Millennials are expected to inherit approximately $30 trillion in assets over the next 30 to 40 years. (See Jean Rogers, “Millennials and Women Redefine What is Means to be a Reasonable Investor,” Institutional Investor, Oct. 20, 2016.) This transition of wealth will bring widespread changes in investing and consumer behaviors. When it comes to investing, millennials are “twice as likely as members of older generations both to invest in companies and funds that seek specific social or environmental outcomes and to shun investments in businesses that engage in unethical activity.” With respect to their consumer behavior, 73 percent of global millennials are willing to pay extra for sustainable products, an increase from 50 percent in 2014. (Ryan Rudominer, “Corporate Social Responsibility Matters: Ignore Millennials at Your Peril,” Huff. Post, last updated Dec. 6, 2017).

The power of millennial values has led to increased commercial and legislative efforts to promote transparency in supply chains. Demand for environmental, social, and governance (ESG) products—tools used to measure a company's ethical and environmental impact—has increased significantly in the past five years. (Casey O'Connor & Sarah Labowitz, Putting the “S” in ESG: Measuring Human Rights Performance for Investors, NYU Stern Center For Business And Human Rights (March 2017)). On the legislative front, the California State Legislature enacted the California Transparency in Supply Chains Act of 2010 (the California Act), which mandates that certain companies provide disclosures about how they are combating human trafficking and slavery.

Unfortunately, these commercial and legislative efforts are significantly flawed. Existing ESG frameworks employ inconsistent standards, are based largely on incomplete information disclosed by companies voluntarily, and reward transparency for transparency's sake. (See O'Connor & Labowitz, supra, at 20, 24–25). Additionally, the California Act requires only limited disclosures from companies, which—as recent cases show—has created obstacles to achieving greater transparency.

ESG Measurement Frameworks

A 2017 report from NYU's Stern School of Business evaluated 12 leading ESG measurement frameworks—including the UN Guiding Principles Reporting Framework, Bloomberg Social indicators, and the Corporate Human Rights Benchmark—which issue rankings, reports, or certifications for particular companies based on ESG metrics. The report found that for all twelve frameworks, more than half of the social impact indicators focused more on a company's efforts than the impact of its those efforts. (O'Connor & Labowitz, supra). Three out of the 12 frameworks—all human-rights-focused ESG frameworks—focused exclusively on efforts rather than impact. One reason for this focus is that such frameworks—more so than investor-focused frameworks—“rely heavily on publicly disclosed company data as the basis for evaluation.” Id at 19.

Because companies are incentivized to limit their disclosures to their efforts “rather than the higher-cost, higher risk analysis of the effectiveness of those efforts,” the scope and significance of information disclosed will vary tremendously among companies. Unsurprisingly, the report found no consistent set of standards by which frameworks measure a company's social impact, nor a consistent definition for what issues—such as labor or human rights—constitute social impact. Additionally, the report noted that ESG frameworks reward transparency for transparency's sake; “companies are rewarded simply for the act of disclosing, rather than delivering particular outcomes.” The lack of consistent and meaning metrics leaves consumers and investors ill-equipped “to capture the full picture of social considerations” when making their investment and consumer choices.

One of the most concerning findings in the report is that only 39 percent of ESG measurements examine companies' supply chains at allThe report noted that industry-specific frameworks are more likely to do so than frameworks applying to all companies regardless of industry.

The California Act

The California Act mandates that every retailer and manufacturer doing business in California with at least $100 million in gross annual revenue globally—disclose “its efforts to eradicate slavery and human trafficking from its direct supply chain for tangible goods offered for sale.” Cal. Civ. Code §1714.43, subd. (a)(1). Under the California Act, each such entity must disclose the extent to which it:

(1) verifies its product supply chains to evaluate and address risks of human trafficking and slavery; (2) audits its suppliers to evaluate compliance with company standards for trafficking and slavery in supply chains; (3) requires its direct suppliers to certify that materials incorporated into the product comply with the laws regarding slavery and human trafficking of the country or countries in which they do business; (4) maintains internal accountability standards and procedures for employees or contractors; and (5) provides relevant training to company employees and management who have direct responsibility for supply chain management.

Although the statute mandates disclosure of whether a company performs audits or evaluations, it does not require them to perform audits or evaluations or to disclose any findings.

A recent U.S. Court of Appeals for the Ninth Circuit case, Hodsdon v. Mars, Inc., highlights the effects of this limitation. (891 F.3d 857 (9th Cir. 2018)). In Hodsdon, a California consumer brought a putative class action against Mars, a chocolate manufacturer, alleging that its failure to disclose on its product labels that its suppliers used forced and child labor violated numerous laws including California's Unfair Competition Law. The court dismissed all claims on the ground that Mars had no duty to disclose this information. The court noted: “Mars recognizes that its supply chains may be infected by the worst forms of child labor, but does not disclose this on its product labeling. However, in compliance with the California Transparency in Supply Chains Act of 2010…, Mars does disclose on its website its efforts to combat slavery and labor abuses in its supply chain.”(Emphasis added).

In a number of California federal court cases, the court recognized that the California Act creates a “safe harbor” for companies from claims pertaining to failure to disclose information. (See, e.g., Wirth v. Mars Inc., 2016 WL 471234, at *9 (C.D. Cal. 2016); Barber v. Nestle USA, Inc., 154 F. Supp. 3d 954, 962 (C.D. Cal. 2015)). In California, “[w]here state or federal law has permitted certain conduct or considered a situation and concluded no action should lie,” such a law creates a “safe harbor” from unfair competition claims. Wirth, 2016 WL 471234, at 6. Because the California Act prescribes “who must disclose information about forced labor in their supply chains, what they must disclose, and how they must disclose it,”…California courts have held that the California Legislature created [such] a safe harbour.” Thus, California's safe harbor doctrine has turned the California Act into a shield for companies against claims based on failing to disclose labor abuses in a supply chain. (See, Barber, 154 F. Supp. 3d at 962 (“Plaintiffs may wish—understandably—that the Legislature had required disclosures beyond the minimal ones required by §1714.43. But that is precisely the sort of legislative second-guessing that the safe harbor doctrine guards against.”)).

Conclusion

Millennials have brought and will continue to bring an increasing demand for untainted materials. The burden is now on the companies to take meaningful steps to reduce the negative effects of their supply chains and increase supply of untainted products. To support this effort, entities issuing ESG findings should develop a clear and consistent set of standards that truly measure how company supply chains impact the communities and environments in which they operate, and legislatures should require more meaningful disclosures from companies to reduce demand for tainted materials and labor in supply chains.

Jennifer Furey is a director at Goulston & Storrs. Rebecca Harris is an associate at the firm.