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Are Walmart's Chinese Factories As Bad As Apple's?

Our fiction-free investigation finds that in many cases, the company's auditors are asleep on the job.

Key word: potential. So far the company has made strides on only some of its goals. It says it has boosted its truck fleet's efficiency by 60 percent, eliminated hazardous materials from most electronics it sells, cut plastic bag use by more than 20 percent since 2007, and sold 466 million compact fluorescent lightbulbs in four years.

But interviews with key insiders and the company's own reports reveal that on some of its biggest promises, Walmart's results are underwhelming:

At a glitzy Beijing confab in 2008, Walmart pledged to make Chinese suppliers agree to comply with labor and environmental laws and standards starting in January 2009. (All other suppliers were to comply by 2011.) As of its 2011 Global Responsibility Report, Walmart had no updates except to say that the compliance agreement "is being strengthened."

Walmart committed to eliminate 25 percent of solid waste from its US stores by October 2008. In its 2011 responsibility report, Walmart said it had no data for 2005, 2006, and 2007. Instead, it touted a "waste-redirection" rate of 64 percent in the 2010 fiscal year.

In 2008, Walmart pledged to boost energy efficiency by 20 percent per unit produced at 200 Chinese factories, including Mr. Ou's, by this year. In April 2011, it announced 119 factories had hit the target. Yet later that month, EDF, a crucial partner in China, left the program over Walmart's lack of cooperation, several sources told me. By year's end, the program was dormant.

Walmart's goal to reduce greenhouse gas emissions by 20 percent at its stores and distribution centers worldwide by 2012 was half met by the time of the 2011 responsibility report.

And even where Walmart has made its goals, questions linger. The retailer says every supplier making private-label and non-name-brand goods has provided the name and location of every factory involved in making those products. Yet Walmart concedes that the use of murky subcontractors is widespread in China, Africa, the Middle East, and Bangladesh. Walmart also won't provide details about how it achieved its goal, whether suppliers were asked or compelled to share factory information, and whether any suppliers lost orders or were fired for unsatisfactory responses. My repeated attempts to get Walmart to answer specific questions yielded little in the way of hard data but plenty of PR speak. "We believe the sheer volume and ambition of our goals—and our annually reported progress—speak for themselves," a spokeswoman wrote me in one typical exchange.

That's why I decided to go see for myself.

Walmart began buying Chinese-made goods in 1993. The country's first supercenter opened three years later in Shenzhen. Today, the company directly employs 96,800 people in China and operates 357 Chinese stores. Walmart's supply chain includes some 30,000 Chinese factories, which produce an estimated 70 percent of all of the goods it sells. Walmart's global sourcing headquarters, the nerve center for its international operations, is also located in Shenzhen, a booming city on the southeastern coast.

In December 2010 I arrived in Foshan, a city in the heart of Guangdong province. Known as the "workshop of the world" and bordering Hong Kong, Guangdong is packed with factories that churn out Barbies and bras, tube socks and toilet brushes, iPhones and plasma TVs. The province's gross domestic product in 2010 was $690 billion, more than the GDP of Argentina, Saudi Arabia, or South Africa.

Walmart has connected other journalists with its suppliers and corporate officials in China in the past two years, but it had declined a half-dozen requests from me. And locating these sources on my own proved no easy task. The company closely guards all information about who makes its products. Aside from Mr. Ou, almost everyone connected to Walmart I met in China insisted I not use their real names for fear of being blackballed by Walmart and other employers.

Which is why I'll call the former Walmart factory auditor I met one Saturday night Michael Chao. Chao was in his mid-30s and spoke good English. We couldn't talk in public, he said, so we relocated to a friend's office a few blocks away.

Chao joined Walmart as an auditor in 2004 after two years at an independent auditing firm. He spent four years at Walmart, which, combined with his previous gig, was plenty long enough to understand how auditing in China really works.

Walmart helped spawn the supplier auditing industry. After a scathing NBC Dateline report in 1992 uncovered child labor at a Walmart supplier in Bangladesh, the company denied the allegations but then created a supplier code of conduct that, among other things, outlawed child and prison labor. Other big-name companies followed suit, and soon there was a market for companies that could police those firms. Today, Walmart's auditors inspect factories, meet with managers, scrutinize wage records, and interview individual workers to look for labor, health, and safety violations.

In China, official Walmart factories can outsource more than half their work to unregulated shadow factories. 

They have recently tried to keep an eye out for environmental issues as well, but it hasn't been easy, since the inspectors are already overtaxed. Auditing is a demanding job, Chao told me. Burnout is common. Factories often cook their books, keeping two sets of records—the real ones, and a clean version for the auditors. Managers coach employees to lie. And a passel of companies help suppliers fudge their numbers and pass compliance audits.

Sometimes the auditors themselves are corrupt, Chao said, willing to overlook violations in exchange for a hongbao—a bribe. (Hongbao means "red envelope," usually a bill-shaped sleeve filled with cash given as a gift at family celebrations.) Walmart, which has publicly acknowledged firing auditors for taking bribes, says it investigates all reports of corruption. But Chao told me that they can't catch all the crooked auditors.

Walmart hired a crop of young college graduates to replace auditors who were inured to corruption, but challenges remained. Like off-the-books subcontracting. In China, auditors typically see only "five-star" factories, so named for China's rating system for hotels and restaurants. These companies, he explained, obey the law, treat their workers fairly, pay decent wages, and ensure safe working conditions, by local standards. But Walmart and others often demand more than their five-star suppliers can produce, so a company scrambling to fill a massive order for, say, action figures will outsource to a shadow factory.

A shadow factory can be a mom-and-pop operation in someone's house, or it can be a full-fledged factory hidden on the same property as a five-star. Regulations don't apply inside a shadow factory, Chao said. Consultants and experts who've worked in China for decades say there are tens of thousands of shadow factories, and that up to 70 or even 80 percent of five-stars will outsource more than half of a given production order to shadow factories. At Walmart, Chao said, "We would look in the system which shows the [five-star] factory has only 300 people to handle an operation receiving massive production orders worth millions of dollars. How does it add up?"

Good auditors aren't blind to this, he noted. But they don't have time to hunt down all the shadow factories, and they feel pressure not to cause trouble or stop orders from being filled.

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