Buying Responsibly May Backfire

By BizEd Staff

December 20, 2016

Many companies still sell cheaper, less responsibly made items to customers who won't pay higher prices.

When consumers pay more for shirts that didn’t come from sweatshops, they might be encouraging firms to be less responsible about how their products are made. The reason? The growing market for more expensive, responsibly sourced products makes it more profitable for companies to split the
market and sell cheaper, less responsibly made items to customers who won’t pay higher prices.

That’s the conclusion of Ruixue Guo of Stanford University’s School of Engineering in California, Hau L. Lee of the Stanford Graduate School of Business, and Robert Swinney of the Fuqua School of Business at Duke University in Durham, North Carolina. The team wanted to see what factors encourage firms to make responsible choices, and what external stakeholders can do to encourage responsible sourcing.

They studied corporate social responsibility from a risk management perspective: When firms source from irresponsible suppliers, their costs tend to be lower, but they run a higher risk of repercussions from society. The researchers created a model that laid out the differences between expensive, risk-free
suppliers or cheaper but risky ones that might operate in developing countries with few regulations. Then they factored in external influences to see which ones were most effective at encouraging responsible behavior. The list included investigation by advocacy groups, the cost of environmental cleanup, the cost of government fines, and the number of socially conscious consumers who would pay more for responsibly sourced products but punish firms with irresponsible suppliers.

They found that firms typically choose both responsible and risky suppliers so they can create a line of regular products and a subset of fair trade products. This allows them to woo socially conscious customers who will pay more—without losing budget-minded buyers. “It’s not optimal for firms to source everything responsibly and be great corporate citizens. It’s optimal to pursue a dual sourcing strategy,” says Swinney.

Firms were more likely to be responsible if they were punished in some fashion for violating standards or exposed by advocacy groups. This leads Swinney to question the common wisdom that says activists should educate consumers to pay more for responsibly made items. Activists often are reluctant to boycott irresponsible companies, because boycotting just closes factories and puts people out of work. But punishing a company could work better than educating consumers, so that’s where consumers might want to focus their efforts, he notes.

“Responsible Sourcing in Supply Chains” was published in the September 2016 issue of Management Science. It appeared online December 18, 2015.