03 Sep 2014Working Paper Summaries

Supply Chain Screening Without Certification: The Critical Role of Stakeholder Pressure

by Susan A. Kayser, John W. Maxwell and Michael W. Toffel

Companies are increasingly being held accountable for their suppliers' labor and environmental performance. The reputation of Apple, for example, suffered after harsh working conditions were exposed at Foxconn, one of its key suppliers in China. Despite the possibility of major reputational risk when problems are revealed, however, companies face tough challenges managing this risk because obtaining information about suppliers' labor and environmental practices can be very costly. Furthermore, buyers can seldom discern whether the information suppliers provide a fair representation of their performance or whether it glosses over problem areas. The authors investigate whether and how "commit-and-report" voluntary programs, which require companies to make public commitments and to issue public progress reports (instead of requiring costly third-party audits), can serve as a reliable screening mechanism for buyers. Studying the decisions of 2,043 firms headquartered in 42 countries of whether to participate in the UN Global Compact, the authors find the risk of stakeholder scrutiny deters companies with misrepresentative disclosures from participating in the Global Compact. Moreover, this deterrence effect is especially strong 1) for smaller companies and 2) in countries with stronger activist pressures and stronger norms of corporate transparency. Overall, this research reveals the critical role for stakeholder scrutiny to enable buyers to use "commit-and-report" voluntary programs as a reliable mechanism for screening suppliers. Key concepts include:

The potential for stakeholder scrutiny deters companies whose prior reports misrepresent their performance from joining a commit-and-report voluntary program.
Smaller companies whose reports are misrepresentative are especially deterred from joining commit-and-report programs.
Commit-and-report programs can serve as credible screening mechanisms, especially in countries with more activist pressure and stronger norms of corporate transparency.

Author Abstract

To assess and manage reputational risks associated with supply chains, buyers are increasingly seeking information about their suppliers' labor and environmental performance. Several voluntary programs have arisen to encourage suppliers to report this information in a standardized manner, but the information companies report might misrepresent their performance and can thus mislead rather than inform buyers. We hypothesize particular circumstances in which buyers can screen suppliers based on their participation in voluntary programs requiring public commitments and public reporting. In particular, we theorize that stakeholder scrutiny can effectively deter companies with misrepresentative disclosures from participating in such programs, and that this deterrence effect is stronger for smaller companies and in institutional contexts featuring stronger activist pressures and stronger norms of corporate transparency. Examining the decisions of 2,043 firms headquartered in 42 countries of whether to participate in the UN Global Compact, we find support for these hypotheses.