If you had to pick an adjective to describe chemical companies' relationships with the Environmental Protection Agency, I'm betting "collegial" wouldn't be at the top of the list. Indeed, most industries have rocky relationships with the government agencies that oversee them.
So you can only imagine what kind of reaction the big chemical companies had to new legislation that strengthened the EPA's powers over regulation of chemicals. Cal Dooley, president and CEO of the American Chemistry Council, an industry group that includes heavy hitters DuPont (NYSE:DD), Dow Chemical (NYSE:DOW), and 3M (NYSE:MMM), summed up the industry feeling nicely: "We applaud President Obama for signing this legislation into law."
Surprising as it may seem, this new regulatory authority isn't bad for the industry and might actually be to its benefit. Here's why.
Time for a change
It's been 40 years since the last major overhaul of the country's chemical regulations. Back in 1976, Gerald Ford signed the Toxic Substances Control Act into law. The TSCA gave the EPA the authority to regulate all chemicals manufactured in or shipped to the U.S. -- well, almost all. Some 60,000 chemicals that were already in use were grandfathered in and assumed to be safe.
This presumption of safety even applied to new chemicals until evidence emerged that a chemical was hazardous. Moreover, the TSCA required the EPA to perform cost-benefit analyses to industry before proposing regulations, and to prove that a substance was an "unreasonable risk" before taking any action. Chemical companies could also withhold information from the EPA, citing trade secrets. And there was no requirement for a chemical company to test the safety of its products before beginning to sell them.
Because of these and other restrictions, numerous hazardous chemicals still found their way into commercial products and the environment. These included the known carcinogen asbestos, which kills 15,000 people each year yet is still not banned outright in the U.S. -- in 1991, the Fifth Circuit Court of Appeals set aside a 1989 EPA ban under the TSCA.
However you might feel about this situation, it can't be denied that it generally benefited chemical companies such as DuPont. Being forced to test every chemical for safety before using or introducing it would have been costly, and the lack of a grandfather clause could have forced companies to scramble to come up with new alternatives to standard products, or take a huge hit if such an alternative couldn't be found.
Taking matters into their own hands
Gradually, however, individual states began to step in with legislation of their own. Currently, 28 states have enacted or are considering bans on some chemicals in consumer products. This situation has created a patchwork of different laws, which are difficult for manufacturers and retailers to navigate.
Regulation of the chemical BPA, for example, varies greatly state by state. Twelve states and the District of Columbia have banned BPA in baby bottles or sippy cups. But New York has also banned its use in pacifiers. Massachusetts and Minnesota have banned it in any reusable children's food containers. Connecticut has banned its use in thermal receipt paper. And Vermont and Washington ban it in any type of reusable plastic bottle, whether manufactured for children or not.
For large chemical companies such as 3M or Dow, situations like this are problematic. Essentially, a ban on a chemical in any state has the practical effect of banning it in every state for a manufacturer or retailer serving a national market. And that's the situation the new law will change.
Good for business
The law's unwieldy title is the "Frank R. Lautenberg Chemical Safety for the 21st Century Act," named after the late U.S. Senator who championed its passage. One of its most important provisions -- at least from an investor's standpoint -- is that it dictates that EPA rulings about chemicals will pre-empt individual states' regulations. States will still be able to regulate a chemical before an EPA review is completed, but ultimately, they must conform to the agency's final decision. That will end the current problem of patchworks of differing regulations.
But some of the features of the new law will require additional costs to chemical manufacturers. For example, the EPA will now be able to collect fees from the industry to pay for its evaluations. It will also be able to require a manufacturer to perform additional safety testing on chemicals regardless of whether it can prove a substance is hazardous.
Time will tell
Another major facet of the law is that it requires the EPA to evaluate all chemicals -- even those previously grandfathered in. New chemicals must be evaluated before coming to market, and health and environmental concerns are the only factors that can be considered when evaluating risk.
You might think this situation poses a substantial risk to chemical companies. After all, if an existing chemical is now deemed hazardous, it can be regulated or even banned. This kind of environment could seriously disrupt a chemical company's operations and affect the bottom line.
But in fact, the risk is small. Congress didn't allocate any more money toward the EPA's enforcement efforts, so there will be a limit to how many chemicals it can evaluate at any given time. The law specifies that it must evaluate a minimum of 20 chemicals at a time, but each evaluation can take up to seven years, and once a decision is issued, industry has up to five years to comply. And with 80,000 chemicals on the market -- only a few hundred of which have already been evaluated -- it could literally take centuries for the EPA to evaluate them all. So the immediate risk to any given chemical company is very, very small.
Investors tend to get nervous when they find out about additional regulations on companies in which they have a stake. And often, they have good reason to worry. However, the Lautenberg Act presents a lot of upside for chemical companies such as DuPont, Dow, and 3M and very little downside.
The major chemical companies were all supportive of the new law, and it passed with broad bipartisan support. Essentially, everyone found something to like in it. Don't let the word "regulation" fool you: This development isn't a loss for investors in chemical companies.