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Environmental regulations and the costs of compliance.

In the past twenty years, there has been a sharp increase in the number of environmental laws and regulations with which U.S. businesses must comply. While many of these laws provide valuable protection for individuals, they have also dramatically changed the practice and the cost of business. This article focuses on several of the federal environmental laws--specifically, how they affect business and management accounting practices.

The Resource Conservation and Recovery Act (RCRA), passed in 1976 and greatly expanded by 1984 amendments, establishes a very broad definition of "hazardous waste." Wastes are regarded as "hazardous" if they are (a) one of many explicitly identified wastes or (b) chemically reactive, ignitable, corrosive, or toxic. Spilled hazardous waste and soil containing hazardous waste are also deemed "hazardous." (Additionally, the 1984 amendments established a comprehensive regulatory program for underground storage tanks containing RCRA-regulated substances.) RCRA also prescribes how hazardous wastes can be collected, transported, and discarded. Businesses that generate hazardous wastes must meet waste-storage standards, develop contingency plans for hazardous waste spills, satisfy specific personnel training requirements, and maintain complete records on all hazardous waste that is shipped off site.

The Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (CERCLA), commonly known as the "Superfund" law, authorizes the federal government to clean up hazardous substances and other toxic pollutants in the water, air, and on land and to collect the costs of doing so from the responsible parties. It also created the Hazardous Substance Response Fund, which is available to pay for government cleanup and litigation against responsible parties and is funded by taxes on petroleum, certain chemicals, and certain corporate income. The 1986 Superfund Amendments and Reauthorization Act (SARA) further expanded CERCLA's scope and funding and established new, detailed cleanup standards.

The courts have established several important precedents with "Superfund" liabilities. Liability may be imposed retroactively on past, nonnegligent generators and disposal site operators. The liability for site cleanup is "strict" (i.e., without regard to whether the original disposal was illegal) and can be "joint and several" (i.e., extended to include responsibility for all cleanup at a site even when only part of the waste was from the identified party). Although individual shareholders, officers, and directors can be held personally liable for the remedial costs, in many cases, insurance companies have been held liable for waste disposal costs in years when the disposing company had general business insurance. One study found that CERCLA-related expenses for individual businesses were spent on site cleanup, but such expenses for insurance companies were largely spent on legal fees. This is probably because the total cost of CERCLA cleanup exceeds the aggregate reserves of the business insurance industry; in essence, this segment of the insurance industry is fighting for its survival.

The Occupational Safety and Health Act (OSHA) requires employers to provide a hazard-free workplace and to comply with OSHA standards, such as the "Toxic and Hazardous Substances" standards that set permissible limits for exposure to carcinogenic or otherwise toxic substances used in the workplace. Material Safety Data Sheets must be prepared for all hazardous chemicals used at a site and made available to all employees. Many firms are also required to conduct employee training programs.

The Emergency Planning and Community Right-to-know Act (EPCRA) was enacted as Title III to the 1986 Superfund amendments, but it is a freestanding statute. In compliance with EPCRA, all state and local governments have established emergency planning networks for chemical spills and accidents. Any business facility that handles more than the threshold amount of any substance is subject to EPCRA "planning" and "notification" requirements. That is, the facility must appoint an emergency coordinator to coordinate emergency responses with the local planning committee and must immediately report the release of any "reportable quantity" of any "extremely hazardous substance." Additionally, each facility must send Material Safety Data Sheets (or a summary list) on all chemicals covered by OSHA rules and used at the facility to the local committee, which must also receive annually a Hazardous Chemical Inventory Form indicating maximum and average daily amount of each regulated chemical at the facility. Finally, a Toxic Chemical Release Form, describing the amount of emissions of "toxic chemicals" into the environment from routine operations as well as emergency releases, must be filed.

The main way that businesses have been affected is from the cost of state and federal environmental regulations. Because of pressures to keep profits intact and product costs low, firms regularly compare the costs of their current production processes with the costs of alternative processes. Increasingly, process costs include significant expenses related to complying with environmental regulations. These expenses include not only permit fees but also the costs of filling out compliance forms and training workers and the environmental costs passed on by suppliers and service providers. Traditionally, these costs have not been traced to specific production processes, but have been assigned to general overhead and then allocated across all of a firm's production processes. In the past, this has been an acceptable way of accounting for these costs because (a) the information system costs of tracking environmentally related costs were relatively high and (b) the environmentally related expenses were relatively low.

However, these traditional cost allocation methods are less appropriate now. The information system costs of recording and reporting compliance costs have declined, and compliance with some environmental regulations has become more expensive, more specific, and more time-consuming. As compliance costs increase relative to other costs, it becomes more important for competitive manufacturers to assign these costs accurately. For example, if one production process generates hazardous wastes, aggregating the associated waste disposal fees into one general overhead (and allocating those costs over all production processes) understates the economic cost of the one line and overstates the economic cost of all the other lines. Many leading firms now include environmental compliance costs in project analyses and trace waste management costs to the generating departments. In these companies, accounting for environmental costs is now an intrinsic part of the corporate decision-making process.

Many companies are undertaking "environmental audits," reviews of their obligations and current practices. These compliance audits are usually motivated by an internal desire to confirm that the firm is meeting its environmental responsibilities and are used to check whether current practices are adequate for meeting the firm's environmental responsibilities. For firms committed to being environmentally responsible, compliance audits provide an opportunity to identify where this social commitment is not being achieved. Also, insurance companies may offer lower rates to businesses that can demonstrate that their internal control systems are adequate for monitoring compliance with environmental laws. Some international standards (currently under development) for business certification will require that compliance audits be undertaken with some regularity, and firms may want to sell to customers (e.g., some European governments) that have announced they will deal with only "certified" businesses. Finally, the new U.S. sentencing guidelines for certain corporate crimes allow sentencing leniency only if firms can demonstrate that they had programs in place that were attempting to reduce the possibility of the discovered crimes; an existing program of compliance audits would certainly be necessary for lenient treatment of corporate officers found guilty of fraudulent environmental activities.

Christopher H. Stinson

Assistant Professor Accounting University of Texas at Austin


A concentration in Natural Resource and Environmental Management has been added to the University of Texas at Austin M.B.A. program to help graduate students address how the managerial, financial, and strategic issues facing corporations are affected by environmental considerations. Several courses require that students complete voluntary internships with local businesses. In addition, students can be hired as summer interns. Firms interested in discussing internship opportunities should contact Dr. Christopher Stinson at (512) 471-5318.


Acton, J.P., and L.S. Dixon. 1992. Superfund and Transaction Costs: The Experiences of Insurers and Very Large Industrial Firms. Rand, Santa Monica, California.

CH2M Hill. 1993. The Role of Internal Auditors in Environmental Issues. The Institute of Internal Auditors Research Foundation, Altamonte Springs, Florida.

Dower, R.C. 1990. Hazardous wastes. In P.R. Portney, ed., Public Policies for Environmental Protection. Resources for the Future, Washington, D.C.

Global Environmental Management Initiative (GEMI). 1994. Finding Cost-effective Pollution Prevention Initiatives: Incorporating Environmental Costs into Business Decision Making. GEMI, Washington, D.C.

Hamner, B., and C.H. Stinson. 1995. Managerial accounting and environmental compliance costs. Journal of Cost Management, in press.

Probst, K.N., and P.R. Portney. 1992. Assigning Liability for Superfund Cleanups: An Analysis of Policy Options. Resources for the Future, Washington, D.C.

U.S. General Accounting Office. 1992. Waste minimization: major problems of data reliability and validity identified. U.S. General Accounting Office PMED-92-16, Washington, D.C.
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Author:Stinson, Christopher H.
Publication:Texas Business Review
Date:Dec 1, 1994
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