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Tallying the Cost of Compliance

It was never going to be cheap, but adding up the cost of compliance with government rules and regulations is proving to be quite exasperating for businesses and researchers alike. There is no precise price tag. It varies from one company to another even in the same industry and depends on a variety of factors, including business location, markets and regions served, and level of internal expertise.

There's a cost to enterprises even when they decide to exit or pull products from a market or region to avoid falling afoul of environmental laws, as some companies chose to do when the European Union first introduced its Restriction of Hazardous Substances (RoHS) directive. Some suppliers that took steps to make their components compliant with RoHS found themselves squeezed nonetheless when an OEM customer opted to exit the market because some other partners couldn't make the cut. Plus, when an enterprise leaves money on the table for rivals to pick up, the costs add up in the form of lost sales and market share.

The Challenge to industry
And, just in case, anyone is in doubt about the likely impact of these rules and regulations on a business, the EU itself in a statement made it clear that it understands the RoHS directive can be a double-edged sword which would achieve some positive goals but also have the potential for leaving wounds and scars on enterprises. The European Commission highlighted the challenge to industry as follows:

    The regulatory environment in which businesses operate influences their competitiveness, and their ability to grow and create jobs. Achievement of the RoHS Directive's objectives is hindered and made more costly by problems related to uncertainties in implementation, such as lack of harmonization in interpretation of definitions and diverging requirements for demonstration of product compliance; problems with enforcement, such as suboptimal market surveillance activities; and problems related to perceived inconsistency with other Community legislation or technical/scientific progress, such as potential overlaps with REACH [Registration, Evaluation, Authorization and Restriction of Chemicals Directive] or EuP [Energy-using Products Directive], and [the] need for extending the scope to cover medical devices and control and monitoring instruments.

Pile of money
In the electronics industry, the costs of complying with rules related to environmental pollution, disposal of electronic waste, counterfeiting, use and disposal of chemicals, energy consumption, economic sanctions on certain nations, rules governing or prohibiting the transfer of technology to certain countries, and minerals mined in war zones are adding up to a huge pile of money. Research organizations and industry bodies are scrambling to keep up with the spiraling costs even as many companies — concerned about exposing their internal operations to rivals — strive to keep quiet about their actual costs.

Pile-Up

The industry is paying a hefty price, no matter which  assumptions are used to estimate compliance costs.

The industry is paying a hefty price, no matter which
assumptions are used to estimate compliance costs.

Often, companies just simply don't know their actual compliance costs for various reasons. For one, some don't even keep tabs on these because they don't break out the costs from daily operational expenses, as Technology Forecasters Inc. (TFI) found out in a landmark survey carried out recently. The research firm noted that “the vast majority of companies hired zero or one employee for RoHS compliance, relying instead on internal resources.”

If the time these employees spent on helping the firm achieve compliance was not properly assigned, then the cost becomes virtually hidden and unknown. Here are some additional findings from the TFI survey, which focused primarily on the cost of complying with RoHS:

  • Total average cost was $2.64 million for initial compliance; $482,000 for annual maintenance.
  • Total median cost was $721,000 for initial compliance; $118,000 for annual maintenance.
  • Total weighted average cost was $5.94 million for initial compliance; $1.44 million for annual maintenance.
  • Contract manufacturers (CMs) and electronics manufacturing services (EMS) had to spend the most effort on business process and system updates.
  • Component manufacturers and OEMs had to spend the most effort on bill-of-materials (BOM) reviews and product redesign.
  • Everyone had an equal burden in R&D.

A lot of other costs also cannot be accurately estimated. In the TFI survey, many of the respondents reported a hit on inventory and other costs, including retooling and redesign of manufacturing processes. Some of the expenses were charged only once, while others are recurring and continue today.

As is typical in the manufacturing sector, the impact on actual inventory and the uncertainty introduced into the supply chain can be even more difficult to ascertain. TFI said in its report that “inventory increased 21 percent on average over pre-RoHS inventory level; the average reported cost of carrying the extra inventory was $688,000; the average reported value of scrapped inventory was $698,000.”

Compliance costs soar
Regulators themselves are aware that these rules do have an impact on sales but haven't been able to determine the actual hit on revenue or any other operational effects. The EU in its position paper admitted that “there is little experience of actual compliance costs for industry,” but estimated this could be as high as one to 4 percent of sales. “More recent surveys give an average overall cost related to RoHS of 1.9 percent of turnover (past cost and one-off future costs),” it said. Here's more from the EU report:

    In the case of medical devices and control and monitoring instruments, some of which are produced in low numbers or have critical applications and hence increased testing and reliability requirements, approximate yearly compliance cost is estimated to 400-1600 million€; it is even claimed that cost of RoHS compliance for some complex products could be as high as 7-10% of turnover (new product) or 1-10% (modification of existing product). A large part of this cost is attributable to the long development, testing and approval cycles of the more complex products.

Similarly high costs are projected for compliance with other regulations, including the Dodd-Frank Wall Street Reform and Consumer Protection Act, which, among other issues, addressed the contentious subject of conflict minerals mined in the Democratic Republic of Congo and other war-torn countries. A study published by Tulane University estimated it would cost the electronics industry approximately $7.93 billion to comply with the conflict minerals requirement of the Dodd-Frank legislation. The Tulane report drew on documents provided by the IPC, an industry association.

The Tulane University report noted that the US Securities and Exchange Commission (SEC) had initially estimated the cost of compliance with the conflict minerals rule would be about $71.2 million, a number the researchers said substantially underestimated the potential cost. The Tulane report clearly shows how all parties involved in determining the cost of compliance arrived at drastically different conclusions because of their equally varied assumptions related to the likely affected parties. Here are the three scenarios presented by the Tulane researchers, who also provided a breakdown of how they arrived at their much larger $7.93 billion estimate:

    Our analysis shows that the published figure of $71.2 million by the SEC underestimates the implementation cost, in part because it does not take into account the range of actors affected by the statutory law. In light of Section 1502, substantial traceability reforms would need to be implemented throughout the supply chain — from the mine to final product manufacturing — in order for disclosure to work.

    On the other hand, the National Association of Manufacturers' (NAM) estimate of $9-$16 billion overstates these costs by inflating the supplier number and not taking into account significant overlap in supplier/customer relationships, as well as cost efficiencies from existing (and developing) information exchange platforms.

    We present a third model focusing on the burden to the affected issuers and their first-tier suppliers, estimating that the actual cost to and of implementing the law is $7.93 billion. Almost half of the total cost — $3.4 billion — would be met with in-house company personnel time, and the rest — $4.5 billion — would constitute outflows to third parties for consulting, IT systems and audits. Comparing the costs to the issuers vs. the suppliers, the bulk of the total costs — $5.1 billion or 65 percent — would be incurred by the suppliers (the group not included in SEC's analysis), while the smaller portion of the total — $2.8 billion or 35 percent — would be carried by the issuers.

What's clear is that the industry is paying a hefty price, no matter which assumptions are used in arriving at the estimated costs of compliance. Conversely, in addition to the expected benefits to the larger society, some segments of the industry are also seeing a number of advantages from these rules and regulations, as TFI found out in its survey.

The research company said 49 percent of its respondents “found at least one advantage” in the RoHS directive. These advantages include market share gain, improvement in supply chain processes, improved supply base, and benefits from product-line pruning. Compliance is never going to be cost-free or easy, but it's good to know there are also distinct benefits for some.

14 comments on “Tallying the Cost of Compliance

  1. Ariella
    March 19, 2013

    @Anna this reminds me of the principle not to confuse the average with the median. In this particular case, they are very far apart:

    Total average cost was $2.64 million for initial compliance; $482,000 for annual maintenance.
    Total median cost was $721,000 for initial compliance; $118,000 for annual maintenance.

     

     

  2. The Source
    March 19, 2013

    Anna,

    It is better for companies to pay for the cost of compliance than to face the consequences when companies don't follow regulations and harm is done to those using their product. Still, I understand the pain companies have to go through to pay for compliance, especially when they are seeking to make profits in a very competitive environment. This is a wonderful article.  

     

  3. William K.
    March 19, 2013

    The very worst part of all of these regulations is that so many of them are driven primarily by emotions of those whose technical knowledge is primarily provided by lobbies of various types, each having an agenda that iis often far less than noble. Most safety legislation is promoted by those who stand to profit from others being forced to use some technology that they sell, while other rules, (RoHS especially), come from those who promote fear and panic for reasons that they alone understand.

    The result of all of this lawmaking has is, aside from the large cost to industry, also been the eroding of any sense of personal responsibility for peoples personal safety. That secondary effect will ultimately wind up destroying a lot of our freedoms and damaging our quality of life far more than has been anticipated.

  4. prabhakar_deosthali
    March 20, 2013

    The cost of compliance is going to be a big headache for the companies who already have non-complaint products in the market and may be thinking of exiting those businesses.

    All this cost of compliance will only add to their losses

  5. hash.era
    March 20, 2013

    @prbhakar: Exactly and that is why it has been rejected by many. If this is to be implemented yet again or proposed, I feel it should have a common law enforced to all.      

  6. itguyphil
    March 20, 2013

    If you're management, which one would you use to make your budget?

  7. Ariella
    March 20, 2013

    @williamK good point.

  8. ahdand
    March 21, 2013

    @hash & @Prabhakar: Well I think hash has a valid point here. I even too would have done the same if I had to face this kind of a scenario.

  9. William K.
    March 21, 2013

    @Ariella, Thanks! The problem with engineers is that we usually think things through and consider the secondary outcome of actions, and often we consider the ultimate results much further down the road. It is one thing to start something, but those unintended consequences can certainly be unpleasant sometimes. It must be that considering the second and third order consequences is something that a lot of people avoid, since it does take a bit of effort and even some investigation.

    One other thing is that it seems that many are unable to see the difference between correlation and causation, which certainly can lead to a whole lot of quite irrational decision making.

  10. hash.era
    March 26, 2013

    @nimantha.d: Yes and to be honest I have heard a lot about such examples.  

  11. ahdand
    April 9, 2013

    @Hash: I too have heard a bit but I was expecting a turn around on it but it does not seem to be happening at least in the near future.    

  12. Susan Fourtané
    April 26, 2013

    Anna, 

    This is the only way I know I can contact you. I came to London for the Internet World and Big Data Show. It would be nice to meet you for tea before leaving on 29th. 🙂 You can reach me on  +44 7456 587567 or susan.fourtane at gmail.com Oh, are you based in Cambridge or London now? 

    -Susan

  13. hash.era
    June 30, 2013

    @nimantha: Hope for the best mate. Lets wait and see. Things does not happen overnight for sure. 

  14. ahdand
    June 30, 2013

    @Hash: Yes time will be consumed for sure but Im wondering how much of time it will take. Cannot allocate a lot of time for it too.  

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