ESG has been a household term in many jurisdictions. This phenomenon, in part, is fueled by industrial insiders’ recognition of its importance. Bloomberg Intelligence analysis suggests that ESG assets are continually growing and set to hit USD 53 trillion by 2025 and that would represent a third of global assets under management,[1] which equals to more than twice the GDP of the United States.[2]

With the growing interests from stakeholders and investors, ESG practitioners are also scrambling to get in on the action. Behind all the glossy news and growing optimism on the ESG front hides an inconvenient yet undeniable fact; ESG audits, especially the “S” part, are still vulnerable to flaws that may conceal what actually happens on the ground.

Corporations’ efforts are directed towards ensuring that their operations and supply chains are socially compliant, but what if what they present are mere Potemkin Village which hides a dumpster fire?

Irregularities behind social audits: Case examples

Recent cases have demonstrated that social audit processes are not entirely transparent, full of conflicts of interest, loopholes and other problems that render it an inadequate tool for companies to meet their human rights obligations.

In the ongoing legal claims against TESCO and Intertek, the Burmese workers are bringing a claim against auditing companies Intertek Group Plc and Intertek Testing Services (Thailand) Limited, which inspected and certified working conditions and practices of Tesco’s suppliers and one of its product line in question. In reality, even very basic things were not in place, such as workers being paid or housed in rooms with beds or clean water, and this contributed to or caused the workers' injuries. [3]

Previously, there were also high-profile cases against social audit companies in relation to the Ali Enterprises factory fire[4] and the collapse of Rana Plaza[5] filed with the OECD National Contact Points of Italy and Germany, respectively. However, the resolutions of the OECD National Contact Points are non-legally binding as they rely on the OECD Guidelines for Multinational Enterprises which is a non-legally binding instrument.

It would be interesting to see whether the high-profile case against TESCO and Intertek can go further and hold both the company and the audit company legally accountable.

Top-down hard law approach or grassroots approach?

As opposed to the OECD’s NCP complaint mechanism that only relies on the soft law (OECD Guidelines for Multinational Enterprises), the hard law approach imposes legal consequences to non-compliant parties, thus increasing incentives for compliance.

French, German, and Canadian laws lob the ball further down to the corporates’ court by assigning more responsibilities of assurance on individual corporations themselves.

The French Duty of Vigilance Law passed in 2017 obliges French companies of certain criteria, as well as their subsidiaries, suppliers, and subcontractors with business relationships, to establish and implement a vigilance plan which includes risk mapping and mitigation plans. The remediation features of this law include mechanisms for civil lawsuit and notice for companies to comply with their statutory responsibilities.[6] However, the Duty of Vigilance enforcement mechanism is reactive in nature; only after an interested party files a claim for non-compliance to vigilance plans could the judicial authorities issue orders.

The German Act on Corporate Due Diligence Obligations in Supply Chains (Due Diligence Act) imposes duty of due diligence on companies of certain criteria. While due diligence obligations provided in the Act are less comprehensive than French duty of vigilance, the German Due Diligence Act gives wider power to a government authority to enforce compliance; the German Federal Office for Economic Affairs and Export Control can conduct inspections, oblige companies to take action, and impose financial penalty.[7]

Canada’s recent Fighting Against Forced Labour and Child Labour in Supply Chains Act (Forced Labour Act) obliges Canadian companies of certain criteria to make a comprehensive report which includes, among others, supply chain structures, due diligence processes to avert and remediate the use of forced and child labor, and how the companies assess its anti-forced labor and child labor mechanism. Forced Labour Act, like its German counterpart, also gives wide pro-active power to a government authority to conduct search and impose penalties. While extraterritorial compliance of the aforementioned legislation may remain an issue, by empowering authorities with investigative and punitive powers on non-compliance, French, German, and Canadian laws provide disincentives to companies that solely rely on flawed social audits.

Another way to avert ramifications of issues overlooked by social audits is through legally binding agreements between companies and grassroot stakeholders imposing sanctions or consequences on a supplier within companies’ supply chains, or the companies themselves, if they fail to fulfill compliance thresholds.

One of the most recent and interesting examples of this is the Dindigul Agreement which involves Eastman Exports Global Clothing Private Limited, the Tamil Nadu Textile and Common Labour Union, the Asia Floor Wage Alliance, and Global Labor Justice- International Labor Rights Forum, along with H&M Group (H&M). [8] While this agreement specifically emphasizes gender-based violence and harassment and is possible only thanks to union activities and the efforts of the local communities, this could nevertheless be a model for trade unions or grassroot activism to emulate in the context of safeguard against social audit failure. [9] The strength of the agreement lies in the obligation for the buyer (H&M) to impose business consequences for the supplier (Eastman Exports Global Clothing Pvt. Ltd) and enforceability through an arbitration mechanism in Stockholm, Sweden, the home jurisdiction of H&M. [10]

In conclusion, both top-down and grassroot approaches should combine to create a business ecosystem that can avert and mitigate failures of social audits. Hard laws that empower government authorities to zero in on non-compliant social audits would incentivize companies to be less reliant on frequently lackadaisical external social audits and improve the quality of social audits themselves. At the same time, meaningful grassroot stakeholder engagement would help triangulate social audits, even before the government steps in to do so.

[1] Source: https://www.bloomberg.com/professional/blog/esg-assets-may-hit-53-trillion-by-2025-a-third-of-global-aum/, accessed on 26 June 2023.

[2] Source: https://data.worldbank.org/indicator/NY.GDP.MKTP.CD?locations=US, accessed on 26 June 2023.

[3] Source: https://www.leighday.co.uk/news/news/2022-news/tesco-and-intertek-face-claims-of-forced-labour-and-debt-bondage-at-ff-fashion-factory/, accessed on 30 June 2023.

[4] Source: https://www.oecdwatch.org/download/30375/?tmstv=1688096451, accessed on 30 June 2023.

[5] Source: https://www.oecdwatch.org/download/29087/?tmstv=1688096491, accessed on 30 June 2023.

[6] Source: https://respect.international/french-corporate-duty-of-vigilance-law-english-translation/, accessed on 30 June 2023.

[7] Source: https://www.csr-in-deutschland.de/SharedDocs/Downloads/EN/act-corporate-due-diligence-obligations-supply-chains.pdf?__blob=publicationFile, accessed on 30 June 2023.

[8] Source: https://globallaborjustice.org/fact-sheet-the-dindigul-agreement-to-end-gender-based-violence-and-harassment/, accessed on 30 June 2023.

[9] Ibid

[10] Ibid