Political Risk Analysis of the 2008 Sanlu Melamine Scandal and 2013 Fonterra Botulism Scandal

This post is part of a longer research paper.  It was adapted for the Australia and New Zealand Studies Association Conference at the University of Texas in Austin on February 8, 2014.

New Zealand’s agricultural sector not only makes up the majority of its exports but also constitutes an important part of the country’s cultural identity. Risk events related to Fonterra can have significant impacts and spillover effects as the world’s largest dairy exporter. An initially localized quality problem can lead to the perception of risk on a global scale. Fonterra’s experience with two major health risk events exemplifies the imperative of risk communication and management strategies for businesses and governments to cope with risk and show accountability to stakeholders.[1] Tools of political risk analysis can help organizations to evaluate multi-layered risk situations, create risk communication strategies and mitigate spillover effects caused by social amplification. This essay compares the 2008 Sanlu melamine scandal and 2013 Fonterra botulism scandal through a risk analysis approach from the behavioral sciences. The latter provides political risk analysts a valuable tool to understand how society responds to new and unfamiliar technologies and risks, and how to manage them. In 2008, Sanlu’s information vacuum led to health problems and widespread social reactions, damaging firms and individuals. In 2013, early risk communication benefited public health but was detrimental to reputations of Fonterra and the New Zealand dairy industry; long-term effects of Fonterra’s risk communication are still unknown but are likely to be positive, displaying a desire for transparency and risk avoidance.

Risk Terms

The field lacks a unified definition of political risk, but the term implies a change in circumstances, usually a loss, for a defined actor or set of actors. Charlotte Brink’s definition of political risk analysis is aimed toward foreign investors, encompassing

the probability that factors caused or influenced by the (in)action or reactions of stakeholders within a political system to events outside or within a country, will affect investment and business climates in such a way that investors will lose money or not make as much money as they expected. [2]

Importantly, Brink shows that risks can be caused by lack of action, such as withholding information.

For public and experts, risk perceptions are built primarily using three factors: 1) degree to which the risk is understood; 2) level of dread; 3) number of people exposed.[3] People use ‘affect heuristics,’ or mental shortcuts, to process judgments about the “positive or negative quality of a stimulus.”[4] The affect heuristic is important in changing perceptions of a hazard, as access to more information can sway perception.[5] Whether risk communication seeks to inform or advocate, it is important to inform early, regularly and with accurate information to gain maintain trust, and encourage desired behaviors from the target audience.[6] The social amplification of risk framework exemplifies how risk events interact with various psychological and cultural factors in ways that affect public perceptions of risk; the portrayal of an event through different channels including, for example, media, and corporate and government releases can lead to ripple effects which can be more damaging to firms and individuals than the original impact.

Adapted from Kasperson & Kasperson (1996).

Adapted from Kasperson & Kasperson (1996).

Background on Sanlu and Fonterra

In 2008 and 2013, public health risk events rocked two of the world’s largest dairy companies. Fonterra is the world’s largest dairy exporter, a multinational cooperative owned by more than 10,000 farmers. To expand its networks in China, in 2005 Fonterra signed a joint venture with Sanlu, acquiring a 43% stake.[7] As a state-owned entity with close ties to government officials and China’s former largest seller of milk powder, Sanlu was expected to self-regulate quality control and was not subject to the same regulations as other firms. Moreover, Sanlu was critical to the economy of Hebei Province, employing 10,000 workers. As two of the world’s largest dairy producers combined forces, the reputations of their brands became intertwined while they retained separate operations.

2008 Sanlu Melamine Scandal

The 2008 Sanlu melamine scandal was China’s worst food contamination disaster; until the central government intervened, risk communication efforts were non-existent. The company, which had built up its reputation over five decades, became bankrupt as a result of the scandal. At least 6 infants were killed and 300,000 developed kidney stones due to melamine contamination of infant milk powder. As early as March 2008, Sanlu and the media received complaints about ill children, suspected contamination and performed its own testing. The media was unable to warn the public or probe complaints by parents due to government restrictions on reporting before and during the Olympics. Fonterra was not informed of the contamination by its local partner until a board meeting in August. Shortly thereafter, Fonterra notified local authorities in Shijiazhuang, Hebei Province about suspected contamination but were constrained by other Sanlu board members. When Sanlu refused to recall the products or inform the public, Fonterra contacted the New Zealand government on September 5 to pressure Beijing which then recalled all Sanlu milk powder and embarked on a campaign. [8] The scandal impacted the entire dairy industry, hundreds of thousands of individuals and two national governments.[9] Earlier risk communication efforts and a product recall by the Chinese government and dairy industry actors may have lessened the damage caused by contamination.

Risk Perception: Threat to Children Breeds Panic?

In both cases, characteristics of the hazard combined with the public’s heuristic thinking, leading to social amplification. In the Sanlu scandal, risk perception factors of understanding, level of dread and number of people affected contributed to a high public perception of risk. The Chinese public was familiar with melamine; in 2007 there was a similar contamination scandal in the pet food sector and in children’s toys.[10] Specifically, the risk to children, close proximity and that it was man-made were important dread factors.

Risk Communication and Amplification: Multiple Interests Impair Efforts

Sanlu withheld communication and responsibility as long as possible and influenced media outlets to conceal the risk. In return for suppressing negative publicity, Sanlu purchased NZ$640,000 of advertising on Chinese search website Baidu. Additionally, Sanlu used a public relations executive to act as a reporter; using propaganda techniques, they promoted positive stories of Sanlu.[11]

The increasingly decentralized political system in China and Sanlu’s unwillingness to inform the public contributed to poor risk communication. Local officials hid the problem and lacked proper standards and supervision to regulate the industry; officials were informed on August 2 but took no action until September. Beijing announced the contamination after the Olympics ended by apologizing, ensuring communication was transparent, clear and individuals were held accountable.

Beijing’s response was to “curb the risks, punish the perpetrators and help victims.”[12] Government agencies enacted a full product recall and punished many of those responsible. But, scores of children were already affected. After the government issued a warning on September 15, and Premier Wen Jiabo embarked on a media campaign in late September visiting sick infants in hospitals, journalists felt safe reporting about the scandal.[13]

Impacts and Ripple Effects of Social Amplification

Impacts of the Sanlu melamine scandal were widespread. Due to compensation claims, Sanlu went bankrupt only a few months later in December 2008; a previously little-known company unconnected to the scandal, Sanyuan, eventually purchased Sanlu. Overall, Fonterra lost NZ$139 million. More than 22 companies were implicated in the melamine scandal, which included other dairy products and eggs. Among other arrests and firings, high-profile punishments included life imprisonment for Sanlu chairman Tian Wenhua and death sentences for three men.[14]

In addition to the immediate impacts, consumers lost confidence in the domestic dairy industry, requiring government action. Consumers took weekend trips to Hong Kong to purchase large quantities of infant formula, believing it was safer than those on the mainland.[15] Beijing enacted emergency subsidies to combat further bankruptcies. To repair the industry’s damaged reputation, “local authorities were urged to reinforce technical guidelines on cow feeding and epidemic control.”[16] China’s relatively managed economy with strong state-owned enterprises enabled Beijing to exert influence and rescue smaller dairy farmers. The government also rescued a failed risk communication effort and saved its reputation by prosecuting individuals, being clear about the risk and helping victims.

Impacts of the scandal were less immediate and acute for Fonterra because the contamination did not originate from Fonterra’s farms in NZ and the company held a minority stake in Sanlu. Yet spillover effects continue to emerge. NZ Prime Minister Helen Clark publicly criticized Fonterra for mishandling the crisis. Fonterra followed a protocol which put the responsibility on their partners. Delayed notification, number of people affected and desire to expand profits in Asia led to a corporate social responsibility effort. To combat brand damage, the company donated NZ$8.4 million to a Chinese charity establishing rural clinics for mothers and infants.[17] Association with the 2008 scandal has become part of Fonterra’s record, impacting public perception and framing of the 2013 botulism scandal.

2013 Fonterra Botulism Scandal

As early as March and confirmed late July 2013, thirty-eight tons of whey protein were thought to be contaminated with clostridium botulinum, bacteria that can lead to botulism. On August 3, 2013, Fonterra issued a precautionary recall, and countries including China subsequently banned the sale of a range of Fonterra’s products; by the end of August secondary tests showed that the products contained no clostridium botulinum, but instead had clostridium sporogenes from a dirty pipe, which presents no food risk. Fonterra “blamed systematic glitches and the use of non-standard equipment for the botulism contamination scare.”[18] The immediately affected product was an ingredient sold to third parties rather than a finished product, impacting big-name infant formula and beverage. While Fonterra’s August 2013 botulism scandal turned out to be a false alarm, the risk event significantly impacted its international image as well as that of NZ dairy products, leading to a decline in sales and legal suits from customers.

Risk Perception: Affect Justifies Product Bans

The affective association of Fonterra products with harm was readily available in memories due to Fonterra’s connection with the 2008 Sanlu scandal. Botulism was a less familiar hazard for consumers than melamine but because it was new and had the potential to impact infants and children, the risk was perceived as high. Decisions to ban imports of Fonterra products added to the proximity of the risk. The comprehensiveness of Fonterra’s risk communication efforts contributed to conflicting public perceptions of its products.

Risk Communication and Amplification: Early Efforts to Prevent Worse Fallout

Fonterra amplified the risk by alerting consumers to a problem which did not exist, and the company’s early, forward efforts had mixed reviews. The public felt they were receiving incomplete information from an unorganized source, using inaccessible language; moreover, Fonterra did not apologize until days later. It was unclear how much of the public knew the event was a false alarm. A survey quoted one respondent “That this happened at all was unbelievable. Everyone was taken by surprise and they couldn’t reassure consumers.”[19] Farmers, shareholders and market analysts meanwhile were comforted by Fonterra’s communication efforts and agreed: “They did the right thing going public and the media whipped it into a frenzy.”[20] Overall, stakeholders agreed that communications improved after the first 72 hours of the recall.

Despite the launch of four independent inquiries into the botulism scare, public perception of Fonterra products has been altered. The media in both NZ and China maintained significant coverage of the product recall and announcements of potential contamination; however, after the risk was found to be a false alarm, the story only received minor coverage. In China in particular, an unknown portion of the public may still believe the products were contaminated due to lack of closure.[21]  However, there is a segment of microbloggers in China that maintain confidence in NZ products and are cynical about their own national media.

Impacts and Ripple Effects of Social Amplification

Because no consumers became ill or died of botulism, the event’s impacts centered on financial and reputational losses for Fonterra and its partners: the NZ dollar declined, the head of Fonterra’s New Zealand milk products business, Gary Romano, resigned,[22] and total damages in the case are still to be determined. In September 2013, NZ exporters claimed they were losing up to NZ$2 million in Chinese sales per week.[23] As a result of the precautionary recall, Fonterra’s supplier Danone, the world’s largest yogurt manufacturer, is suing Fonterra “after an estimated loss of 300 million euros (NZ$407 million) of free cashflow.”[24] Before the Danone suit, Fonterra estimated a loss of NZ$14 million from the event and claimed its legal liability to Danone was minimal.[25] Additionally, Fonterra reduced payouts to shareholders by about 20 NZ cents per share. Widespread publicity of the recall and import bans across Asia due to social amplification impacted companies further along the supply chain and cast doubt on standards in NZ’s largely self-regulatory dairy industry. Among other ideas, Fonterra’s review recommends strengthening crisis communications as well as processes, culture, and governance.

Concern for falling Asian consumer confidence in the New Zealand dairy industry led to government action. Unlike the Sanlu case, the NZ government did not have to step in to ensure a recall, but officials were called upon to save Fonterra and NZ’s face due to its premature communication. The initial government report claims the risk event was not due to a failure in the regulatory system but rather a failure in managing the situation. Yet a key recommendation is “establishing a food safety and assurance advisory council to provide high-level independent advice and risk analysis.”[26] Despite currently acceptable standards, the NZ government allocated $NZ8 to 12 million per annum to follow the report’s recommendations to tighten food safety and improve standards and regulations.[27]

Conclusion

Decision makers in private and public sectors employ multi-disciplinary political risk analysis to understand probabilities of losses or gains in specific scenarios. Increasingly analysts use the tools within political risk analysis that include risk perception, risk communication and social amplification of risk to build risk mitigation and communication strategies to a more advanced and connected audience. The 2008 Sanlu melamine scandal and 2013 Fonterra botulism scandal exemplify how different organizations approach a risk event, who they identify as their stakeholders and what they consider as responsibilities. A more thorough analysis of this case may examine additional factors including cultural and organizational dynamics.

In both cases, perceived risks were amplified by manufacturers and media. In 2008, amplification occurred out of the initial information vacuum created by local officials and Sanlu, a domestic history of melamine poisoning and because children were the primary targets. For Sanlu, risk communication should have occurred at the time of known contamination or confirmed cases; pressure from Beijing, producers and local government meant the public was uninformed. In 2013, Fonterra’s risk communication efforts were early, with multilevel communications reaching shareholders, customers and governments. After the fact, Fonterra sought to understand customers’ risk perception and opinion of communication efforts. The importance of Fonterra to the NZ economy meant the government was interested in a swift, transparent reaction. Undoubtedly Fonterra did not want a repeat of 2008. Fonterra in the short term must deal with economic losses and potential brand damage; however the global recall and communication efforts may be perceived as beneficial for public health concerns especially when compared to Sanlu’s experiences.


[1] Ragnar Lofstedt and Asa Boholm, “The Study of Risk in the 21st Century,” in The Earthscan Reader on Risk, ed. Rangar Lofstedt and Asa Boholm (London: Earthscan, 2009), 11.

[2] Charlotte Brink, Measuring Political Risk: Risks to Foreign Investment (UK: Ashgate Publishing, 2004), 1.

[3] Paul Slovic, “Perceptions of Risk,” in The Perception of Risk, ed.  Paul Slovic (London: Earthscan, 2000).

[4] Slovic, Paul, Melissa L. Finucane, Ellen Peters and Donald G. MacGregor. “Risk as Analysis and Risk as Feelings: Some Thoughts about Affect, Reason, Risk, and Rationality.” Risk Analysis, Vol. 24, 2 (2004). 312.

[5] Slovic, “Perceptions of Risk,” 222.

[6] Regina Lundgren and Andrea McMakin, Risk Communication: A Handbook for Communicating Environmental, Safety, and Health Risks (New Jersey: John Wiley & Sons, Inc., 2009).

[7] Duoqi Xu, “Tax Planning and Tax Policy in China: Case Study of the Tainted Milk Scandal.” Frontiers of Law in China. June, Vol. 6, 2 (2011): 192-218.

[8] Castellino and Green, “Media freedom in China.”

[9] Danielle Castellino and Lelia Green, “Media freedom in China as reflected in the development of the Sanlu milk scandal, 2008,” Australian Journal of Communication, Vol. 37, 3 (2010): 88-102.

[10] Castellino and Green, “Media freedom in China.”

[11] Castellino and Green, “Media freedom in China,” 96.

[12] E.Y.Y. Chan, S.M. Griffiths and C.W. Chan, “Public-health risks of melamine in milk products.” The Lancet; October 25, 372 (2008): 1444.

[13] Castellino and Green, “Media freedom in China,” 92.

[14] Ibid.

[15] Xu, “Tax Planning and Tax Policy in China,” 194.

[16] Xu,“Tax Planning and Tax Policy in China,” 194.

[17] Elizabeth Wishnick, “Of Milk and Spacemen: The Paradox of Chinese Power in an Era of Risk.” The Brown Journal of World Affairs, Spring, 15, 2 (2009): 213-214.

[18] Maggie Zhang, “New Zealand Minister to Rebuild Trust in Kiwi Quality.” Shanghai Daily. (11/12/13)

[19] “Report of WPC80 Independent Inquiry for Fonterra Board.” (10/23/13), 147-149.

[20] “Report of WPC80 Independent Inquiry,” 147.

[21] Christopher Marquis, “China State Broadcaster’s Attack on Foreign Brands Fuels Citizens’ Skepticism of Government.” Forbes. (12/17/13) [http://www.forbes.com/sites/christophermarquis/2013/12/17/how-much-do-the-chinese-people-believe-their-government/]

[22]  Reuters. “Fonterra’s milk products chief resigns after botulism scare.” (8/14/13)[http://www.reuters.com/article/2013/08/14/ us-fonterra-romano-idUSBRE97D04C20130814?feedType=RSS&feedName=topNews&dlvrit=992637]

[23] Christopher Adams. “China milk scare ‘needs – big PR drive’” (9/23/13) New Zealand Herald. [http://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=11128539]

[24]Adam Brockett and Lapeyre, Morgane. “Danone Seeks Compensation from Fonterra Over Botulism.” (1/9/14) Bloomberg News. [http://www.bloomberg.com/news/2014-01-09/danone-seeks-compensation-from-fonterra-over-recall.html]

[25] Ibid.

[26] Adam Bennett. “Botulism scare report calls for better tracking of products.” (12/12/2013) New Zealand Herald.  [http://www.nzherald.co.nz/nz/news/article.cfm?c_id=1&objectid=11171048]

[27] Xinhua News Agency Economic News. “Interview: Minister assures Chinese consumers of New Zealand food safety.” (12/11/2013) Xinhua Economic News.

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