Reprinted from the April 2023 edition of Business Law Today. Further duplication without permission is prohibited.

By Susan A. Maslow

In the late 2010s and early 2020s, ESG—a wide-capturing acronym standing for “environmental, social and governance”—roared into action, emerging both domestically and abroad as one of the defining trends in investing, regulation, finance, and corporate governance.

ESG’s proponents have long sought a unified framework through which to describe interrelated standards of environmental sustainability and human rights, and bring them into greater alignment with the private sector’s traditional profit-seeking goals. This change in approach arguably gained in prominence after the Business Roundtable’s 2019 declaration on the purpose of the corporation, endorsing a vision of corporations being led for the benefit of all stakeholders, not just shareholders. Though many question the sincerity and commitment of the Roundtable, the ESG movement was super-charged, and it achieved mainstream status during the 2020 protests for racial justice, which spurred companies to integrate new goals for diversity, equity, inclusion, and racial justice into their broader ESG policies. Over the course of the last eighteen months, public company boards have been sued for breaches of fiduciary duty based on alleged failures to react to ESG factor “red flags.”

The European Commission published the long-awaited Proposal for a Directive of the European Parliament and of the Council on Corporate Sustainability Due Diligence (the “EU Directive”) on February 23, 2022. It has been suggested that text found in the EU Directive “risks making the law ineffective” by implying that companies can fulfil their obligations by simply adding clauses in their contracts with suppliers and verifying compliance with “suitable industry initiatives or independent third-party verification”. The criticism is that the “contractual assurances” and verification required by Items 2(b) and 4 of Article 7, and Items 3(c) and 5 of Article 8 allow companies to shift their responsibilities on to their suppliers and to knowingly get away with harm by conducting ineffective audits or participating in voluntary industry schemes that have failed in the past.

The argument that companies can find an easy safe harbor within the EU Directive is misguided. Such condemnation places undue emphasis on the first two elements to achieve the negation of civil liability under Article 22 and ignores the third factor. A company must prove not only that (i) it used appropriate contract clauses (under to-be-provided Commission guidance), and (ii) it verified compliance, but must also prove (iii) it was reasonable to expect the action taken, including the verification process, “would be adequate to prevent, mitigate, bring to an end or minimize the extent of the adverse impact.” The last element is unfairly discounted by those that fear delivery of a safe harbor to industry influences. In addition, due account is not given to Article 22’s additional text that insists company efforts (or absence of efforts) to remediate any discovered damage and the extent of pre-harm support and collaboration to address adverse impacts in its value chains (or absence of support and collaboration) is also to be considered in determining liability.

Articles 4 to 11, 25 and 26 of the EU Directive impose due diligence obligations on subject companies and address the duty of care required of their directors in setting up and overseeing due diligence. The EU Directive has numerous “Whereas” clauses expressing a desire to incorporate the UNGPs and OECD Guidelines which require shared responsibility between buyers and suppliers. It should not be read as suggesting companies avoid liability by simply demanding conventional representations and warranties from a first-tier supplier without shared responsibility for thorough retrospective and prospective investigations to identify, prevent and end adverse impact. Any company that believes “contract assurances” without a detailed and regularly reviewed corporate strategy to address human rights, climate change and environmental consequences using contracts as one of multiple tools is destined to be found liable for damages.

Perhaps Article 22 with respect to a company’s potential civil liability could be clearer with respect to this point if it included a reference to Articles 4,5 and 6 in lieu of the existing limited reference to the obligations laid down in Articles 7(Preventing potential adverse impacts) and Article 8 (Bringing actual adverse impacts to an end). But Article 12 (Model contract clauses) of the EU Directive includes a promise that the Commission will provide guidance for model contract clauses and Article 13 (Guidelines) states the Commission, in consultation with Member states, stakeholders, the European Union Agency for Fundamental Rights, the European Environment Agency, and appropriate international bodies may issue guidelines for specific sectors or specific adverse impacts. The to-be-developed model contract clauses should reflect the characteristics and obligations found in Version 2 of the Model Contract Clauses (the “MCCs”) drafted by the American Bar Association Business Law Section’s Working Group found here Center for Human Rights. The MCCs include provisions which require:
● a joint responsibility by buyer and seller to engage in human rights due diligence, in line with the UNGPs and the OECD Guidance;
● a commitment by buyer to engage in responsible purchasing practices that will support supplier’s obligations to avoid adverse human rights impacts; and
● in the event of an adverse impact, a joint commitment that: (a) the parties will prioritize victim-centered human rights remediation above conventional contract remedies (that compensate the non-breaching party, not victims); and (b) each party’s participation in remediation shall be proportionate to each party’s causation of or contribution to the adverse impact.

The EU Directive and the right contract clauses and due diligence guidance can change the way supply chains in global markets have worked for centuries. Finally, a real tool to address modern slavery and the environmental destruction of entire communities.

Model Contract Clauses to Protect Workers in International Supply Chains, Version 2.0

A working group formed under the American Bar Association (ABA) Business Law Section has announced a revised set of model contract clauses for international supply chains. The 2021 Report and Model Contract Clauses, Version 2.0 (MCCs 2.0) from the Working Group to Draft Human Rights Protections in International Supply Contracts are now finalized and can be found on the ABA Center for Human Rights site.  The MCCs 2.0 are one of several initiatives within the Business Law Section’s implementation of the ABA Model Principles on Labor Trafficking and Child Labor. The MCCs 2.0 are offered as a practical, contractual tool to assist inside and outside corporate counsel in efforts to reflect their clients’ commitment to stated human rights policies and desire to abide by international human rights soft and evolving hard law. Given the likely European Union and United Kingdom implementation of mandatory human rights due diligence, the mounting number of Withhold Release Orders in US ports, and growing investor concern with respect to environmental, social and governance (ESG) liability, the Model Contract Clauses should be of interest to all companies with complex supply chains and those that provide such companies legal services. Designed as a modular, practical tool for corporate counsel, the 2021 MCCs 2.0 are the first model contract clauses to implement “human rights due diligence” obligations in supply contracts. They attempt to integrate the principles contained in the UN Guiding Principles on Business and Human Rights (the “UNGPs”) and the OECD Due Diligence Guidance for Responsible Business Conduct into international contracts. The MCCs translate these principles into contractual obligations that require buyer and supplier to cooperate in protecting human rights and make both parties responsible for the human rights impact of their business relationship.

Retailers, Importers, and brands need to immediately be sure there is no cotton from Turkmenistan in their supply chains.  The U.S. Customs and Border Protection (CBP) has finally announced it will turn away or seize and withhold any shipments of cotton originating in the Central Asian nation of Turkmenistan.  Affected importers will clearly experience a significant, and probably costly, disruption of production- related procurement.   The International Labor Rights Forum (ILRF) urged the U.S. to ban Turkmen cotton two years ago but was rejected until findings of state-enforced slave labor was documented after extensive investigation.

CBP was given the authority to ban tainted products like cotton from Turkmenistan when The Trade Facilitation and Trade Enforcement Act of 2015 (TFTEA) removed the “consumptive demand” exception to the United States Tariff Act of 1930, a commonly exploited loophole to the prohibition against importing products of forced labor. Prior to the new provision, CBP used the law only 39 times since 1930 to apprehend goods tainted at some point from creation to delivery by forced labor. Since the passage of TFTEA, CBP has issued four new Withhold Release Orders (each a WRO) on specific goods from China (soda ash, calcium chloride, and caustic soda from Tangshan Sanyou Group and its subsidiaries on March 29, 2016; potassium, potassium hydroxide, and potassium nitrate from Tangshan Sunfar Silicon Industries also on March 29, 2016; Stevia and its derivatives from Inner Mongolia Hengzheng Group Baoanzhao Agricultural and Trade LLC on May 20, 2016; and peeled garlic from Hangchange Fruits & Vegetable Products Co., Ltd. on September 16, 2016). 

A March 31, 2017 Executive Order establishing enhanced collection and enforcement of antidumping and countervailing duties and violations of trade and customs laws authorized the Secretary of Homeland Security, through the commissioner of CBP, to develop implementation plans and a strategy for interdiction and disposal of inadmissible goods and to develop prosecution practices to treat significant trade law violations as a high priority.

Although 2017 saw more antidumping and countervailing duty orders and intellectual property rights protection activity under TFTEA, there have been no published detentions prior to the ban of any shipments of Turkmen cotton, although CBP pledged to the U.S. Congress that more import bans under section 307 would be forthcoming.  Perhaps this is just the beginning of a long awaited CBP crack-down on forced labor imports to combat human rights abuses in global supply chains.

Goods Tainted by Forced Labor

Reprinted with permission from Business Law Today April 2018. 

The global fight against child labor and forced labor has been led for decades by the International Labor Organization (ILO). The ILO’s most recent estimate is that 25 million people around the world, including millions of children, are currently subjected to forced labor.  Under U.S. law, section 307 of the Tariff Act of 1930  prohibits the importation of merchandise mined, produced, or manufactured, wholly or in part, in any foreign country by convict, forced, or indentured labor. This law gave the U.S. Customs Service (now the U.S. Customs and Border Protection (CBP)) authority to seize commodities imported into the United States where forced labor was suspected to have been used anywhere in the supply chain.

The Tariff Act defines “forced labor” as “all work or service which is exacted from any person under the menace of any penalty for its nonperformance and for which the worker does not offer himself voluntarily.” Products of forced labor include goods that were produced by convicts and indentured laborers. The ILO defines forced or compulsory labor as service that involves coercion—either direct threats of violence or more subtle forms of compulsion under the menace of any penalty.  Goods made by child labor, defined as work that deprives children of their childhood, their potential, and their dignity and that is harmful to their physical and mental development,  are included in the forced-labor prohibition especially when combined with any form of indenture. Such tainted merchandise is subject to exclusion and/or seizure by the CBP, may lead to corporate criminal liability, and could even support prosecution of culpable employees individually.

The Trade Facilitation and Trade Enforcement Act of 2015 (TFTEA) removed the “consumptive demand” exception to the United States Tariff Act of 1930,  which was a commonly exploited loophole to the prohibition against importing products of forced labor. Prior to the new provision, CBP used the law only 39 times since 1930 to apprehend goods tainted at some point from creation to delivery by forced labor. Since the passage of TFTEA, CBP has issued four new Withhold Release Orders (each a WRO) on specific goods from China.  Although 2017 saw more antidumping and countervailing duty orders and intellectual property rights protection activity under TFTEA,  there have been no published detentions to date, although CBP has pledged to the U.S. Congress that more import bans under section 307 are forthcoming.

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Avoiding Bad Press, Brand Impairment and Costly Litigation

Reprinted with permission from the February 28th edition of the The Legal Intelligencer © 2017 ALM Media Properties, LLC. All rights reserved.Further duplication without permission is prohibited

A significant amount of press surrounded the US Department of Justice (DOJ) one year trial pilot program on April 5, 2016 and  the earlier September 29, 2015 “Yates Memo”, instructing companies to self-disclose possible violations of the Foreign Corrupt Practices Act (FCPA) and fully cooperate with the DOJ.  What has not been as broadly made known is that, a few days later, the U.S. Customs and Border Protection (CBP) establish a Trade Enforcement Task Force within its Office of Trade to focus on issues related to enforcement of antidumping and countervailing duty laws and interdiction of imported products using forced labor. 

Antidumping and countervailing duties are historic tariffs imposed on foreign imports priced below fair market value to ensure a level playing field for domestic producers.  The interdiction of products using forced labor stems from The Trade Facilitation and Trade Enforcement Act of 2015(TFTEA), enacted in February 2016.  TFTEA eliminates an earlier “consumptive demand” exemption, meaning that goods made with indentured, child, or other forced labor are no longer allowed in the US just to meet US demand.  With this change, CBP will no longer be legally required to weigh demand considerations when processing information concerning forced labor.  CBP will be updating its regulations to clarify the TFTEA amendment but, since March 10, 2016, CBP started training personnel and has executed several withhold/release orders related to goods made by convict or forced labor using a Department of Labor (DOL) list of foreign-made products for which the DOL “has a reasonable basis to believe might have been mined, produced or manufactured” by forced or indentured labor. The CBP has also established within its Office of Trade a Trade Remedy Law Enforcement Division and seems intent on taking action.

To limit warranties or disclaim liability for products sold in online commerce or advertised online, most businesses create a Terms and Conditions or a Rules of Use page on their business website.  A significant uptick in cases filed in New Jersey, however, cite these common broad warranty limitations and disclaimers posted on a business’ website as violations of the New Jersey Truth-in-Consumer Contract, Warranty and Notice Act (TCCWNA). 

The TCCWNA gives standing to consumers who have suffered no financial loss or injury against sellers who, with no intent to mislead, have provided a consumer with, or even shown, a warranty, contract, sign or notice of any sort relating to personal, family or household merchandise that includes text that violates New Jersey (or federal) law. Using software to find Terms and Conditions or Rules of Use and other web-based advertising and social media campaigns that include the offensive text, the organized plaintiffs’ bar has increasingly relied on TCCWNA to bring class actions to generate huge fees for the attorneys and $100 to each consumer in the class under the statute’s automatic damages provision.

What is the TCCWNA ?

The TCCWNA can be found in N.J.S.A. 56:12-14, et seq. The law, which became effective over 30 years ago, is a broad consumer protection law that requires that a plaintiff/consumer only show:
1.  the consumer or potential consumer was given or shown a warranty, notice, contract, or sign by the seller;
2. the product offered was consumer related – used primarily for  personal, family, or households purposes; and
3. the document or notice included some language that breaches New Jersey or Federal law in some manner.
According to the TCCWNA, N.J.S.A. 56:12-15:

No seller, lessor, creditor, lender  or bailee shall in the course of his business offer to any consumer or prospective consumer….or give or display any written consumer warranty, notice or sign…which includes any provision that violates any clearly established legal right of a consumer or responsibility of a seller, lessor ,creditor, lender or bailee as established by State or Federal law at the time the offer is made or the consumer contract is signed or the warranty, notice or sign is given or displayed.

Why are the TCCWNA lawsuits being brought?

TCCWNA lawsuits are being brought for a variety of reasons. The core reasons are:

• Most business websites include warranty waivers or indemnity provisions that try to limit a consumer’s legal right.
• The consumer does not have to show any specific injury or any loss.
• Good faith of the business is not a defense. The plaintiff does not need to prove an unconscionable act.
• There is no privity requirement; i.e., the plaintiff does not have to prove that he/she actually bought our used the product.
• Damages include attorney’s fees and court costs.
• There is an automatic $100 damages per plaintiff provision within TCCWNA so actual damages need not be proven. Just a thousand member class means $100,000 in damages.

How does TCCWNA affect a business website?

Business webpages are “notices” under the TCCWNA even if they are not intended by the business to mislead a consumer about the applicable law or to form a contract. This includes the Terms and Conditions, Menus, Disclaimers, and almost any page of the website. Any type of advertisement or print material may be considered a “notice” to consumers and the great variety of state laws and complexity of the Federal Magnuson-Moss Warranty Act make it easy to inadvertently include an impermissible warranty or disclaimer provision. Examples of text that can trigger problems include:

• disclaiming implied warranties (of merchantability or fitness for a particular purpose) on any consumer product if you offer a written warranty for that product or sell a service contract on it. 
• requiring a purchaser of a warranted product to buy an item or service from a particular company to use with the warranted product in order to be eligible to receive a remedy under the warranty.
• requiring customers to return a registration card when stating that the business is providing a “full” warranty.
• offering a warranty that appears to provide coverage but in fact provides none (like a warranty covering only moving parts on an electronic product that has no moving parts).
• excluding or imposing limitations on incidental or consequential damages or on how long an implied warranty last in some states.
• including a provision that requires customers to try to resolve warranty disputes by means of an informal dispute resolution mechanism before going to court that does not meet the requirements stated in the FTC’s Rule on Informal Dispute Settlement Procedures.

Caveat

You should always have a lawyer review the Terms and Conditions and Rules of Use pages (and perhaps all the pages) of your website before you publish to see what clauses or statements may be in violation of New Jersey or Federal law. Prohibited limitations on the legal rights of a consumer under implied or express warranties should be edited or deleted.  No business that is acting in good faith should face huge litigation costs and a stiff statutory penalty in a class action lawsuit brought by plaintiffs who suffer no actual harm. 

The issuer is permitted to communicate with potential crowdfunding investors if the communications occur through the platform but, in spite of the use of the platform or a website link, the final rules limit the ability of the issuer, as well as the ability of others acting on the issuer’s behalf, to advertise.  Pursuant to Rule 204, the issuer-company is permitted to advertise the Section 4(a)(6) exempt offering by releasing an offering notice (similar to tombstone ads permitted under Securities Act Rule 134) that contains only the following information:
 
• a statement that the issuer is conducting an offering;
• the name of the intermediary and a link to the intermediary’s offering page;
• the amount of securities offered (target and maximum);
• the nature of the securities;
• the price of the securities;
• the closing date for the offering;
• the name, address, phone number and website of the issuer;
• the email address of a representative of the issuer; and
• a brief factual description of the issuer’s business.

Will compliance with all of these crowdfunding rules be easier than the traditional Regulation D private placement (without general solicitation)?  Certainly the hope was that the crowdfunding rules would allow smaller issuers (and smaller investors) greater opportunities to access capital markets.  But the procedural and informational requirements justifiably deemed necessary to protect investors and reduce the risk of fraud make crowdfunding far less accessible than hoped.  Only the passage of time will determine which of the recent SEC initiatives prove most popular and affordable to small issuers with limited budgets.

The crowdfunding offering must be conducted through a registered broker-dealer or a funding portal with a “platform”. A “platform” is defined as “a program or application accessible via the Internet or other similar electronic communication medium through which a registered broker or a registered funding portal acts as an intermediary.…”  No more than one intermediary can be used for an offering, and the issuer-company is required to make certain disclosures to the SEC, investors and the intermediary facilitating the offering, including:

• A discussion about the size and scope of the offering.
• The specific use or range of possible uses for the offering proceeds, as well as the factors impacting the selection by the issuer of each such use.
• Information about the securities being sold to the public.
• A description of the company’s business operations.
• Information about the company’s officers and directors during the prior three years, including how long they have held those positions and their respective business experience.
• Information about the holders of 20% or more of the company’s outstanding voting securities, as well as a description of the capital structure and any special voting rights or investor rights.
• Identification of Rule 501 and any issuer-company imposed transfer restrictions on the securities offered.
• A discussion of risks associated with an investment in the securities and with participation in a crowdfunded offering.
• A discussion of the financial condition and financial statements of the company, tiered in accordance with the size of the offering such that:

1. Offerings of $100,000 or less require financial statements certified by the company’s principal financial officer.
2. Offerings of more than $100,000 but less than $500,001 require audited financial statements if available or, if a first time crowdfunding exemption user, financial statements reviewed by an outside auditor.
3. Offerings of more than $500,000 up to the $1,000,000 limit require audited financial statements

The offering materials must also include a description of the offering or subscription process and a disclosure of the investor’s right to cancel his/her investment up to 48 hours prior to the deadline identified in the offering materials.  

The issuer must complete Form C, which includes details of the initial disclosure about the offering. The completed Form C must be filed with the SEC and either posted by the intermediary on its platform or viewable by investors through a link.   The issuer-company must report material changes on Form C-A,  periodic updates on Form C-U and ongoing annual filings on From C-AR until the filing obligation is terminated on Form C-TR.

The new rules allow the issuer to engage in limited advertisement of the offering, but there are traps for the unwary. These rules are discussed in the next installment of this blog.

Part 1 of 3 Part Series:

General Rules

After years of hand-wringing and speculation by entrepreneurs, re-occurring angels, venture capital firms, registered brokers and lawyer types involved with private placements, on October 30, 2015, the U.S. Securities and Exchange Commission (SEC) finally adopted equity crowdfunding rules pursuant to Title III of the Jumpstart Our Business Startup Act of 2012 (JOBS Act).  These rules, which rely on Section 4(a)(6) of the Securities Act, are scheduled to be issued in the Federal Register early in 2016 and will become effective 180 days after publication.

Assuming the issuer is not otherwise ineligible, the crowdfunding rules will permit the following:

• A company can raise a maximum aggregate of $1 million through crowdfunding offerings in a 12 month period.

• Individual investors can invest an aggregate sum, over a 12-month period, in any number of crowdfunded offerings, based on the following formulas:

1. If either the individual’s annual income or net worth is less than $100,000, s/he can invest the greater of $2,000 or 5% of the lesser of his/her annual income or net worth.

2. If both his/her annual income and net worth are equal to or more than $100,000, s/he can invest 10% of his/her annual income or net worth, provided that the total investment does not to exceed $100,000.

Not all companies can rely on crowdfunding under the final rules.  If the issuer is (i) not organized under the laws of a state or territory of the United States or the District of Columbia; (ii) subject to the Securities Exchange Act of 1934 reporting requirements; (iii) an investment company as defined in the Investment Company Act of 1940, or a company that is excluded from the definition of “investment company” under Section 3(b) or 3(c) of that act; (iv) has a “bad actor” in management or as a major equity holder;  (v) has sold securities in reliance on Section 4(a)(6) and failed to make the required ongoing reports within the two-year period before the proposed new offering; or (vi) is a development stage company that has no specific business plan or purpose or does not identify a proposed merger or acquisition target.

The new rules include detailed provisions relating to mandatory disclosures and other requirements, which will be discussed in subsequent posts on this blog.