Chain reaction: A strategic approach to addressing employment noncompliance in complex supply chains

Introduction

There is an emerging consensus that targeting the direct employer of workers in enforcement action may be both inefficient and ineffective in achieving compliance with employment standards. One major limitation of such an approach is that it does not account for the fragmentation of contemporary employment arrangements (Fudge and Zavitz, 2007; Marchington et al., 2004). The traditional approach to regulatory enforcement is problematic in light of the swift and seemingly permanent shifts to work organisation in Australia: the greater commercialisation of work relationships; the growth in competitive product and capital markets; and the rise in the popularity of particular management techniques and organisational forms, such as subcontracting, outsourcing and franchising. These shifts have meant that the employment relationship in various sectors has become increasingly ‘fissured’ (Weil, 2014, 2011), as many workers are engaged as contractors, or as low-paid employees of small subcontractors or franchisees, instead of as the direct employees of vertically organised large firms. These same trends have also meant that lead firms and head franchisors often possess strong market power, hold key regulatory resources and wield considerable influence and bureaucratic control over the compliance behaviour of smaller firms in the sector.

Increasingly complex supply chains present enormous challenges for regulatory agencies seeking to uphold basic employment standards, such as minimum pay, termination and leave entitlements. In an era of limited resources, the detection of employer noncompliance by the state is difficult and burdensome. Even where noncompliance is identified and the employing entity is sanctioned, the deterrence effects of this intervention may be undermined by the doctrine of limited liability and clever corporate structuring. Moreover, it is not clear that punishment of the putative employer will be effective in addressing the key drivers of compliance behaviour, which are often determined by more powerful firms higher in the supply chain. A new approach to enforcement is needed.

In light of these emerging challenges, the Australian employment standards enforcement agency – the Office of the Fair Work Ombudsman (FWO) – has started to experiment with what the former head of the agency described as ‘new and innovative ways to engage with the Australian community, encouraging businesses to be more proactive when it comes to complying with workplace laws’ (Wilson, 2012: 2). These measures are a result of the limited resources available to the agency, and show a growing awareness of how to target and leverage supply chain power and pressures: a shift that reflects the regulator's growing appreciation of key regulatory models, such as strategic enforcement (Weil, 2008).

This article will draw on the central tenets of the strategic enforcement model and extensive empirical research to explore three innovative mechanisms implemented by the FWO, which are designed to address employer noncompliance in complex supply chains, namely supply chain litigation, enforceable undertakings and proactive compliance deeds. These initiatives – which will be described in more detail shortly – were selected for detailed analysis on the basis that they represent some of the most sophisticated examples of supply chain regulation by the FWO among a range of such initiatives being pursued by the agency. In analysing this data and exploring some of the reasons behind these measures, we draw on over 60 interviews with FWO staff and external workplace relations lawyers. This interview data was coded using NVivo and triangulated through a detailed review of primary documents, including copies of framework agreements, press coverage, relevant court decisions and industrial instruments, surveys and research undertaken by the FWO, and submissions to government enquiries regarding the regulation of the supply chains and the role of the FWO more generally.

Based on the evidence available, we argue that these initiatives show the agency's willingness to look beyond labour law's traditional focus on the liability of the contractual employer of labour and to pierce the ‘corporate veil’ of firms. It also illustrates the way in which regulatory agencies can better target their resources and maximise the general deterrence – or the ‘ripple effects’ (Weil, 2010: 77) – of enforcement action by focussing on those firms that are in a position to influence compliance behaviour more broadly. Whilst these new techniques may mitigate some of the systemic problems that plague conventional regulation of work and labour in domestic supply chains, our study reveals that there are some shortcomings and potential obstacles to the FWO's approach.

This article is structured as follows. The first section provides an overview of the FWO and the reasons for a shift in its enforcement strategy. The second section summarises the defining features of the model of strategic enforcement, which is increasingly influential in the context of employment standards regulation and enforcement in Australia. Next, we explain and explore each of the supply chain initiatives recently adopted by the FWO and selected by us for review, that is, supply chain litigation, enforceable undertakings and proactive compliance deeds. Finally, we assess these approaches in light of the principles of strategic enforcement.

An overview of the FWO

Under the Australian system of labour relations regulation, the FWO is the enforcement agency responsible for securing compliance with minimum employment standards set by the federal Fair Work Act 2009 (Cth; FW Act). In carrying out its responsibilities, the agency has a number of roles, including educating employers and employees about workplace rights and obligations, taking action to determine compliance with minimum employment standards under the Act and imposing sanctions and commencing proceedings against employers, employees or unions who breach the FW Act or employment instruments made under the Act.

In carrying out its functions, the FWO faces a number of challenges. Most notably, from 2010 onwards, resourcing of the agency has declined significantly. In addition, the shifts in the structure of work organisation summarised in the introduction to this paper create difficulties for the FWO at nearly every turn in the regulatory process. The fragmentation or fissuring of work that we have described can negate or undermine regulatory protections for workers, which often attach to standard employment relationships. These arrangements can also create ‘uncertainty for inspectors checking compliance, … making investigations more complex and resource intensive’ (Maconachie and Goodwin, 2010: 423). Further, the restructuring of work has meant that formerly accessible workplaces are now more difficult for inspectors to access and influence (Walters et al., 2011). As Campbell and Peeters (2008: 42) observe:

Subcontracting can be fully above-board, but its survival and spread seems to derive from opportunities it provides for fostering illegal practices. Thus the chain of subcontracting at ever-reduced prices trails away into a shadowy realm of small firms and individuals, where illegal practices can be pursued without much risk of detection or protest.

Another problem with a heavily complaints-orientated strategy is that it can lead to investigations that are shaped by the specific concerns of the relevant individual worker and are confined to the individual employers at the level where the workplace contraventions are occurring. The reactive nature of the regulatory agency is compounded by the fact that complaints may or may not reflect more systemic problems within particular regions or industries. Even if the complaint does raise such problems, an investigation into such a complaint may not be directed at addressing the deeper, systemic issues driving employee vulnerability and employer noncompliance (Weil, 2010: 8).

Fragmentation in the traditional employment relationship not only inhibits the exercise of employee voice, it presents real problems for enforcement with minimum labour standards. For a start, these arrangements can often convolute chains of ownership and cloud lines of accountability. Indeed, workplace regulation generally presumes the existence of an ongoing employment relationship and the triangular relationship (between agency workers, their agency and host employers) serves to undermine this presumption and foil regulatory oversight (Johnstone and Quinlan, 2006). As a result, it is now much more difficult for inspectors to identify the true employer and/or the person or company, which is driving and deriving benefits from the arrangement, some of whom may be located outside Australia.

Another regulatory challenge raised by the disaggregation of the workforce is the fact that fewer workers are employed by large, established and well-resourced organisations with legal departments and human resources expertise. Instead, workers are increasingly employed by small businesses and/or labour hire companies, which may have a short corporate history and a limited asset base. The dispersed nature of these workplaces not only drains inspectorate resources, but can reduce the deterrence effects of interventions and therefore motivations to comply, as the risk of being investigated and sanctioned is fairly slim.

In response to this range of problems, from the start of 2013, the FWO has publicly sought to implement a more ‘strategic’ approach to compliance and enforcement. This new regulatory approach is based, at least in part, on the model of ‘strategic enforcement’ developed by Professor David Weil on the basis of his research into employment standards regulation in the USA (Weil, 2010). Before considering the key initiatives of the FWO, and the extent to which they reflect the model of strategic enforcement, it is useful to summarise the central tenets of this particular regulatory approach.

A summary of the strategic enforcement model

Strategic enforcement is framed around four central principles, which can be used to guide the design and implementation of enforcement policy, namely prioritisation, deterrence, sustainability and systemic effects. The principle of prioritisation as conceptualised by Weil not only takes into account the risk posed by individual firms, but also considers as part of the risk analysis the likely outcome of any intervention. In applying this principle, Weil (2010: 3) argues that regulators should:

pursue strategies that focus at the top of industry structures, on the companies that affect how markets operate and many of the incentives that ultimately affect compliance. This starts with having a clear ‘map’ of how priority industries operate and how that results in employer behaviour.

Second, strategic enforcement requires that deterrence effects are factored into all regulatory activities. Although Weil acknowledges that there is a range of compliance motivations, he argues that the deterrent impact of regulatory interventions is critical to achieving compliance. Further, he asserts that, as industries ‘fissure’ and businesses become smaller and more numerous, the deterrent element grows in importance. In the context of strategic enforcement, the conceptualisation of deterrence is much broader than specific deterrence of the contravening firm. Rather, within the strategic enforcement model, deterrence can be linked to the symbolic and expressive value of sanctions (commonly referred to as ‘general deterrence’) and draws power not just from the penalty imposed, but from the business and reputational costs of the relevant regulatory intervention (Pires, 2008: 223; Weil, 2010: 3). More specifically, Weil (2010: 81) notes:

[t]hat all investigations are not created equal. Some investigations have very local effects, essentially limited to the worksite being investigated. But other investigations seem to have much stronger ripple effects that go on to affect the behaviour of other establishments controlled by the firm, or, more interestingly, the behaviour of other companies in the same industry or geographic area.

Sustainable and ongoing compliance is the third objective of strategic enforcement. This potentially reflects the fact that employer recidivism is the bane of many inspectors. Rather than focussing on the compliance status of the individual employer at the time the inspection takes place, Weil contends that enforcement effects should be measured and judged more broadly so that they take account of interventions, which lead to the institutionalisation of positive compliance behaviours and approaches.

The final principle of strategic enforcement is that of ‘systemic effects’. This principle overlaps, in part, with the prioritisation and deterrence principle in so far that all these notions are premised on building a ‘map’ of the relevant regulatory space and then acting accordingly. The systemic effects principle is more focussed, however, on addressing the underlying drivers of compliance. Weil (2008: 356) explains that:

Increasingly complex workplace settings require inspectorates to consider how to achieve geographic, industrial and/or product-market effects. Employer practices in the workplace are an outgrowth of broader organisational policies and practices, often driven (implicitly or explicitly) by competitive strategies or forces. Bringing an understanding of the impact of these larger factors into the regulatory scheme potentially allows enforcement to have systemic rather than local effects.

Recent regulatory innovations of the FWO

In the past two years, the FWO has begun to ‘map’ the regulatory terrain. As a result, the regulator has become increasingly aware that there may be many layers between workers and the ultimate beneficiary of the labour (James, 2014: 3). Accordingly, the federal regulatory agency is increasingly determined to make major employers accountable for their procurement decisions. The head of the FWO recently commented that:

Big companies sub-contracting out services on their sites have a responsibility to ensure those contracts do not undercut minimum employee entitlements. This responsibility extends to supply-chain contractors. Just because a company doesn't ‘own’ the contract doesn't mean it can wash its hands of it. (FWO Media Release, 2014)

Analysis

This section provides a preliminary assessment of the extent to which each of these initiatives reflects the key principles of strategic enforcement that were summarised earlier in this paper, namely prioritisation, deterrence, sustainability and systemic effects.

Whilst it is somewhat difficult to assess the extent to which the FWO has adhered to the principle of prioritisation, given the limited number of signatories (in the case of proactive compliance deeds) and respondents (in the case of supply chain litigation), preliminary analysis of the relevant interventions suggests that certain sectors have been specifically targeted by the FWO. It is also increasingly evident that this is part of a deliberate strategy on the part of the regulator. Earlier this year, the head of the FWO explicitly identified cleaning, security and trolley collecting as industries of interest. All three of these industries display the relevant characteristics identified as critical to strategic enforcement – that is, they have a high number of vulnerable employees who are often fearful to complain. Further, these industries are intensely competitive and this has frequently led to supply chains becoming highly fissured. In line with the FWO's public position, our analysis reveals that the cleaning sector has increasingly become a target of proactive compliance deeds (e.g. Asset Industries Deed, 2013; Spotless Services Deed, 2012). Trolley-collecting services have also been a focus as illustrated by the Coles litigation and enforceable undertaking, as well as the proactive compliance deed with United Trolleys.

In comparison, the fast-food industry – which has been the subject of multiple proactive compliance deeds – has not been named as a priority industry. Notwithstanding this omission, it is clearly apparent that the FWO is aware of, and sensitive to, the compliance and enforcement opportunities presented by the unique hierarchical relationship between franchisors and franchisees. Indeed, the highest number of proactive compliance deeds has been made in the fast-food industry. This sector also features strongly in another voluntary and innovative initiative undertaken by the FWO, namely the National Franchise Program. The National Franchise Program was first piloted by the FWO in 2012 to address concerns about employment standards noncompliance by many franchisee employers, often small businesses.

Finally, the security industry – a sector explicitly identified as a priority for the FWO – has not been the subject of any proactive compliance deeds, nor has it been the focus of procurement chain litigation. The FWO has, however, recently commenced a proactive education campaign regarding the procurement of security services by local governments. In this campaign, the regulator, together with the relevant employer association and trade union, aim to raise awareness amongst local councils about proper procurement processes and contract conditions that need to be met to ensure that security workers are paid by subcontractors in accordance with the relevant legal obligations. ⁴ Whilst this last initiative in the security industry is promising – particularly as it explicitly involves significant nonstate actors – it arguably lacks one of the most important elements of strategic enforcement, namely deterrence.

The principle of deterrence is most obviously and most closely associated with supply chain litigation. The fact that the two most significant examples of supply chain litigation ultimately ended with an enforceable undertaking raises a number of critical issues in terms of strategic enforcement. Whilst it is generally accepted that enforceable undertakings deliver specific deterrence, it is less clear whether undertakings with lead firms still create the necessary ‘ripple effects’ to prompt behaviour change beyond the particular firm or supply chain that has been targeted. Whilst these particular questions can only be answered with the passage of time, the FWO's approach in these two cases also presents a number of other potential problems. In particular, by discontinuing the proceedings prior to the final hearing, the FWO has arguably missed an important opportunity to contemplate and clarify the boundaries of risk and responsibility in sectors which are characterised by fissured employment practices.

Unfortunately, in the absence of any authoritative decision, the scope of these statutory provisions remains indeterminate. Further, there is a question about the extent to which the FWO's threats to bring enforcement proceedings against supply chain heads may start to lose credibility and force in the event that no litigation reaches a final hearing, but is instead settled earlier by way of an enforceable undertaking or otherwise. That said, just bringing these test cases may be enough to change the ‘compliance calculus’ (Weil, 2010: 88) of larger firms, particularly those that are brand sensitive. Indeed, in the case of Coles and TCS, it has been clearly sufficient to provide the necessary incentive for these firms and others within the relevant supply chain or corporate structure to enter into other voluntary initiatives, such as enforceable undertakings and proactive compliance deeds.

Our review of the FWO's recent use of proactive compliance deeds suggests that there is a potential tension between the deterrence and sustainability principles of strategic enforcement. Indeed, the regulator has consistently promoted proactive compliance deeds as more about building a ‘partnership’ with the FWO and less about punishing or threatening the company for past poor practices. This approach has manifested itself in two main ways. First, a number of proactive compliance deeds do not have any auditing requirement (e.g. Hays Deed, 2014) and a number of other deeds require self-auditing only – there is no need to ensure that the pay checks are necessarily accurate and/or independent (e.g. Breadtop Deed, 2013). These omissions arguably undermine some of the most powerful aspects of these instruments, which are often seen to address some of the deficiencies of a reactive, complaints-based approach. In particular, proactive auditing requirements allow the regulator to move beyond the specific concerns of individual employees and gain greater insight into some of the structural or systemic drivers of noncompliance within the supply chain, the franchise network or the industry more broadly.

A second consequence of the regulator emphasising partnership over punishment is that the deeds lack any form of real accountability and there is a level of uncertainty about their enforceability. If the company fails to comply with the relevant commitments, there may be very few formal enforcement options realistically available to the FWO other than leveraging brand and reputational concerns. In many respects, proactive compliance deeds are somewhat similar to the voluntary monitoring agreements that were concluded as part of the ‘No Sweat’ campaign in the US garment industry. However, a major difference between the US monitoring agreements and the Australian deeds is that the latter lacks any credible enforcement process. This is a potentially significant deficiency.

Previous research suggests that enforcement pressure is critical for sustaining firm commitment to self-regulatory mechanisms in two key respects. First, without the ‘teeth’ of government sanctions, there is less incentive to establish and support ongoing monitoring regimes. It may be the case that proactive compliance deeds increasingly become ‘softer’ – geared towards serving the interests of the signatory rather than the regulator by focussing on complaint resolution rather than independent auditing. Second, whilst the monitoring systems set up in the US garment industry had a significant influence on compliance behaviour over the period in which WHD was actively enforcing the ‘hot goods’ provision, when the enforcement pressure receded so too did the effects of earlier interventions (Weil, 2010: 87). In other words, a level of enforcement capability is important not only for prompting regulatory enrolment, but also in ensuring that the commitments of lead firms are sustained (Hardy, 2011). This is particularly important when thinking about the utility of proactive compliance deeds for firms that are less dependent on consumer markets, and therefore are not so concerned with brand protection.

In comparison, the design of enforceable undertakings appears to strike a better balance between the two principles of deterrence and sustainability. Like proactive compliance deeds, a key objective of enforceable undertakings is to save inspectorate resources, entrench corporate commitment to compliance and prompt self-regulatory behaviour. Indeed, many of the commitments set out in enforceable undertakings and proactive compliance deeds are somewhat similar – for example, requiring companies to provide specialised training, undertake audits, appoint a central liaison officer etc. However, as enforceable undertakings are authorised and governed by the statute, they are necessarily less flexible and more formal. Most importantly, a failure to adhere to the relevant commitments set out in an enforceable undertaking can allow the FWO to enforce the instrument in court.

In the Coles and TCS cases examined earlier, the supply chain litigation, combined with the subsequent enforceable undertakings, clearly prompted positive and sustainable change within the respective supply chains. Most notably, Coles has moved away from a multiple contractor model, has engaged a sole trolley-collection contractor in the interim and ultimately intends to directly employ the trolley-collecting workers. Similarly, TCS has agreed to a new business model that involves directly engaging telemarketers as employees rather than as independent contractors. These vital changes not only reflect the principles of systemic effects and sustainability; they may also potentially, and in the longer term, influence the prioritisation of industries by the FWO. For example, if all major supermarkets bring trolley-collection services ‘in-house’, it is likely that this industry will no longer display the fissured employment characteristics that made it initially vulnerable to exploitation and later amenable to strategic enforcement by the regulator. In this respect, the FWO's intervention has arguably signalled the beginning of the end of the most deleterious forms of fragmented supply chains.

It is clear that a key driver of the FWO's recent approach has been the systemic effects principle: the final element of the strategic enforcement model. As discussed already, this principle encourages labour inspectorates to ‘pursue strategies that focus at the top of industry structures, on the companies that affect how markets operate and many of the incentives that ultimately affect compliance’ (Weil, 2009: 417). The Coles case provides a helpful example of the way in which the systemic effects principle has been implemented in practice. By targeting the lead firm in the supply chain, rather than the direct employer, this litigation (and the subsequent enforceable undertaking) has effectively prompted wider change in the way in which trolley collectors (and other workers throughout the supermarket supply chain) are engaged and paid. However, as previously noted, it is not yet clear whether this enforceable undertaking will ultimately deliver the same ‘ripple effects’ as civil remedy litigation – only time will tell.

In addition, proactive compliance deeds represent one of the most groundbreaking attempts by the FWO to leverage the private hierarchical order of franchise networks and complex supply chains to improve compliance outcomes amongst franchisees and subcontractors (Rawling, 2006: 522). These initiatives have effectively not only allowed the regulator to shift significant enforcement costs to companies which are generally well-resourced, but have also allowed the FWO to delegate some of its enforcement responsibility to firms that are in a powerful strategic position in terms of triggering motivations to comply throughout the broader franchise network or supply chain. For example, engaging with principal contractors under the auspices of a proactive compliance deed is not only important in preserving inspectorate resources, but affords the FWO a unique opportunity to change behaviour at wider industry and geographic levels, given that subcontractors and franchisees are particularly sensitive to maintaining their relationship with the principal and the franchisor respectively (Weil, 2010: 3). Proactive compliance deeds are highly malleable and provide an alternative way in which to harness lead firms or head franchisors that may not be eligible to sign up to a statutory enforceable undertaking under the FW Act. Whilst these instruments may be better placed than enforceable undertakings to achieve systemic effects, the lack of deterrence may mean that the modifications to business models and employment practices are not as deep, profound or enduring as those which have occurred under the recent enforceable undertakings.

Conclusion

The changing structure of the labour market, including the rise in complex supply chains, has potentially exacerbated employee vulnerability and perpetuated employer noncompliance. However, the increasing power of lead firms also presents the federal regulatory agency responsible for employment standards enforcement with a range of new enforcement possibilities. The model of strategic enforcement developed by David Weil is designed to capitalise on such opportunities. This article has reviewed three significant compliance initiatives of the FWO – supply chain litigation, enforceable undertakings and proactive compliance deeds – with a view to assessing the extent to which they reflect key principles of strategic enforcement. It is clear that the model of strategic enforcement has been highly influential in the design of these experiments which all target, to varying degrees, head franchisors and lead firms. In this respect, the regulatory agency recently commented that:

The Fair Work Ombudsman will continue to strategically use compliance and education activities to create awareness among large organisations that it is not acceptable to be indifferent regarding the treatment of people that work for, and within, their organisations just because it does not directly employ them. (FWO Media Release, 2014)