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Risk of disclosure clouds environmental audits

Assume your company determines that on its TQM path to continuous improvement it will perform a critical self-evaluation of its environmental compliance practices and procedures. To do so, your company conducts–or uses a consultant to conduct–an audit of compliance with environmental, health and safety requirements, resulting in a report identifying areas for improvement and recommended corrective actions.
Should this report, obtained at your company’s own expense for a beneficial purpose, be available to a regulator or a prosecutor in an enforcement action? What about disclosure to third-party litigants such as toxic-tort plaintiffs or citizens’ groups?
The fear that audit reports could become “prosecutorial road maps,” though based more on perception than actual experience, has led the regulated community in numerous states to seek legislation to protect the results of voluntary self-audits. Seven states have adopted audit-privilege legislation, another 26 have introduced it, and seven more (including New York) are considering such legislation. The New York legislation would offer protection for audit findings that extend beyond those available under the attorney-client and attorney work product doctrines, in some cases including penalty-immunity provisions for voluntarily disclosed violations.
The nationwide drive for audit-privilege legislation prompted the Environmental Protection Agency to re-evaluate its 1986 policy of not routinely seeking audit reports unless “deemed material to a criminal investigation” or “needed to accomplish a statutory mission.” During the summer and fall of 1994, the EPA conducted public hearings seeking input on how to provide incentives for environmental auditing and how to promote voluntary disclosure of violations to regulators. Balanced against industry’s fear about potential enforcement uses of audit reports was the regulators’ concern that a privilege creates a “secret class” of information potentially shielding bad actors.
On March 30, the EPA announced its Voluntary Environmental Self-Policing and Self-Disclosure Interim Policy Statement. In the policy, the EPA proposes significant mitigation of the potential penalties for violations discovered in voluntarily conducted environmental audits (i.e., not conducted pursuant to an order).
To qualify, a company must: promptly and voluntarily disclose the violation to the federal, state and local authorities; correct the violation within 60 days (or as expeditiously as practicable); correct any imminent danger and prevent recurrence of the violation; not fail to take steps to avoid repeat violations; and “cooperate” with the EPA. If these conditions are met, up to 100 percent of the gravity component (which relates to the seriousness of the violation) of the penalty can be eliminated. Another penalty component, the economic benefit, is intended to account for the avoided cost of compliance, and may be eliminated at the EPA’s discretion if the economic benefit of non-compliance is insignificant.
The EPA reaffirmed that it will not seek audit reports to trigger criminal or civil enforcement actions, and will limit criminal referrals where there has been voluntary disclosure, and prompt and complete correction of violations. However, the EPA reserved the right to seek “any information relevant to identifying violations” once it “has reason to believe a violation has been committed.” The agency indicated it will scrutinize enforcement more closely in states where environmental self-evaluation privileges or penalty immunity provisions may prevent necessary enforcement.
Further, this policy creates no legal or enforceable rights in the event of litigation until it is actually adopted by the EPA. The comment period on the policy closes on June 30. Among the criticisms being leveled at the policy are its rejection of a privilege for audit findings. Once disclosure is made to the EPA, the results of the critical self-evaluation process are publicly available.
Another concern is that the policy requires disclosure not only to the EPA, but also to state and local enforcement authorities, without regard to whether those states or localities have similar incentives. A third concern is that to qualify for the penalty mitigation, numerous and vague conditions must be met, reducing the certainty of the process and significantly undermining its effectiveness as an incentive for auditing and disclosure.
Fourth, the exceptions to the EPA’s general rule of not routinely seeking audit reports to trigger enforcement are so vague as to gut the rule. Finally, the policy only applies to environmental laws enforced by the EPA and not health and safety laws enforced by the Occupational Safety and Health Administration. Many experts think the policy does little to stem growing industry interest in privilege legislation.
Numerous arguments have been articulated on both sides of the privilege debate, but the heart of the issue is twofold: finding the strongest motivator to industries to perform environmental health and safety audits, and to implement corrective actions, particularly for smaller companies that perceive themselves to be outside the enforcement web; and building incentives to overcome the risks inherent in voluntary disclosure of audit findings to regulators.
Alternative incentives to an audit privilege include use-immunity statutes; statutory affirmative defenses, excusing a company or individual from civil or criminal prosecution; amnesty; and penalty immunity or mitigation.
The chief advantage to a privilege over the other available options is that, through non-disclosure, the industries that audit are given equal treatment with those that do not audit and go undetected in today’s world of diminishing enforcement resources. This includes ensuring no greater prospect of enforcement and no third-party access to disclosed audit findings. The clear message from industry is that a privilege is the optimal option unless the enforcement treatment can be equalized.
The momentum toward audit privilege demonstrates the desire of states to be proactive and to foster audit privilege as an industry compliance tool by leveling the playing field between companies that audit, detect and correct, and their more derelict counterparts. A few states have made penalty immunity or mitigation contingent on voluntary disclosure of findings. These states have acknowledged that although the enforcement-oriented approach has done much to induce compliance auditing, it is time to look for new and creative ways to encourage voluntary use of auditing as a compliance tool.
Industry has supported voluntary disclosure of audit findings when equal or better treatment is provided for companies that expend resources to audit, detect and correct environmental problems. Indeed, even in today’s enforcement climate, many companies audit without an expectation of protecting the findings and some disclose their findings through voluntary participation in shareholder proposals. Most companies will continue their support of privilege legislation until the risk of third-party disclosure is reduced or eliminated. At present, the EPA is failing to address that risk, diminishing the incentive to audit and disclose.
(Justin P. Doyle is a partner with Nixon, Hargrave, Devans & Doyle. His colleague, Jean McCreary, who is collecting comments on the EPA proposal on behalf of the Environmental Auditing Roundtable, assisted with this article.)

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