The fashion and retail industry experienced another year of considerable change in 2023. As advancements in artificial intelligence (AI) spurred innovation within the industry, consumers and regulators worldwide called for sustainability in retail, and merger and acquisition (M&A) activity transformed the luxury fashion sector.
Furthermore, e-commerce grew at an unprecedented rate, indicating that the industry is still grappling with the impact of COVID-19. In 2024, the industry will continue to face new challenges, and brands will be forced to utilize new, creative strategies to maintain a competitive advantage. Below are 11 issues that General Counsels and Chief Financial Officers in the fashion and retail industry should consider in 2024.
1. AI Revolution
2023 was a transformative year for AI in the fashion and retail industry, as companies adopted the use of AI in product design, marketing, customer engagement, and logistics. What remains to be seen is whether the current moment in generative AI (genAI) will be remembered as its “Napster Era” or its “Spotify Era.” Several ongoing lawsuits are challenging a core assumption of genAI developers: that the use of third-party copyrighted works to train genAI tools constitutes “fair use” under the US Copyright Act. Should a court determine this assumption as incorrect, developers could face staggering copyright infringement damages and be forced to either rebuild their models from scratch or begin paying licensing fees to copyright holders. After much of 2023 was devoted to pre-trial motions and resolving secondary claims, courts are expected to start considering plaintiffs’ main infringement claims in 2024. Fast fashion retailer Shein was among the list of companies hit with a lawsuit challenging its use of genAI in 2023. Plaintiffs in the action alleged Shein uses a genAI-powered algorithm to create designs based on predicted trending styles and such designs infringed on the plaintiffs’ intellectual property.
As fashion and retail companies continue looking for ways to incorporate AI into their businesses, they must confront key questions. These include whether works created by genAI are protectible under US copyright laws; whether existing contracts need to be updated to reflect AI-related uses and services; whether AI tools could expose employers to liability under fair wage and hour laws; and/or whether certain AI tools may require pre-clearance and safety testing by federal regulators. 2024 may provide clarity on some, but likely not all, of these key regulatory questions.
2. ESG and Increased Regulation: The New York Fashion Act and the FABRIC Act
Fashion and retail companies should be aware of the growing consumer concern for the environmental and ethical impacts of the industry. This is indicated by resale and direct-to-consumer models gaining ground. Clothing rental companies, such as Rent the Runway and Nuuly, are becoming increasingly popular options for consumers. In a 2023 report from ThredUp, a popular reselling platform, it was estimated that the secondhand clothing market in the United States could reach $70 billion and $350 billion globally by 2027. In addition to consumer concerns about sustainability and ethical sourcing, fashion and retail companies are facing increased government scrutiny of supply chains at both the federal and state level. Two pending pieces of legislation could considerably impact how the fashion industry operates.
The New York Fashion Act
The Fashion Sustainability and Social Accountability Act, or the New York Fashion Act, proposed by the New York State Senate, reflects the increasing consumer demand for ethical sourcing in fashion. If passed, the New York Fashion Act will require companies doing business in New York with global revenues of more than $100 million to map their supply chains and disclose and subsequently remediate any issues. The New York Fashion Act demands a comprehensive due diligence program under which brands would be required to identify, cease, prevent, mitigate, account for, and remediate actual and potential adverse impacts to human rights and the environment in their own operations and supply chain. The New York Fashion Act proposes fines of up to 2% of a violating company’s annual revenue, and if passed, the New York Fashion Act could have significant repercussions for brands. The requirements of the New York Fashion Act are incredibly stringent and would be difficult, if not impossible, for smaller companies to comply. Companies should review their supply chain diligence programs as the introduction of the New York Fashion Act indicates a broader trend of increased scrutiny and regulation in the fashion and retail industry.
The FABRIC Act
The Fashioning Accountability and Building Real Institutional Change Act (FABRIC Act) is currently being reviewed in the US Senate and would be the first federal law regulating brands. As currently drafted, the FABRIC Act would reform the practice of paying garment workers per piece and enforce minimum wage standards in the garment industry. Furthermore, the FABRIC Act introduces new record-keeping and transparency measures and incentivizes garment production in the United States by providing a 30% reshoring tax credit to manufacturers. Encouraging onshore production helps reduce the carbon footprint that results when clothing is manufactured overseas and shipped across the world to consumers.
3. Luxury M&A, Bailouts, and Anticipated IPOs
The luxury industry experienced significant M&A activity in 2023, with Tapestry announcing its agreement to acquire Capri Holdings for $8.5 billion. The combination of Tapestry’s Coach, Kate Spade, and Stuart Weitzman brands with Capri’s Versace, Jimmy Choo, and Michael Kors brands would form a $12 billion luxury group and is anticipated to close in 2024. Authentic Brands Group also reported an increase in annual retail sales of over $29 billion in 2023 as a result of its numerous acquisitions, including Hunter Boots, Rockport, Vince, and Boardriders. Companies looking to acquire fashion brands should carefully diligence the target’s IP ownership, exclusivity agreements with manufacturers and distributors, and talent agreements. The trend of consolidation is expected to continue in 2024 as brands navigate ongoing uncertainties in the industry.
A number of companies struggled to succeed in 2023, as brands in both Europe and the United States experienced slow economic in the latter half of the year. In December 2023, Farfetch reached a $500 million rescue deal to sell its assets to Korean e-commerce giant Coupang. The impending sale suggests Farfetch’s last attempts to avoid bankruptcy, as the purchase price reflects a substantial departure from the company’s $23 billion valuation in 2021. Despite the industry slowdown in the second half of 2023, a number of fashion companies are rumored to go public this year, including Kim Kardashian’s SKIMS, Tory Burch, Reformation, and Vuori. Shein began the process to go public at the end of 2023. The Chinese-based fast fashion company is reportedly targeting an $80 billion to $90 billion valuation, which would make it one of the largest IPOs ever. However, this valuation could be impacted by the recent probe launched by the Cyberspace Administration of China into Shein’s cybersecurity policies.
4. Updated FTC Endorsement Guides
The Federal Trade Commission (FTC) released new Endorsement Guides in 2023 that work to ensure that brand endorsements used in advertising comply with the Federal Trade Commission Act of 1914 (FTC Act). The Endorsement Guides directly address how Section 5 of the FTC Act is applied to advertising that utilizes endorsements and testimonials. Generally, endorsements must reflect the honest opinions of the endorser, and the endorser must have been a bona fide user of the product at the time the endorsement was given. Other guidance in the Endorsement Guides restricts the use of an endorser’s message in advertising if the endorser’s opinion of a product has changed since making the original endorsement. As brands continue to utilize influencer marketing, companies should be conscious of how these new guidelines impact their advertising strategies.
5. Class Action Lawsuits under the California Labor Code
Retail and fashion companies with establishments in California need to be cautious of the state’s plaintiff-friendly laws that could result in substantial damages from mere infractions.
For example, under the extensive California Labor Code, common charges include bag check procedures, improper calculation of overtime payments that fail to take into account commissions, unpaid overtime and minimum wages, failure to provide meal and rest periods, untimely wage payments, technical paystub violations, and unreimbursed business expenses. These claims, typically class action suits, often represent all employees within the state, exerting immense pressure on companies to settle, regardless of the claim’s merit. To avoid such claims, companies should take preventive measures such as conducting wage and hour audits for legal compliance and implementing employee arbitration programs.
6. Reporting Requirements Under the Corporate Transparency Act
Effective January 1, the Corporate Transparency Act (CTA) requires a number of newly formed and existing entities organized under state law, as well as non-US entities that register to do business in the Unites States, to disclose their “beneficial owners” (i.e., individuals who, directly or indirectly, either exercise substantial control over the entity or own or control at least 25% of the entity’s ownership interest) and provide certain other information to the Financial Crimes Enforcement Network (FinCEN), a bureau of the US Department of the Treasury (USDT). Entities that are exempt from CTA reporting include, among others, certain tax-exempt organizations and highly regulated entities such as banks, large operating companies, and subsidiaries of entities exempt from CTA reporting.
Reporting companies formed or registered in 2024 must file its initial report with FinCEN within 90 days of its formation or registration, and reporting companies formed or registered after 2024 must file its initial report within 30 days of its formation or registration. The CTA will also apply to companies that were formed or registered prior to January 1. Such preexisting reporting companies must file their initial report by January 30, 2025. After filing its initial report with FinCEN, a reporting company must update its FinCEN registration within 30 days of a change in its beneficial ownership or certain other information.
7. Online Marketplaces and the INFORM Consumers Act
The FTC’s INFORM Consumers Act, which took effect in 2023, requires online marketplaces to collect bank account, tax ID, and contact information from high-volume third-party sellers. The INFORM Consumers Act defines “online marketplaces” as any person or entity that operates a consumer-directed, electronically based or accessed platform that includes features used by one or more third-party sellers for purposes of selling, purchasing, storing, shipping, and/or delivering consumer products in the United States. The INFORM Consumers Act provides for relatively large civil penalties to help further its goal of deterring counterfeit activity. However, the INFORM Consumers Act only covers “high-volume” third party sellers, as determined by the given sales thresholds. To comply with the requirements of the INFORM Consumers Act, online marketplaces should update their agreements with sellers and develop processes for collecting and verifying seller information.
8. Forced Labor Concerns
Retail companies importing products from China need to be mindful of the US prohibitions on the importation of goods produced in whole or part with forced labor. In the last couple years, US Customs and Border Protection (CBP) has significantly increased enforcement of this prohibition, particularly for goods with a supply chain connected to China. This has only increased with the implementation of the Uyghur Forced Labor Prevention Act (UFLPA) which prohibits the importation of any goods produced in whole or in part in the Xinjiang Uyghur Autonomous Region (XUAR) of China or by an entity on the US Department of Homeland Security (DHS) UFLPA Entity List. XUAR produces many raw materials used to produce goods in every industry – from cotton to chemicals, steel, aluminum, PVC, gold, and much more. Goods suspected of violating US forced labor laws will be detained at the border, which can impact companies’ ability to stock shelves and fulfill contracts. To reduce the risk of detention, companies should implement robust supply chain diligence programs, implement forced labor policies, and seek contractual protections.
9. Terms of Use
Terms of use for websites and mobile apps are essential for managing a company’s online legal risk. They can protect intellectual property, disclaim warranties, limit liability, and outline dispute resolution methods. However, poorly drafted or outdated terms of use can pose legal threats. Recent lawsuits have targeted companies over website terms that allegedly infringe California’s Civ. Code § 1670.8, a law intended to combat non-disparagement clauses hindering consumers’ ability to review products and services. While laws protecting consumer reviews are not uncommon, plaintiffs are using the California law’s broad language to allege that seemingly innocuous terms of use provisions violate the law.
Companies also face rising threats of mass arbitration due to binding individual arbitration in terms of use. Plaintiff lawyers are initiating or threatening to launch hundreds or thousands of individual arbitrations, resulting in overwhelming upfront arbitration fees for the company that can surpass the cost of litigation. By implementing individualized, pre-arbitration procedures, companies can make themselves less appealing targets for mass arbitration.
Moreover, terms of use enforceability are under increased scrutiny. A valid online contract necessitates clear consumer consent, which can be challenging to obtain. Recent court cases have deemed terms of use unenforceable due to minor faults like hyperlink color or screen design where consent is requested. Given these trends, companies should routinely review their digital assets’ terms of use to ensure they provide maximum protection, minimize risk, and enhance enforceability.
10. Uncertainties in the Real Estate Market
As the ever-expanding use of e-commerce suggests, consumers are turning away from in-person shopping experiences and increasingly choosing to buy online. This shift will push many brands to reconsider the value of their brick-and-mortar stores, as well as the reputational importance of offering an in-person shopping option. Additionally, the lingering effects of COVID-19 and the fluctuating interest rates continue to negatively affect the real estate market. Retail companies should confirm whether their landlord merely has a ground lease for the location, in which case they should evaluate their landlord’s financial stability and strategize to safeguard their interests. Implementing a subordination, non-disturbance, and attornment agreement (SNDA) can provide tenants an additional layer of protection, enabling them to maintain their lease even if the lender forecloses on the landlord.
11. Rise in Ransomware Attacks
The presence of ransomware attacks rose in 2023, affecting as many as two-thirds of all organizations. Such attacks can encrypt sensitive data, including trade secrets and personal data, forcing companies to pay hefty ransoms for decryption keys or to prevent data exposure. Companies considering ransom payment should be aware of US Office of Foreign Assets Control (OFAC) sanctions restrictions.
Ransomware attacks can disrupt business operations for weeks, necessitating swift legal action. From notifying insurance carriers to coordinating with response forensics and crisis communications firms, companies must review numerous policies and agreements. Companies also face contractual obligations to notify business partners and navigate over 50 state data breach laws with tight notice deadlines.
Ransomware attacks and other data breaches can lead to liability from regulatory investigations, litigation, and commercial contract indemnity provisions. An updated data security program to prevent attacks and tested incident response plan to deal with any attacks are crucial.
Companies should also be aware of the rapidly evolving regulations. In 2023, the Securities and Exchange Commission (SEC) mandated annual disclosure of material cybersecurity incidents and risk management strategies, the California Privacy Protection Agency initiated a rulemaking on detailed cybersecurity audit regulations, and the FTC updated data breach notification requirements for non-bank financial institutions.
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