CSR has received increasing attention among companies with manufacturing in China in recent years. As a result of new government regulations and higher expectations from end consumers, companies are increasing their efforts to take CSR more seriously.
In this article, we review CSR in China and what changes we can expect in the coming years.
The Increased Importance of CSR in China
Recently, ESG (Environmental, Social and Governance), an evolved CSR concept and framework, has gained popularity and become the subject of much discussion. In 2021, 1,366 out of 4,643 A-share listed companies in China disclosed ESG or CSR reports, accounting for 29.42% of all listed companies, a significant increase compared to the previous decade.
However, compared to developed countries, China’s CSR standards are still relatively low when considering both awareness and implementation. Yet, many large Chinese companies have started to pay more attention to other stakeholders rather than only focusing on philanthropic work domestically, like in the early days.
Instead of just highlighting donations to build new schools in rural areas, companies now express care for employees, community, environment, and sustainability in yearly CSR/ESG reports.
China’s CSR Regulations
Due to the lack of universal standards and guidelines, as well as different perceptions of what CSR entails, no unified CSR audit scope exist today.
In 2013, a third-party business consultancy firm in China released a set of so-called DZCSR30000 standards, China’s equivalent to ISO standards, like ISO26000 and SA8000. The standards were endorsed by the Ministry of Industry and Information Technology, the Chinese Academy of Social Sciences, the China Enterprise Confederation, and other organizations. With that said, the standards have not been widely implemented. Different companies in different industries now adopt different standards such as AA1000, SA8000, ISO26000, BSCI, or their own code of conduct.
Today, CSR is usually evaluated based on two main areas, with associated frameworks such as SA8000 and ISO26000: labor and EHS (Environment, Health and Safety). In a more detailed way, it would probably cover areas such as child labour, forced labour, discrimination, freedom of association, health and safety, working conditions, the environment, and business ethics.
Differences Between Internal and External CSR Audits
CSR audits are crucial to find non-conformities and enhance CSR performance. The audits are used to evaluate, measure, and track the CSR performance of suppliers, to see if the suppliers live up to pre-set requirements. Furthermore, from the perspective of risk management, the audits are also conducted to prevent the purchasing of conflict minerals, and child labour activities, for example.
The scope and focus of audits often vary based on industry, considering audit strategies and practices. Take the example of a company that purchases textiles, which is labour intensive and where workers might be exposed to chemicals and acid mist. The auditor might then have to pay more attention to whether the workers use sufficient Personal Protective Equipment (PPE) such as protective clothing, helmets, and goggles.
In a highly automated plant that produce automotive parts, on the other hand, there might be stronger emphasis on salaries, contracts, and work hours.
Many large foreign companies in China have internal audit teams and conduct audits of their suppliers at least once a year. The auditors are commonly in-house experts with abundant experience in product quality control or supply chain management.
Small and medium size companies may use external auditors as they lack resources or might not have a physical presence in the Chinese market. However, large foreign companies may also use external audit teams as they are more familiar with the working procedure. In addition, their independence will lead to higher credibility and more objective and unbiased results.
Process when Conducting CSR Audits
The CSR audit usually starts with the selection of a set of guidelines, for example, the company’s own Code of Conduct. The auditors would then use a comprehensive checklist, either provided by the client company, or use their own document based on certain requirements and standards such as SA8000 or ISO26000.
After an introductory meeting between the three parties (the client, auditor, and supplier), the auditor(s) will conduct onsite audits, including document checks, site tours and interviews with workers. This will be followed by internal meetings with the auditors, and a closing meeting with the supplier. Under normal conditions, a comprehensive audit report will be delivered to the company two weeks after the audit.
Below you can find a chart including the different steps and where the client is referred to as the audit consigner, the service provider as the auditor, and the supplier as auditee.
Audit Scope, Depth and Length
The scope and depth of the audit depends on the client’s specific requirements and the chosen criteria. The time required for the audit depends on the size of the plant and the number of employees, as well as the complexity of the production process. An audit of a factory with about 100 employees usually takes at least 2 to 3 man-days.
The Importance of Meeting Suppliers
Foreign companies’ CSR work for suppliers in developing countries is generally achieved based on openness, mutual-trust, and collaboration. However, differences in language, culture, social environment, and economic development sometimes causes confusion and misunderstanding between auditors from developed countries and Chinese suppliers, especially those in less developed areas.
For example, Chinese factories and workers can reach a consensus to not buy social insurances, which would be a CSR non-conformance for foreign auditors. However, Chinese workers may choose to not buy social insurances due to pre-existing insurances with the Chinese Hukou system (residence registration) to avoid paying extra money.
Other times, workers prefer to not sign a labor contract to gain more freedom over their working hours. Local auditors in China, on the other hand, usually show a deeper understanding for these phenomena and its importance.
Nevertheless, regardless of the auditor’s origin, it is important to visit the factory to perform onsite audits and meet with suppliers. Communicating with suppliers in person gives the auditor a deeper understanding of the underlying reasons behind non-conformances.
Differences in Performance Between Industries
Since there’s a strong focus on the workers in CSR audits, labor-intensive and less profitable industries usually mean higher CSR risks. In fully automated factories such as the automotive industry, workers generally operate in a less risky environment, whereas in the wig and hair-extension industry, for example, much of the production rely on manual labor.
In addition, hazardous chemicals that are used in the production process also increases the likelihood of workers being in more hazardous work environments. Workers might then need more protection gear, training for work safety, and occasional health checks need to be provided.
If you are unsatisfied with the CSR performance of a supplier, post-audit improvement actions are often needed. However, this also puts an increased importance on mutual trust and interdependence between you and the supplier. Usually, at the request of more important customers, suppliers will be more cooperative to improve but the time to complete the improvement can vary. Occupational risk assessments for employees in hazardous positions or providing social insurance for all employees will obviously take longer time than replacing expired fire extinguishers and purchasing appropriate personal protective equipment.
You may also decide whether to continue its relationship with suppliers that fail to meet its targets, depending on the circumstances. For example, a company might stop the cooperation with a supplier that after an audit, is unwilling to improve their pay structure to align with local lowest wage standards.
Tighter Supply Chain Regulations in Europe
On February 23, 2022, the EU Commission adopted a resolution of a draft for EU Due Diligence Act. With a focus on human rights, the law aims to establish standards in the fields of occupational health and safety and environmental protection. It also aims to establish sanctions under public law and complaint procedures for affected parties.
In Germany, the new Supply Chain Act (Lieferkettengesetz), also known as the Duty of Care Act, was passed and adopted into law in July 2021.
With calls for tighter supply chain regulations throughout Europe, European companies with operations in China and/or other developing countries should have a robust plan in place for CSR audits and following improvements to prevent unnecessary risks.
The insights provided in this article are for general informational purposes only and do not constitute financial advice. We do not warrant the reliability, suitability, or correctness of the content. Readers are advised to conduct independent research and consult with a qualified financial advisor before making any investment decisions. Investing in financial markets carries risks, including the risk of loss of principal. Past performance does not guarantee future results.
The views expressed herein are those of the author(s) and do not necessarily reflect the company's official policy. We disclaim any liability for any loss or damage arising from the use of or reliance on this article or its content. ARC Group relies on reliable sources, data, and individuals for its analysis, but accuracy cannot be guaranteed. Forward-looking information is based on subjective judgments about the future and should be used cautiously. We cannot guarantee the fulfillment of forecasts and forward-looking estimates. Any investment decisions based on our information should be independently made by the investor.
Readers are encouraged to assess their financial situation, risk tolerance, and investment objectives before making any financial decisions, seeking professional advice as needed.