intro easy

CASE: SM-237
DATE: 10/30/2014

Debra Schifrin and Professor Paul Brest prepared this case as the basis for class discussion rather than to illustrate
either effective or ineffective handling of an administrative situation.

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KNIGHTS APPAREL AND THE ALTA GRACIA FACTORY:
PAYING A LIVING WAGE

A lot of my competitors or people in the business world might think that building the Alta Gracia
factory and paying workers a living wage—more than 350 percent of what is required—does not
make sense. But it makes sense for us…. We know why we are doing it, and we believe we are
doing it for the right reasons from a social responsibility standpoint as well as a business
standpoint.

We are the ones who said,‘We will make it a reality. We don’t know if it is going to work. We
don’t know whether the consumers will support it if we do it,’ but we took the risk.

—Joe Bozich, Knights Apparel Inc. founder and CEO, April 30, 2014, Stanford
University.

INTRODUCTION

In February 2014, Knights Apparel founder and CEO Joe Bozich walked through the company’s
well-lit and spacious Alta Gracia factory in the Dominican Republic. 140 workers sat behind
sewing machines and production equipment making university branded T-shirts, sweatshirts and
other apparel for shipments to over 800 college bookstores all over the United States. Knights
was the number one provider of licensed collegiate logo apparel,1 having just surpassed Nike.
Alta Gracia opened in April 2010, and it provided something unusual for factories in low-income
countries—a living wage. While factory workers in some low-income countries received a
minimum wage, this was often not enough to pay for workers’ basic needs and the needs of their
families. For example, the minimum wage in Bangladesh was 34 cents an hour. In the
Dominican Republic, the minimum wage was 80 cents an hour, but Knights was paying Alta
Gracia workers 350 percent higher wages—$2.80 an hour (the equivalent of $500 a month), plus
benefits, including health care. These wages allowed workers not only to provide consistent

1 As measured in dollars shipped to retailers of college apparel.
Source: The Collegiate Licensing Company, August 20, 2014 (July 1, 2013 ‒ June 30, 2014).

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food and shelter for their families, but also to save money, provide their children with a good
education and build houses. Workers were also allowed to unionize. Productivity was very high
at the factory. Alta Gracia’s brand motto was “Changing Lives One Shirt at a Time.”

Joe Bozich was the driving force behind the Alta Gracia project, and he came to it from both
personal and business motivations. Personally, he was looking for a way to use what he called
his “sphere of influence” to provide hope and a pathway out of poverty for people. He said that
being so successful in the licensed collegiate apparel industry gave Knights the resources and
reputation necessary to build the Alta Gracia factory.

From a business perspective, he saw the opportunity presented by the growing number of
university students unhappy with the working conditions of the people making their schools’
branded apparel. Student activist groups and labor rights groups were demanding that
universities change their practices and only license to companies whose products were produced
in factories with higher than sustenance-level wages and safe conditions. Bozich believed the
demand for such products was expanding rapidly, and the Alta Gracia factory would put Knights
in a position to respond to that demand as well as enhance its corporate image. It also opened up
a new, premium sales channel for Knights. The company was already very successful selling its
sports branded apparel to mid-tier market retailers, such as sporting goods stores and J.C.
Penney, as well as mass market retailers such as Wal-Mart and Target. But before Alta Gracia,
Knights did not have a presence in campus bookstores, where collegiate logo apparel
commanded a much higher price. Many student organizers were embracing the Alta Gracia
brand—actively promoting it to their peers through flyers and social media and pushing their
universities to stock the factory’s products in their bookstores.

However, Alta Gracia’s production costs were 20–30 percent higher than at Knights’ other
factories, and Alta Gracia was losing over half a million dollars a year. Knights was able to keep
Alta Gracia operating by subsidizing it with funds from its profitable business units. Knights
worked with contract factories in other countries that did not offer a living wage (although
Bozich said they were independently audited to ensure safe working conditions and met or
exceeded all university and Knights Apparel codes of conduct). Knights was also providing Alta
Gracia with supportive and back-end functions from its headquarters in South Carolina—another
form of subsidy.

The Alta Gracia factory had capacity of 1.2 million units a year, based on its existing
compliment of equipment and people, which would translate to a $25 million retail business.
But in 2013 the factory’s capacity utilization rate was 60 percent, and it needed to get up to 80
percent to break even. Knights was a private company, but Bozich was still accountable to his
board and the company’s large multi-billion-dollar institutional investors. Over time, Bozich had
convinced many of them to back Alta Gracia, but he needed to pull the factory into profitability
soon in order to prove it was a viable business model. If Alta Gracia was successful, should it be
expanded? Would Knights be able to replicate it? And if so, should the company replicate it?
Other companies had tried and failed to offer a living wage and become profitable. Would
Knights be different?

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THE GLOBAL APPAREL MANUFACTURING INDUSTRY

In 2013, the global apparel manufacturing industry’s revenue was estimated to be around $600
billion, and it had 9-10 million factory workers.2 The United States was the industry’s largest
market, accounting for 16.7 percent of industry revenue—90 percent of which came from
imports.3 Most large U.S. and European apparel companies used contract factories in the
developing world to manufacture their clothing in order to take advantage of significantly lower
labor costs. China accounted for 38 percent of total industry exports,4 but as wages in China
began to rise, large companies were increasingly turning to contract factories in nations with
even lower labor costs like Bangladesh, Cambodia, Laos and Vietnam.

Overall, competition was high and market concentration was low. The four largest players each
held less than 2 percent of market share, and the average operator held less than a 0.5 percent
share. In emerging nations it was common to have a large number of micro-businesses that
manufactured clothing.5 It was a highly labor-intensive industry, and while there were some
productivity increases due to new technology, for the most part garments needed to be sewn by
hand or with specialized sewing machines. In addition, the assembly processes required many
manual steps. Because of this, there were few economies of scale.

Apparel manufacturing companies had some industry-wide challenges including: 1) continually
fluctuating commodity prices, 2) quickly-changing fashions and trends, which required ever-
greater needs for speed in getting clothes to the market, and 3) the cyclical nature of the industry
—spring and fall were when new clothing lines hit stores.

Apparel Workers’ Conditions

Workers in many apparel factories in developing countries experienced extremely difficult
conditions. According to Scott Nova, executive director of the nonprofit labor rights watchdog
group Workers’ Rights Consortium, the most serious were:

1. Sub-poverty wages and periodic layoffs
2. Unsafe working conditions
3. Forced and excessive overtime
4. Psychological and sometimes physical mistreatment of workers by supervisors
5. The inability of workers to exercise their right to organize and bargain collectively.

Major Causes of Poor Working Conditions in the Apparel Industry
Competition in the apparel industry was fierce, and in order to offer lower prices to consumers,
apparel companies demanded that its contract factories produce goods at very low cost. Lower
production costs also translated into higher profit margins for the apparel companies. This led
many factory owners to put cost demands ahead of the well-being of its workers, which many
times resulted in the harsh conditions listed above. Profit margins in the industry were slim and

2 IBISWorld report, “Global Apparel Manufacturing,” July, 2104.
3 First Research.
4 IBISWorld report, op. cit.
5 Ibid.

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many factories were relatively small, so losing a contract to another factory could mean going
out of business completely. Because of globalization, apparel companies had the ability to chase
lower costs around the globe, increasing pressure on factories to compete with factories in lower-
wage countries. Because the apparel industry was cyclical, low demand in non-peak seasons led
factories to lay off or furlough workers for months at a time. But, as Scott Nova from the
Worker Rights Consortium (WRC) explained, “Although it is true that there is less need for
production work in January than there is in October, workers still need to eat in January.”6

The level of regulation in the industry was light.7 And although many countries and individual
companies had codes of conduct for treating workers, factory non-compliance was common.
According to the research of Brown Professor Richard Locke, in spite of non-compliance with
brand codes of conduct, it was rare for a company to fire a supplier or pull out of a factory,
especially if there was a strong demand for turnaround on a particular product.8 Factories often
got multiple chances to change their behavior to comply with codes of conduct, but only got one
chance to deliver goods at the low cost that companies demanded. Countries often did not
enforce compliance in their factories, either because they turned a blind eye, or because they did
not have the capacity or technology necessary to do so.

Factories were hard to monitor, in large part because when apparel companies, nonprofits or
countries tried to do so, the factories would often close to avoid compliance and then quickly
relocate and re-open under a different name or different ownership. Compounding this was the
practice of factories to subcontract work to other factories, which often did not comply with
codes of conduct. Apparel companies many times did not have information about these
subcontractors, or might not even know their work was being sub-contracted.

The Argument Against Paying a Living Wage

Labor activists had been pushing for years for apparel companies to pressure their contract
factories to pay workers a “living wage” or “fair wage.” However, industry opposition to this
was strong, and activists’ efforts had been mostly unsuccessful. Industry players argued that
suddenly hiking up wages in a factory could have unintended consequences. Rather than helping
workers, it could result in factories closing down or eliminating jobs, and companies could move
production out of an area or an entire country. Another argument was that it could destabilize
the economy of the community where the factory was located.

THE COLLEGE LICENSED APPAREL INDUSTRY

In 2014, the collegiate licensed goods industry was $4.6 billion a year at retail—about $2 billion
a year at wholesale—and apparel represented 65 percent of that market. There were many
competing manufacturers, the best known of which were Nike, Champion, Adidas and Under
Armour. These manufacturers could charge premium prices based on quality, reputation and

6 All quotes are from case author interviews unless otherwise noted.
7 IBISWorld report, “Global Apparel Manufacturing,” July, 2104.
8 Richard Locke, The Promise and Limits of Private Power: Promoting Labor Standards in a Global Economy
(Cambridge University Press, 2013).

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name recognition. Knights’ model was different in that it did not have its own recognizable
brand—Alta Gracia would be its first foray into developing its own apparel brand.

The collegiate branded apparel industry was split into three major retail categories: mass market
(22 percent), mid-tier (38 percent), and bookstores (26 percent). In addition, e-commerce
represented 7 percent, and 7 percent fell under “other.” University bookstores were managed
either by the university itself or by third-party contractors. The two biggest contractors were
Barnes & Noble College Booksellers and Follett Higher Education Group.

Knights was unique in the apparel industry for owning its own factory (Alta Gracia) in a low-
income country. Like the rest of the apparel industry, companies making collegiate apparel
(including Knights) contracted their production to local factories in developing nations because
of much lower labor costs. The college apparel industry had an added motivation for using a
contracting model: sales volume was quite cyclical. Most products were sold just before the
school year started and in time for the December holidays. Contracting production allowed
companies to seasonally adjust their volumes without having to worry about unused capacity and
fixed overhead costs.

Student Activism

In the 1990s, a wave of protests took place in the U.S. against companies whose apparel was
made in the developing world in factories with “sweatshop” conditions. College students played
a big role in the anti-sweatshops campaign, outraged at revelations of child labor, forced
overtime, unsafe working conditions, sub-poverty wages and anti-union violence—even in
factories that made brand-name and high-end apparel. A contingent of students organized
United Students Against Sweatshops (USAS), which convinced universities to impose labor
conditions on apparel brands that made university logo goods. USAS also persuaded the
universities to require the brands to disclose the names and locations of the factories where they
made these goods. Once the locations were known, groups such as the Workers Rights
Consortium (WRC) and the Fair Labor Association (FLA) could monitor the factories. (Note
that the FLA was funded by companies and had companies on its board.) The FLA and WRC,
along with other groups, developed codes of conduct for factories making collegiate apparel.
However, as mentioned earlier, monitoring factories to ensure codes of conduct was rife with
problems.

JOE BOZICH

In the early 1980s, Joe Bozich was a pre-med student at Vanderbilt University where he got a job
keeping the university’s weight room in order. A group of professional weightlifters who trained
at the gym took him under their wings and got him started as a competitive weight lifter. He
went on to win the 1985 NCAA National Bodybuilding championship and served as a
spokesperson for Weider Enterprises, Gold’s Gym, and Mattel Corporation. He began his
apparel career as vice president of sales and marketing with Gold’s Gym and quickly advanced
to the position of president of the consumer products division. He founded Knights Apparel in
2001 and served as its CEO.

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Knights Apparel and the Alta Gracia Factory: Paying a Living Wage SM237

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KNIGHTS APPAREL

Knights was one of the largest suppliers of sports licensed apparel in the United States, supplying
close to $400 million a year in retail dollars. It had rights to the National Hockey League and
was the largest supplier of college apparel in the U.S. (See Exhibit 1 for Knights Apparel major
milestones and Exhibit 2 for rankings of collegiate apparel suppliers.) Knights sold its products
to mid-tier and mass-market retailers, and with Alta Gracia was breaking into the college
bookstore channel. The company had 216 employees in the U.S. and 140 at Alta Gracia.
Knights did business with 21 total contract factories outside the United States, including in
Bangladesh, China, Egypt, and the United States. (See Exhibit 3 for Knights factory location
list.) All factories were independently audited, and Bozich said that although some “normal”
problems had cropped up with pay issues, such as mistakes in calculating overtime, and other
similar issues, Knights had not found any intentional fraud or misconduct.

Knights Apparel was originally owned by Milestone Partners in partnership with Bozich. In July
2011, Merit Capital Partners acquired Knights Apparel in partnership with Bozich and other top
managers. Merit Capital Partners had a 75 percent stake, and the group of managers had a 25
percent stake.

ALTA GRACIA FACTORY

History

The Alta Gracia factory was located in the small town of Villa Altagracia—two hours northwest
of the Dominican Republic’s capital, Santo Domingo. In 1989, the Dominican Republic opened
a Free Trade Zone (FTZ) in the town,9 which brought in new factories, including the town’s
largest textile factory, BJ&B—a contract factory owned by the South Korean company
Yupoong. BJ&B made baseball hats for retailers like Nike and Reebok.10 BJ&B’s continual
violations of university codes of conduct caused the student activist group United Students
Against Sweatshops (USAS) to protest and successfully pressure BJ&B to allow a union to form
and permit collective bargaining. However, once BJ&B allowed a union, Yupoong began selling
off its equipment and downsizing the factory, and its major customers started shifting their
orders to other Yupoong factories in Asia. BJ&B began laying off employees on a large scale in
2004. By the time it abandoned the factory in 2007, 3,500 employees had lost their jobs.11

A New Factory for Knights

In 2007, Bozich began exploring where to build a model living-wage factory, and he was
attracted to the then-closed BJ&B factory for both business and social reasons. From a business
standpoint, the infrastructure was already there, and there were many experienced and skilled
garment workers who had previously worked for BJ&B who could be hired to work at Alta

9 John M. Kline and Edward Soule, “Alta Gracia: Four Years and Counting,” Research report, Reflective
Engagement Institute, Georgetown University, August 2014.
10 Adidas bought Reebok in 2005.
11 Jackie Northam, “Can This Dominican Factory Pay Good Wages and Make a Profit,” NPR, June 20, 2013,
http://www.npr.org/blogs/parallels/2013/06/20/193491766/can-this-dominican-factory-pay-good-wages-and-make-
a-profit (July 30, 2014).

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Gracia. There were operational advantages to having a factory in the Western Hemisphere, such
as quicker and cheaper transportation to the United States than from a factory in Asia. From a
social standpoint, the area had high levels of unemployment and poverty, making it a place
where a living-wage factory could have a large positive impact on people’s lives.

Knights put $500,000 upfront toward renovating the abandoned factory. When doing the
renovation and allocating resources to Alta Gracia, Knights had to assess the risk and decide how
much capacity it wanted Alta Gracia to have. Bozich chose a capacity of 1.2 million garments a
year because he was committed to having a factory big enough to make a real difference in the
community—even though the predicted timeline for breaking even would be longer than for a
smaller factory.

From the beginning, Knights met and worked with Fedotrazones, one of the Dominican
Republic’s main garment workers’ unions. Knights held discussions with the union and some
former BJ&B workers about wages and safety issues, how the factory should be set up, and the
best way to fairly hire new workers. According to the WRC’s Nova, the union was able to
function and be organized without resistance, which he said was “unprecedented in my
experience in a garment factory…. The fact that Knight worked with the union from the outset
speaks very well of the company and it made a significant difference in the project.”

The renovations began in October 2009. Knights started hiring workers the following February,
and the factory opened in April 2010. In 2013, Alta Gracia retail sales were about $11 million,
and it needed to reach $16 million to break even. Alta Gracia could get to $16 million if it was
able to increase capital utilization from 60 to 80 percent. The factory lost a half million dollars a
year for its first three years.

PAYING A LIVING WAGE

There was no single definition of the term “living wage” in the industry. Knights based its living
wage on the country specific market basket analysis done by the WRC. Knights asked and
answered the question of how much money employees would need to receive to meet all of life’s
necessities, not just for themselves, but also for their family: food, housing, energy, medical care,
child care, transportation, education, clean water and clean clothing.

Wages were calculated using a legal maximum workweek of 44 hours, and voluntary overtime
wages were 35–100 percent higher than base wages, depending on the time, day and prior work
schedule.12 Year-round employment was guaranteed, so when factory orders declined, Alta
Gracia did not lay off or furlough workers, as was typically done in other factories.

Benefit and fringe payments for Alta Gracia workers equaled about 38 percent of wages—
covering paid holidays, vacations and severance accrual as well as contribution to government
funds for worker health and pension programs. Other benefits included child care, health care,
and on-the-job training. The combined monthly wage and benefits for Alta Gracia workers was

12 John M. Kline and Edward Soule, “Alta Gracia: Four Years and Counting,” Research report, Reflective
Engagement Institute, Georgetown University, August 2014.

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about $750. That was in sharp contrast to the minimum Free Trade Zone (FTZ) wage in the
Dominican Republic, which was about $215 (including benefits).13

When Knights was setting up the factory, it hired the independent Maquiladora Health and
Safety Network to analyze the factory from a safety perspective. Knights followed
Maquiladora’s recommendations about the factory layout, ventilation, chairs, and lighting. The
result was expensive, ergonomic chairs for every employee. The factory was airy and light, and
workers could play the music of their choice. As mentioned earlier, Alta Gracia workers were
allowed to unionize and engage in collective bargaining, and lawyers regularly came to the
factory to explain workers’ rights to them.

Transparency and Monitoring

Knights was transparent about the workings of the factory, including wages, benefits and health
and safety conditions. Knights allowed NGOs, labor rights groups, student activist groups and
universities to communicate directly with factory management and employees without the
presence of Knights’ management. Alta Gracia had an open-door policy, and those groups
visited the factory on an ongoing basis.

It was strategically important for Knights that a credible third-party verify its labor practices and
wages. Bozich decided to work with the WRC, which he described as one of the toughest critics
of Knights and other companies in the industry. Bozich and the WRC agreed that the WRC
would carry out monthly on-the-ground monitoring of the factory to verify Alta Gracia’s
compliance with the standards the factory had agreed to. Bozich gave WRC unfettered access to
Alta Gracia’s books and records, so the group could audit those monthly and put all its findings
on its website. Each Alta Gracia garment had a WRC tag stating the product was sewn by
workers who were paid a living wage, were represented by a union and had fair working
conditions.

WORKERS’ NEW OPPORTUNITIES

For workers earning a living wage at Alta Gracia, the immediate benefit was being able to
reliably provide food for their families and have food that was much higher in nutritional value.
Higher wages allowed for other life improvements as well: home renovations and improvements
to make homes safe and more livable; primary, secondary and college education for children;
adult education for workers; transportation, such as putting a down payment on a motor scooter;
and paying off old debts to food vendors, family and friends.14

Bozich described what workers told him about how the higher wages and benefits made a
difference in, or even saved, their lives. For example, a factory worker diagnosed with cancer
was able to get treatment because she had medical insurance through Alta Gracia. She was cured
and went back to school to become a medical assistant because her experience made her want to
work in that field.

13 Ibid.
14 John M. Kline, “Alta Gracia: Branding Decent Work Conditions: Will College Loyalty Embrace ‘Living Wage’
Sweatshirts?” Research report, Walsh School of Foreign Service, Georgetown University, August 30, 2010.

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Another factory worker was building a new home for her family, and also one for her father, who
was 85 and had Alzheimer’s. Bozich said he could see the joy on her face when she said, “I …