ESG continues to be a focus as investors, consumers, employees and activists are placing pressure on companies to meet growing expectations to demonstrate good corporate citizenship. This increased focus has been met, in some instances, with controversy and backlash. As of the time of writing, in 2024 alone, US lawmakers have introduced at least 103 state-level anti-ESG bills. Supporters of these bills are pushing the viewpoint that commitments to ESG detract from financial returns and are unnecessarily restrictive to corporates.[1]
The increased threat of regulatory scrutiny and enforcement can create added incentive for companies to subvert regulations and investor expectations by committing fraudulent acts such as delivering false, inaccurate or misleading data in ESG-related disclosures (which can include acts of ‘greenwashing’).
It is therefore important for practitioners to understand ESG enforcement trends and how to deploy standard and more nuanced investigative techniques in these types of investigations, as we describe below.
Regulatory guidance and enforcement trends in ESG
Notable regulatory developments include legislative updates in the United States to finalise rules to enhance and standardise climate-related disclosures in financial statements, and an international focus on eradicating human trafficking, including child labour and forced labour.
Key US regulators, including the Department of Justice (DOJ), the Department of Labor (DOL) and the Securities and Exchange Commission (SEC), have committed resources to enforce their ESG priorities. Multiple regulators have also demonstrated concerted commitments to increasing interagency and cross-border coordination.
In February 2024, the President’s Interagency Task Force to Monitor and Combat Trafficking in Persons (PITF) reaffirmed its commitment to combat human trafficking. The PITF also announced some of the interagency priorities planned for 2024, which encompass the themes of prevention, protection, prosecution and partnerships.[2] In June 2024, the US Secretary of State released the 2024 Trafficking in Persons Report, which includes commentary on how technology both advances and hinders anti-trafficking efforts. The report indicates, for example, drastic recent increases in online sex trafficking and the use of advanced technology to manipulate, groom and exploit victims.[3]
We highlight below pertinent regulatory updates that practitioners in the Americas should consider, covering major developments across broad ESG themes as well as a focus on human trafficking, including child and forced labour.
DOJ
The DOJ’s Office of Environmental Justice (OEJ)[4] issued its first-ever Comprehensive Environmental Justice Enforcement Strategy Report in October 2023.[5] The report showcased the DOJ’s major achievements, including settling lawsuits related to air pollution and clean drinking water and the abatement of lead-based paint affecting lower income housing in Chicago.[6] The report also highlights each of the 94 US attorneys’ offices appointment of an Environmental Justice Coordinator, signalling continued DOJ investment and an advance toward more coordinated nationwide efforts.
The DOJ previously announced its intention to continue bringing high-impact prosecutions related to sex trafficking and labour trafficking in collaboration with other authorities. The DOJ’s Human Rights and Special Prosecutions Section (HRSP) has been spearheading eradication efforts related to human trafficking and sex trafficking through its Joint Task Force Alpha (JTFA), which since 2021 has achieved over 300 domestic and international arrests, 240 US convictions, substantial asset seizures and multiple high-profile extraditions in Central America and Mexico. JTFA recently expanded to Colombia and Panama to continue to combat human smuggling in the Darién region. In addition, the DOJ has formally transmitted to Congress a new legislative proposal, titled the ‘Deterring Human Smuggling and Harm to Victims Act of 2024’. If passed, it will penalise prolific smugglers and offer rewards in excess of US$8 million for information that leads to the disruption of human smuggling networks, emphasising enhanced migrant safety and national security.[7]
DOL
The US DOL administers and enforces federal laws related to labour practices, including the Fair Labor Standards Act, which sets requirements for minimum wage, overtime pay, child labour and record keeping. In September 2022, the DOL’s Bureau of International Labor Affairs (ILAB) issued its ‘2022 List of Goods Produced by Child Labor of Forced Labor’ (the ILAB Report), which identifies 158 specific goods that were produced in 77 countries using child labour and forced labour.[8] The goods span across industries, from agriculture (coffee, sugarcane, tobacco, cocoa, cotton, gems) to manufacturing (garment, fireworks, footwear, carpets) and mining (gold, cobalt, copper, minerals), underpinning the breadth and depth of companies’ usage of child and forced labour across industries and products.
The ILAB Report also illustrates the risk of perpetuating unsavoury supply chain practices that consumers face when purchasing finished goods comprised of multiple supply chain inputs. For example, many of us rely daily on electronics that are powered by lithium ion batteries, including cellular phones, electric cars, laptops, medical implants, turbine blades and vacuums. Cobalt, a key input into these batteries, is a metal whose ore production is known to often exploit child labour in Democratic Republic of Congo. The ILAB Report also identifies lithium ion battery production in China as a process that frequently exploits child labour.
On a positive note, the ILAB Report also details success stories. For example, the ILAB recently removed Uzbek Cotton from its list, reporting that the cotton sector in Uzbekistan has undergone significant positive changes because of the new regime’s aim to reform its economy and position the country as a foreign business and investment destination.
SEC
The SEC launched its Climate and ESG Task Force in the Division of Enforcement in 2021, mandating the task force with identifying material gaps or misstatements in issuers’ climate risk disclosures in annual financial reporting.[9] After an extended comment period, the SEC adopted rules to enhance and standardise climate-related disclosures for investors on 6 March 2024.[10] These rules became effective on 28 May 2024.[11] Among other things, registrants are now required to disclose climate-related risks that have had or are reasonably likely to have a material impact on the registrant’s business including strategy, operational results and financial condition.[12] With the adoption of SEC rules, public companies will need to act quickly to implement measures to disclose required information as early as the fiscal year ending 2025.[13]
The SEC has also implemented measures to address critical human rights concerns in global supply chains, such as forced and child labour. The SEC’s section 307 of the US Tariff Act of 1930 prohibits importing ‘any product that was mined, produced, or manufactured wholly or in part by forced labour, including forced or indentured child labour’.[14] In 2023, 16 state attorneys general sent a letter to the SEC to require foreign-owned companies certify their compliance with the section 307 in order to be listed on a US securities exchange.[15] This was a response to ‘fast fashion’ retailer SHEIN’s potential initial public offering, who has been accused of using forced labour. Despite this increased focus on compliance with section 307, we have not yet seen the SEC initiate specific enforcement actions on this topic.
CBP
The US Customs and Border Protection (CBP) enforces section 307 through issuing ‘withhold release orders’ that identify specific production facilities that use forced labour. The CBP and other regulators have authorised other jurisdiction-specific regulations to combat forced labour for known areas of risk.
Notably, CBP has examined more than 8,800 shipments valued at US$3.4 billion for compliance with the Uyghur Forced Labor Prevention Act (UFLPA) since its issuance in June 2022, with the goal of preventing goods made with forced labour in Xinjiang Uyghur Autonomous Region (XUAR or Xinjiang) of China from entering the United States.[16], Nearly half of the shipments impact the electronics industry. Apparel, footwear and textiles industries are also impacted. Of the goods examined, CBP has denied release for import of approximately 3,500 shipments that did not comply with the UFLPA, meaning that only approximately half of the total shipments complied with the UFLPA and therefore were released for import. The magnitude of shipments denied import demonstrates the prevalence of goods made with forced labour and the importance of enforcing the UFLPA.
US congressional attention to automakers’ supply chain of raw materials from China that might link to forced labour in Xinjiang continues. In May 2024, a high-profile congressional investigation undertaken with CBP’s guidance revealed that automakers Volkswagen AG, BMW and Jaguar Land Rover imported vehicles and parts made by a Chinese supplier, Sichuan Jingweida Technology Group Co, Ltd (JWD), that has been linked to forced labour practices involving Uyghur Muslims in Xinjiang.[17] These three automakers purchased component parts through a long supply chain, without direct engagement with the Chinese supplier in question.[18],[19],[20] Investigations such as this one are critical to ensure that supply chains and companies conduct proper audits and implement strong processes to prevent issues along their supply chains. While no specific penalties or fines were imposed as a direct result of this investigation, the heightened awareness and legislative pressure are likely to lead to stricter compliance measures and potential regulatory changes in the future.
ESG investigation considerations
ESG related investigations are on the rise in the face of increasing economic, political and social challenges. These investigations may be initiated by pressure groups, whistleblowers or regulators. In this section, we focus on considerations for practitioners involved in investigations related to human right violations, which often involve investigating activities through a company’s supply chain.
As the automakers’ cases exemplify, conducting investigations into global supply chains can be a complex undertaking. Tracing the inputs into a manufacturing process requires understanding the parties and inputs involved in each stage of the process. In conducting supply chain investigations, practitioners rely on many standard investigation techniques – such as document review and data analysis – and supplement those with more nuanced approaches such leveraging sophisticated mechanisms to trace the origin of products. We explore in this section how investigators can blend these techniques throughout the key phases of an investigation.
Planning for the investigation
As with any investigation, the planning and scoping phases of a supply chain investigation are critical to a successful investigative process. Investigators should identify the applicable regulations, jurisdictions, compliance requirements and expectations of the various regulators relevant to the matter. Practitioners should also consider what resources are needed to carry out the investigation. The following are examples of how resources with varied skillsets can supplement the investigative team:
- Digital forensics and data analytics experts who are able to understand the back-end database design of systems can assess what data exists and extract the relevant data. The data collected may require scrubbing, formatting and organising to a standard and optimised format before practitioners can use it for analysis. Data analytics professionals can then develop and synthesise sophisticated insights across structured and unstructured data sets.
- Forensic accountants can identify and analyse accounting, financial and due diligence records that can help identify various parties within the supply chain.
- Resources deployed locally can conduct on-site fact-finding and data gathering, including performing investigative due diligence of individuals and entities involved in the supply chain.
- Subject-matter experts with in-depth knowledge of specific product manufacturing processes, regulatory requirements and product origin tracing can support with mapping a complex supply chain, designing bespoke testing procedures and interpreting complex regulatory requirements in different jurisdictions.
Identifying information relevant to an investigation
Supply chain investigations commonly involve building a supply chain map that includes information about the various components of the network of suppliers that contribute to building the product in question. The supply chain map can include various data points, including details of suppliers, manufacturing locations, key employees involved in production, methods of transit, export and import points of entry, and locations of customers. Building this map is a complex process, as companies generally do not have all this information readily available in a single central repository. Beyond that, a company may not have access to the requisite information about other entities and parties within the supply chain.
Potential sources of data for a supply chain investigation could include:
- business partner due diligence records, including documentation of any supply chain red flags identified during due diligence;
- certificates and declarations of origin prepared by an independent third party;
- results of prior company audits (eg, internal, external and regulatory) and results of any audits conducted of business partners (eg, through exercise of audit clauses);
- unstructured datasets, which may include useful documents such as emails, invoices or shipping documents attached to emails, and meeting invitations, etc;
- structured data extracts (eg, supplier transaction extracts, raw material pricing data, etc);
- employment records (eg, timesheets, payroll records, employee personnel files);
- contracts with business partners, which may document suppliers’ understanding of their supply chain management;
- public databases that provide information to allow for identification of the owners or ultimate beneficiaries of smaller companies in the supply chain;
- third-party databases containing geographical information to map the facilities of distributors, suppliers and sub suppliers;
- interviews with representatives across the supply chain and potential engagement with victims or communities who might have been affected; and
- information publicly available regarding vendors and suppliers (eg, websites, online reviews, reputational information).
Investigative procedures
Supply chain investigations necessarily require a variety of investigative techniques and procedures, given the potential breadth of data sources due to the layers of entities and individuals involved. Investigation teams will need to take a creative approach to crafting procedures for testing and analysis, considering how to leverage available data that is not historically monitored and gathered or tested for investigative purposes. We present below a simplified case study featuring a fictitious company to demonstrate procedures practitioners could use to investigate concerns related to its supply chain.
Company QRS (QRS) has received a whistleblower complaint alleging misconduct, specifically the use of child labour, at the manufacturing facilities of one of its key suppliers. The whistleblower has provided only vague details about the purported misconduct, referencing that the supplier is located overseas but not specifying its location. QRS starts building a supply chain mapping using the information it has available in its vendor master file, which shows the locations of each supplier and the types of goods or materials each vendor supplies. From this mapping, and research of supplier websites, news articles and other reputational information available online, QRS identifies the products and supplier locations that present the highest risk of potential child labour. From this list, QRS confirms that it had performed rigorous due diligence of the majority of the highest risk suppliers within the past two years, which included requiring the suppliers to provide information regarding their supply chain practices. However, QRS has not performed due diligence of three suppliers on this list. QRS, in consultation with its external counsel, decides to exercise the contractual clauses it has in place with these suppliers to conduct third party audits. The forensic accounting firm QRS engages to perform the audits analyse various aspects of the suppliers’ books and records, including payroll records. The forensic accounting firm identifies that the supplier’s payroll spend decreases dramatically from one year to the next, despite the supplier reporting overall production volumes at consistent levels. The supplier is unable to explain the anomalous trending, which QRS views as a significant red flag, and QRS accordingly terminates its relationship with this supplier.
The above extract is from FRA’s chapter on US regulatory and enforcement trends, published on Global Investigations Review in August 2024; read the accompanying section on cryptocurrencies in the context of fraud and compliance investigations here.
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