As if being an outsourcing lemming wasn’t hard enough! All that time and money spent finding and developing a manufacturing "partner" in China, setting up complex global supply chains, and then filling the pipeline. Then a quality disaster hits. Maybe not a disaster, but we’ve all been reading about the tainted toothpaste and pet food, defective tires, and toys painted with lead. Something is happening, probably exploited and embellished politically, but still happening.
Today’s Knowledge@Wharton has an article titled Quality Fade: China’s Great Business Challenge. "Quality fade" is a known situation that strikes almost every rapidly growing economy, even if controls are in place.
One of the problems facing China is that manufacturers continue to engage in a practice I call "quality fade." This is the deliberate and secret habit of widening profit margins through a reduction in the quality of materials. Importers usually never notice what’s happening; downward changes are subtle but progressive. The initial production sample is fine, but with each successive production run, a bit more of the necessary inputs are missing.
In effect, greed on the part of the factory owners. Sometimes it is subtle, sometimes it is very dangerous.
One American company had been importing a line of health and beauty care products for over a year when the cardboard boxes that held its product suddenly started collapsing under their own weight. There was no logical explanation for the collapse except quality fade, and the supplier in this case blamed sub-suppliers for replacing an acceptable cardboard box with ones that were inferior.
One of the most disturbing examples I have encountered while working in China involved the manufacture and importation of aluminum systems used to construct high-rise commercial buildings. Yet the level of engineering sophistication did not stop the supplier from making a unilateral decision to reduce the specifications. When the "production error" was caught, one aluminum part was found to be weighing less than 90% of its intended weight.
When quality fade hits a company that has followed the lemmings to far off places like China, the impact can be pretty severe. Not just in terms of reputation and safety, but also in pure financial impact. That supply chain stretches for thousands of miles, including lots of warehouses, factories, and container ships. A quality problem found by the customer puts weeks, if not months, of production at risk. And the supplier may not be all that interested in fixing the problem.
Some importers bravely attempt to fight back against quality fade by insisting a supplier replace substandard goods at the factory’s expense. A savvy supplier can respond to such demands by threatening to terminate the supplier relationship. Or the supplier can respond by raising prices. Importers might then say they will switch suppliers, but the factory owner knows this is an empty threat as finding and cultivating a new supplier can take a long time. And anyway, there is no guarantee that the next supplier won’t engage in the same willful behavior as the first.
Which can sometimes warp some fundamental laws of economics.
If Adam Smith were around today, he would have had to write a separate chapter on global outsourcing. Because it takes importers a long time to find suppliers and to get them up to speed, importers keep their suppliers a secret. As a result, factories pay little, if any, reputational cost for production shenanigans. The invisible hand doesn’t work well when the manufacturers themselves are unseen.
So how does an importer guarantee the quality of the product? Third-party testing and quality assurance programs don’t necessarily work.
I recently worked with one supplier that was encountering difficulties making a quality liquid soap for export to the U.S. To get around problems the supplier was having with laboratory results, the supplier created 10 random samples and sent them to the same lab for testing. Nine of these samples failed, but one passed. The supplier took the one test result marked "passed" and sent it off to the customer. The U.S. company never knew about the failed results, and a purchase order was promptly issued.
Private quality assurance programs may also be put in place, but suppliers can circumvent such controls as well. In one case, after a load of plywood was rejected at one factory, the supplier simply mixed a portion of it with product that was perfectly good in later shipments. Working the bad into the good is a common way for a factory to reduce loss. A supplier can bury sub-standard product knowing full well that warehouse workers in the U.S. do not have the time to examine each piece that comes in.
So where will it all end?
China’s quality situation is by no means hopeless. The key to turning the situation around is to incorporate a habit of quality into the culture. China, however, has not shown that it has any interest in doing so. Recent accusations of unreliability in Chinese products are now being met with tit-for-tat claims that U.S. products are faulty. This is an unfortunate strategy for China, and it means that we will continue to see quality problems. China will not be able to succeed so long as manufacturers are competing in a race to the bottom.
Many developing companies grow through this cycle and some, like Japan, eventually emerge with strong quality reputations. Will China? What is the quality of the product coming off of the production line of your Chinese supplier… weeks ago or today? Are you sure?