China Forced-Labor Law Risks Snarling Supply Chains, ESG Goals

Irina Baranova

Companies are facing fresh supply chain challenges in responding to a new U.S. law that requires proof that their imported goods aren’t linked to forced labor in China, particularly in the Xinjiang region.

The Uyghur Forced Labor Prevention Act adds a presumption under the U.S. Tariff Act that goods sourced from or produced in Xinjiang—home to many of China’s Uyghur and other Muslim minority populations—are made with forced labor. To import products from the region, companies will have to document that they aren’t sourced from forced labor.

As U.S. Customs and Border Protection officials and activist investors look on, companies are finding that there’s no easy way to do that. Complex supply chains for goods like fabric, food or minerals run multiple layers deep, and companies may run into roadblocks in their due diligence efforts, analysts say.

In addition to creating a huge compliance lift for companies such as Apple Inc. and Nike Inc., the law adds a layer to environmental, social and governance (ESG) concerns that corporate boards already face. Failure to comply with the law exposes companies to more shareholder pressure over supply chain issues.

The new law, which takes effect in June, sets “an incredibly high bar, if not an impossibly high bar to meet,” said Cullen Hendrix, a professor at the University of Denver’s Korbel School of International Studies.

Challenges Ahead

The law, signed by President Biden Dec. 23, is meant to push China to end what the U.S. and other countries have called repression of its Uyghur and other Muslim minorities. China’s foreign ministry denies the allegations and has saidthe measure “will only undermine the stability of global industrial and supply chains.”

Companies will have to present strong documentation to the U.S. Customs and Border Protection, beginning June 21, that no part of their products contain components sourced or manufactured in Xinjiang or by Uyghurs. The region is one of the world’s most productive areas of cotton and polysilicon, which is used in solar panels.

Companies have been looking to everything from genetic testing of textiles to third-party auditors to ensure products aren’t derived from forced labor in their supply chains. But those solutions haven’t proven to be silver bullets.

“Most companies do not have the resources or the sophistication or the leverage over their supply chains to gather reliable data. Even for very large companies, it’s a challenge,” said Michael Littenberg, a partner at Ropes & Gray specializing in human rights and supply chain compliance.

Companies from across the tech, apparel and energy sectors, including Apple, Nike, BP America Inc. and solar firm JinkoSolar Holding Co. Ltd., lobbied Congress on the law. Many more companies weighed in through trade groups, including the American Apparel and Footwear Association and the Consumer Technology Association.

Those companies are trying to figure out whether their existing procedures will meet the compliance requirements, Littenberg said. But they haven’t been informed what documentation will be required, or whether it will even be possible to vet each link in their supply chain, he said.

“It’s going to require a more granular understanding of supply chains and where inputs in supply chains come from, compared to the traceability most companies have historically done,” Littenberg said.

Material Risks

The final version of the law dropped a requirement for public companies to disclose to the U.S. Securities and Exchange Commission their business dealings with companies related to Xinjiang.

But the law may create more demands from investors and consumers for ethical product sourcing, said Rachel Alpert, co-chair of Jenner & Block’s National Security, Sanctions, and Export Controls Practice. She said the law is likely to increase the information that companies choose to disclose as “material” risks to investors

Companies face additional risks of shipments being held at the border, supply-chains vetting shortcomings, or negative media reports related to Xinjiang labor issues, she said.

“This provides a more concrete hook” for shareholders and government agencies to scrutinize companies on ESG issues, Alpert said.

The new law makes the possibility of not being able to sell goods a greater risk for companies and shareholders alike, said Patricia Jurewicz, founder and chief executive officer of the Responsible Sourcing Network. Her group works with companies, investors and human rights activists to create due diligence standards.

“Companies don’t want to say they’re doing nothing” she said.

But taking action presents its own business risks. Intel Corp. faced a backlash from Chinese officials and social media users last month after the technology company publicly asked its suppliers not to use any labor or products sourced from Xinjiang.

The Santa Clara, Calif-based company later issued a public apology for “causing trouble to our esteemed Chinese customers,” saying its efforts were meant “to ensure compliance with U.S. legal requirements.”

Compliance Roadmap

The U.S. Customs and Border Protection has issued a series of orders in the past two years prohibiting Xinjiang-sourced products from entering the U.S., including cotton, tomatoes, computer parts and silica-based products or specific manufacturers.

Japanese clothing retailer Uniqlo fell afoul of one of those orders last March after Customs refused to release a shipment that the company couldn’t prove was made without forced labor.

Such orders “are among the best information we have about the level of scrutiny Customs has historically placed on Xinjiang shipments,” Alpert said.

More clarity will come through forthcoming guidance from CBP’s Forced Labor Enforcement Task Force. The task force published a request for comment Jan. 24 on how to implement the law, including best practices to identify Xinjiang-linked products.

DNA analysis for Xinjiang-specific cotton fibers can work if used in the right stage of the supply chain, but is less effective once raw cotton from multiple regions is mixed together, Jurewicz said.

Third-party audits are also a possibility, but Chinese authorities have been known to harass or shut down their operations, University of Denver’s Hendrix said.

“A credible third-party audit is going to be effectively impossible in a place like Xinjiang,” he said.

Despite its challenges, the law should ultimately streamline getting goods through Customs, said Stephen Lamar, president and chief executive officer of the American Apparel and Footwear Association. But much depends on U.S. authorities having clear guidance in place, he said.

“This is what’s missing from the current system,” he said.

https://news.bloomberglaw.com/esg/china-forced-labor-law-risks-snarling-supply-chains-esg-goals

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