Responsible Investment

Modern slavery: how new regulation will impact consumer companies

Consumer companies are most at risk of exposure to modern slavery but those with robust supply chain management strategies are likely to be best placed as the spotlight becomes brighter.

29/09/2016

Elly Irving

ESG analyst

Schroders

Hidden human rights risks

The UK’s Modern Slavery Act was passed into law in early 2015, in a bid to tackle slavery in the global supply chains of companies trading in the UK, and firms will begin disclosing their compliance from October 2016.

The Act comes amid a broader trend of increased supply chain regulation and greater scrutiny on working conditions.

It is a clear indication that governments are assuming an increasingly active and demanding role in the regulation of companies’ behaviour, particularly with regard to the corporate sector’s social impact.

The definition of modern slavery encompasses a range of humans rights abuses from forced labour, bonded labour and human trafficking, to servitude and child labour.

It is estimated that there are 45.8 million slaves in the world today, many of which may be indirectly employed in the supply chains of multinational companies.

Figure 1: Estimated number of people living in slavery worldwide in 2015

Source: Statista, Walk Free Foundation, https://www.statista.com/chart/4937/modern-slavery-is-a-brutal-reality-worldwide/

Consumer sectors at highest risk

Our analysis showed that consumer companies are the most exposed to the risk of slavery given the degree to which manufacturing is often outsourced and nature of the products involved. High risk goods include rice, spices, tea, coffee, cocoa and cotton.

We found that companies operating in the food products and tobacco categories are the most vulnerable as they produce agricultural products or source raw materials from countries with high modern slavery risk.

Clothing firms are also susceptible to the risk of modern slavery through their sourcing of cotton, leather and ready-made garments while restaurants are the least likely to be exposed.

As the spotlight on slavery becomes brighter, it will be those firms that are further advanced in assessing supply chain strategies, with close supplier relationships and comprehensive supply chain monitoring, that are likely to be least exposed to the risk of slavery.

Investment impact

Looking at the wider impact of the Modern Slavery Act, we have identified three key investment implications, which are summarised below.

1. Efficiency gains:

We believe that the requirement for better visibility further down the supply chain, where transparency is weakest, may be a catalyst for increased efficiency gains among lower tiers.

For example, following the exposure of the labour abuses in the Thai fishing industry (which supplies many global food producers and retailers), Tesco has reported a much better understanding of the lower tiers of its supply chain.

Our engagement meetings with the company confirmed that management has been able to apply these lessons across its broader supply chain to reduce risk.

2. Increasing costs for laggards:

Companies with leading supply chain practices are better placed to respond to regulation, but laggards will need to invest more to keep up with a rising bar. This may materialise through higher capital and operational expenditure.

The extent to which these higher costs impact profit margins may be determined by a company’s position in the value chain and the characteristics of the sub-sector in which it operates.

3. Supply chain consolidation:

We expect regulatory pressures to reinforce current trends toward onshoring and supply chain consolidation. There are a number of examples in various industries where firms are already bringing certain areas of outsourced production back “in house”.

While such efforts could boost capital spending in the short-term, they could also increase operational efficiencies and improve product quality over the longer term.

It is too early to assess the impact of the UK’s Modern Slavery Act but our proprietary analysis shows that there will undoubtedly be ramifications for a number of firms.

As active owners we will engage with the companies identified as high risk to encourage them to strengthen their practices and provide more transparency and evidence that they are mitigating potential risks along their supply chains.

To find out more please read our full, in-depth report below.

The opinions contained herein are those of the author and do not necessarily represent the house view. This document is intended to be for information purposes only. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. The material is not intended to provide, and should not be relied on for, accounting, legal or tax advice, or investment recommendations. Information herein is believed to be reliable but Cazenove Capital Management does not warrant its completeness or accuracy. No responsibility can be accepted for errors of fact or opinion. This does not exclude or restrict any duty or liability that Cazenove Capital Management has to its customers under the Financial Services and Markets Act 2000 (as amended from time to time) or any other regulatory system. Cazenove Capital Management is a trading name of Schroder & Co. Limited 12 Moorgate, London, EC2R 6DA. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. For your security, communications may be taped and monitored.