations amount to over $3Billion in business for Bangladesh, a country that relies on this industry to feed its population. Bangladesh produces almost $30Billion of apparel goods, about 10% of the garments sold to Western countries. This begs the question: will there be an industry left to produce garments in a post-Covid world? Assuming the economy comes back, who will produce the millions of garments for the major clothing brands that have relied on producers for their low-cost apparel?
Discussions with a Bangladeshi factory executive illustrate a typical story on how many producers have been abandoned.4 The factory owner has had trusted business relationships with several global brand customers for more than twenty years. Orders were received in early February 2020, and as usual, the owner purchased cotton fabric and materials to produce the orders. One set of orders to a major New York brand was due on February 17, and was shipped and received by the buyer. The 200-page contract signed by the supplier stated that payment would be made for goods upon receipt. No payment was issued on February 17.
Waiting patiently until February 20th, the buyer sent an email and was told payment would be pending. He was told the same story on February 25th, and on March 1, he finally received notice that the payment would not be made for another 60 days. The payment term was shifted with no prior notice. This directly conflicted with the terms of the contract as well as the purchase order.
The factory owner was shocked. “How could the buyer change the payment terms after I shipped the product, and suddenly cancel all other orders that were already in production in my factory, for which I have already paid materials? This buyer didn’t even call me to discuss the issue. He could have called me, and we could have worked something out, and found a way to delay payments, hold the inventory in stock for a period, take a partial shipment or other arrangement. Instead, he cancelled more than $4M of orders and informed me in an impersonal email. This is a lesson I will never forget, as you disrespected me, and our trust is broken.”
The lockdown policies in place in the US, Europe, and the UK may make a lot of sense for Western countries where people can stay at home and work. But in Bangladesh, 90% of the jobs come from the apparel sector where workers rely on daily wages and now their lives have stopped!5
With the local urban economy shut down, 83% of the exports will likely come from the apparel sector. This could lead to a humanitarian disaster, where people will starve to death with no safety net and social protection available. When you shut down the economy, you shut down livelihoods. The issue is not about “flattening the curve”, because most hospitals, even in normal times cannot handle the stream of patients. Targeted intervention may be a more appropriate approach. It would provide a strong socio-economic transfer that would allow people to survive during a shutdown.
The International Monetary Fund (IMF) has begun to explore this issue, and all of the brands are making excuses and cancelling orders with all of their Bangladeshi suppliers. This includes brands like Jones of New York, JC Penny, Kohls, American Eagle, and others. More than 2.7M people are jobless overnight.
There are no legal actions for the apparel makers to resort to. Even though the purchase order is technically a legal contract, factory owners have been informed by lawyers consulted that they made a big mistake by accepting the 250-page contracts that contained small clauses that allowed buyers to cancel orders without notice. It would take a legal team 3 months to just review these contracts and change them. It is not clear if these contractual terms violate the Uniform Commercial Code (UCC), and no court of law exists that will examine these cases, nor do funds exist to pay lawyers to examine them. The brands are powerful and have hired their own lawyers in Bangladesh to fight any claims. It is likely that the impact of these breaches of trust will last for years in the industry, and may bankrupt large portions of the apparel supply chain.
The factory owner notes: “Look, I understand how difficult it is for brands as well. We sympathize with the state of New York, and the people dying there. We know how difficult it is for everyone in this crisis. But let’s work together, and not abandon one another during this time. These are terrible games the brands are playing with us. You are taking money out of our pockets.”
At a minimum, clothing brand organizations should adopt normal and ethical contractual behavior, and use the following guidelines during a crisis like Covid:
- Buyers should receive payments for orders that have been shipped, and also ensure that payments go to suppliers to cover all legally-mandated wages and benefits incurred for all orders that are already in production that were placed by the buyer.
- Buyers who postpone payments or use clauses in their contracts to issue payment delays should take the additional steps of helping to secure supply chain financing for their apparel suppliers. Factoring invoices through established fintech companies can be arranged to adhere to the terms of their purchasing contracts and pay suppliers for orders already in production or completed.
- Future procurement practices should focus on order stability for proper planning, timely payment of orders, and full respect for workers’ rights.
- IMS and other global agencies should act to mobilize international financial resources. Most garment workers can be sustained for their basic food requirements to feed families and children to the tune of a few dollars a day. These workers depend on it.
We may also likely see a very different apparel supply chain post-Covid when business as usual begins. The lack of trust that has come about as a result of this failure of the brands to adhere to contractual payment terms will likely remodel the entire sourcing contractual and payment terms that exist today.
The industry is currently working on TT (telephonic transfer) which capitalizes on the prior strong trust among buyers and suppliers. We will likely see suppliers requiring the issuance of a Letter of Credit from brands to ensure they are paid after delivery.
This will put pressure on western brands’ cash flow and capital management, and move the industry from a strategic partnership model to a transactional one. The same may also endanger the progress made by major global sustainability initiatives led by leading brands, including the Sustainable Apparel Coalition, and Action, Collaboration, Transformation (ACT) initiatives. When brands do not take the responsibility for their suppliers, trust in their ability to ensure a living wage and building safety initiative will also be eroded. Although survival of the brand is of course first and foremost in the minds of apparel brand executives, a more macro view of how to move past the COVID crisis should also be a top priority.
Rabana Haq, the president of the Bangladeshi Apparel Manufacturers Association, notes the impact of more than $3B of cancellation on the economy. This impacts more than 2 million workers, and this leaves a lot of unfinished goods, which will likely add up to over $10B of cancelled orders. “We need to ensure our workers are paid for the next three months. Markets will change, and it will be more about health-related Personal Protective Equipment (PPE) and other goods, but consumers’ tastes will most certainly change.
They will buy fewer clothes, and likely cheaper ones, and we will wake up to a world that will be very different. This will be difficult for us to recover and restructure our industry. We are used to being dictated to, but in this new world, we can’t tell our buyers to continue to go like this. As far as the brands, it has been varied. Some just want to give instant payment and not take liability of other goods; some have taken everything but don’t want to pay now. There are people asking for discounts, to late payment to straight cancellation. A wide range of proposals.”6
She went on to note that “Western brands are receiving some bailout packages, but this is not the case in Bangladesh. Many are worried about lost profits – here it is about lost bread. There is a big disconnect between the buyers who set conditions, and we supply these to you and are bound by compliance requirements. When it comes to the basic survival of workers, it is not ethical and it is not right. We need to stand together and re-affirm our faith in our partnership that we have heard about for so long. But yet in a time of crisis, it is difficult to find brands who are honoring their commitments.”
The current situation is also bringing to light how the global brands are taking advantage of the vagaries of the force majeure clauses that exist within these contracts. Many brands have already taken steps to prepare complex and lengthy contacts that provide them with guardrails that allow them to exploit any uncertainties solely in their favor.
Typically, a brand will create a single lengthy boilerplate contract developed by their legal team, and send that to thousands of their suppliers. A single supplier may receive ten different contracts from their different customers, each one several hundred pages in length.
Most small to medium size factories cannot afford to hire a legal team to review the contract in depth, negotiate terms with the other counsel, and rewrite sections that are unfair or contain hidden clauses and meaning. As we move into a post-COVID environment, this would be an ideal opportunity to revisit these contracts and establish a harmonized set of terms that ensure a fair set of processes for managing uncertainty and major catastrophes such as COVID-19.
Such contracts should also lead to a more favorable sales and operations planning process that creates visibility into orders, and transfers payments at different points in the supply chain upon receipt. Such a contract should also ensure how to deal with workers who are left jobless, as in the current situation and ensure they have enough to feed their families.
In light of these issues, the authors of this article that there is a need to re-think the Total Cost of Ownership (TCO) that currently exists in contracts between brands and factories. Recent research7 shows that today, materials generate the bulk of production costs (77%) for a t‐shirt, in contrast to worker wages which generate only 2 percent of the total production cost per unit, (e.g. 16 cents out of an $8USD (U.S. dollars currency) retail price for a t-shirt). The TCO provides fundamental insights, based on real data, to guide policy and regulation among stakeholders in high risk, low cost supply chains. Perhaps there should be a line in the TCO/FOB (Freight on Board) price that is established for all brands who wish to source in Bangladesh. This price could include a mandated 0.5% of the FOB that is established to create and build a disaster or emergency management fund under the supervision of the Bangladesh Central Bank. When catastrophes such as COVID-19 occur, this fund could pay for workers basic wages or benefits. Since workers in Bangladesh receive far lower wages than the living wages,8 most workers have no savings, and in almost all cases cannot survive a month without wages to feed their family. This can be a policy suggestion made on behalf of the World Trade Organization (WTO) or integrated into the product pricing mechanism. Unlike many who work for Western brands, apparel factory workers do not have a 401K, a pension, a provident fund, healthcare, or any other benefits.
Post the Rana Plaza factory disaster, while buyers and suppliers worked hand in hand to try and recover from the massive trauma of this event, brands did come together to try and develop consortiums to take on the poor factory working conditions under the spotlight of the press (e.g., Bangladesh Accord9 and Alliance10 online publications, etc.).
However, the poor response to the COVID crisis and the inability to follow-through with payment on goods shipped may put the future of all the major global sustainability initiatives in jeopardy. Perhaps a change will emerge, a global monitoring or mediator body that can monitor cases of obvious breaches of contract from the global brands that are used to absolving themselves of the decimation of a nation that is likely to follow in the near future.
Table 1: Firms Involved in these Actions
Commitment to pay for all orders in production or completed:11
- Target (USA)
Top buyers that, as of March 27, 2020, have not made such a commitment:
- Marks & Spencer
- It’s Up To Manufacturers to Keep Their Suppliers Afloat, Harvard Business Review, April 14, 2020
- Oliveira, M, and Handfield, R. An Enactment Theory Model of Supplier Financial Disruption Risk Mitigation. Supply Chain Management: An International Journal. 22 Issue: 5, pp.442-457, October 2017.
- Anner, PhD. Abandoned? The Impact of Covie-19 on Workers and Business at the Bottom of Global Garment Supply Chains. Penn State Cdenter for Global Workers’ Rights, Research Report, March 27, 2020.
- Interview with Mostafis Uddin, Bangladeshi factory owner, April 14, 2020. See also ‘Millions will literally go hungry’: coronavirus in Banglades
- BBC World News: why social distancing will not work in Bangladesh which prepares for a humanitarian crisis
- Hassan, Rejaul, Handfield, R., and Moore, M. Total Cost of Ownership as an Enabler of Public Policy & Government Regulation Reforms in Low Cost Apparel Factories, March 2020, Journal of Supply Chain Management
- Safe Workplaces. The Accord helps Ready-Made Garment factories in Bangladesh become safe – and stay safe – for millions of workers.
- The Alliance for Bangladesh Worker Safety
Determination of status based on public statements made by brands and/or communications to suppliers or to the authors. See Worker Rights Consortium (WRC) online article titled COVID-19 Tracker: Which Brands Are Acting Responsibly Toward Suppliers and Workers?
Starting a Performance Based Contract (PBC) – Part 1 explains how a transition period will help your staff more efficiently record, score, report and review performance and uncover potentially hidden issues for buyers and sellers and avoid human error.
Starting a Performance Based Contract (PBC) – Part 2 expands the content of Part 1 and adds many other aspects like performance measures, like shaping profit margins and balancing risk and reward.