A new rulebook for responsible value chains
The European Union (EU) has been promoting the adoption of more sustainable approaches to all aspects of life—social, governance and corporate—as the bloc recovers from the COVID-19 shock to the system. As part of this effort, the European Commission introduced the Proposal for a Directive on Corporate Sustainability Due Diligence (CSDD) to oblige business to protect human rights and the environment. This article by Sebastian Wiendieck and Felix Engelhardt of Rödl & Partner introduces the main pillars of the proposed CSDD and draws readers’ attention to the far-reaching implications the directive will have on companies’ operations around the globe.
Sustainability and the role of business
The need for a swift transition towards an ecologically sustainable and socially responsible economy and society is recognised by the majority of countries and stakeholders around the world. Under international law, it has traditionally been states that who had to bear sole responsibility for ensuring protection of human rights and common goods such as natural resources or entire ecosystems. The indispensable role of business in pursuing fair and sustainable societies only started to find its way onto political and legislative agendas in the early 21st century. Since then, important international initiatives like the United Nations (UN) Global Compact, the UN Guiding Principles on Business and Human Rights, the Organisation for Economic Co-operation and Development (OECD) Guidelines on Multinational Enterprises and the OECD Due Diligence Guidance on Responsible Business Conduct paved the way for what is expected to become the most impactful due diligence regime the business world has seen so far.
The European Commission, on request from the European Parliament and Council, and following two large studies[1] as well as an open public consultation, has incorporated the above-mentioned principles into a widely discussed Proposal for a Directive on Corporate Sustainability Due Diligence (CSDD),which was published on 23rd February 2022.[2]
Purposes of the CSDD
The CSDD’s overarching objective is to foster a “culture of no harm” in EU companies’ global value chains through mandatory obligations and in line with other EU legislation, initiatives and projects, such as the Taxonomy Regulation or the proposed Corporate Sustainability Reporting Directive. Furthermore, the CSDD is the EU’s response to increasing fragmentation of member states’ related rules (such as the German Sorgfaltspflichtengesetz, the French Loi relative au devoir de vigilance and the Wet zorgplicht kinderarbeidm inThe Netherlands). The CSDD aims to reduce administrative costs and burdens for companies while achieving legal certainty and predictability.In the Commission’s view, the CSDD will bring benefits for individuals, companies and developing countries alike.
Who does the CSDD apply to?
The CSDD is directed towards two main groups of companies:
- Group 1 are all large EU limited liability companies that on average employ more than 500 people and whose worldwide annual net turnover surpasses euro (EUR) 150 million.
- Group 2 comprises other EU limited liability companies that do not reach these two thresholds but which operate in certain high-risk sectors (for example, the garment, agriculture and food manufacturing, and extractive and mineral resources industries),[3] have on average more than 250 employees and a worldwide annual net turnover of over EUR 40 million.
In addition, the CSDD also applies to non-EU companies that generate income within the EU according to the Group 1 or Group 2 thresholds. The European Commission estimates that currently around 13,000 EU and around 4,000 non-EU companies would meet these criteria.
Small and medium-sized enterprises (SMEs) do not directly fall within the CSDD’s scope, but will inevitably be affected indirectly through due diligence activities of their large trading partners and affiliated companies.
What the CSDD requires companies to do
The CSDD sets up stringent obligations for affected companies and their directors. In short, companies are required to conduct comprehensive due diligence to protect human rights and the environment from adverse impacts caused by their own operations, the operations of their subsidiaries or by any entity in their value chain (upstream and downstream) with whom the company has an “established business relationship” (i.e., direct or indirect business relationship that is or is expected to be lasting, in view of its intensity or duration, and which is not a negligible or merely ancillary part of the value chain).
Due diligence activities must focus on human rights and environment-related obligations that emanate from international agreements, outlined in Annex I and II to the CSDD. To this end, companies must:
- integrate due diligence into their policies;
- identify actual or potential adverse human rights and environmental impacts;
- prevent or mitigate potential impacts;
- bring to an end or minimise actual impacts;
- establish and maintain a complaints procedure;
- monitor the effectiveness of the due diligence policy and measures; and
- publicly communicate on due diligence.
In addition, Group 1 companies must align their business model and strategy with the Paris Agreement goal to limit global warming, identify how climate change may be or is impacted by their operations and draw up concrete emission reduction objectives.
Directors’ due diligence responsibilities are specifically and separately addressed by the CSDD, which places directors are in charge of:
- setting up and overseeing the implementation of the company’s due diligence processes;
- integrating due diligence into the corporate strategy; and
- taking into account the short, medium and long-term impacts of their decisions on human rights, the environment and climate change.
The CSDD stipulates that a director’s fulfilment of their obligations regarding the corporate climate change plan must be taken into account when setting any variable remuneration linked to their contribution to the company’s business strategy, long-term interests and sustainability.
Enforcement of non-compliance
The CSDD’s approach to enforcing due diligence obligations is a combination of sanctions (public enforcement) and civil liability (private enforcement). The proposal introduces various administrative tools for EU Member States, including establishing effective complaint mechanisms, administrative supervision and investigations, non-pecuniary sanctions and fines by member states’ designated supervisory authorities as well as EU-wide enforcement coordination through a newly established European Network of Supervisory Authorities.
Regarding civil liability, the CSDD provides for a differentiated liability regime, depending on whether violations occur: a) within a company’s own operations or those of its subsidiaries; or b) in the sphere of its established business relations. Companies may not be held liable for violations by their indirect business partners if they can prove inclusion of (yet to be adopted) compliance assurances in business contracts with their partners and suitable verification of compliance (in particular through independent third-party verification).
What’s next?
Before formal adoption, the CSDD requires approval by both the European Parliament and Council. EU Member States will then have two years to transpose the CSDD into national law. Based on the slew of feedback and comments the proposal has triggered so far, it is likely that some considerable adjustments will be made in the final version. European companies are currently facing multiple challenges in relation to their global supply and value chains. The CSDD and its “value chain approach” calls for a reassessment of internal compliance systems and will undoubtedly lead to additional costs for initial establishment, strengthening and operating the required due diligence system. Added to that will be transition costs related to adjusting companies’ own operations and value chains.
It cannot be ruled out that application of the CSDD might force companies to withdraw entirely from certain markets. Therefore, the CSDD proposal contains several accompanying measures to prevent or at least mitigate these negative effects, with special attention given to particularly vulnerable SMEs.
Another important question will be how to appropriately align the provisions under the CSDD with already existing Member State laws, especially those enacted only recently, like the German Supply Chain Act. The Commission seems to be well aware of the potential disruptive implications of the CSDD, as can be seen from the proposal’s recitals, the legal text itself as well as the supportive information provided on the Commission’s website.[4]
In any case, because the CSDD will penetrate global value chains as no sustainability initiative has done before, companies of all sizes will have no alternative than to start assessing how the directive will impact their global business activities and what needs to be done to keep playing by the rules.
As
attorneys, tax advisors, management and IT consultants and auditors, Rödl & Partner is
present in 50 countries with 107 own offices and around 5,260 experts. In
China, Rödl & Partner assists clients from four wholly-owned offices in
Beijing, Guangzhou, Shanghai and Taicang. Sebastian Wiendieck is partner and
head of Legal at Rödl & Partner in China, and is based in Shanghai. Felix
Engelhardt is senior associate at Rödl & Partner in Shanghai.
[1] Torres-Cortés, F., Salinier, C., Deringer, H., et al., Study on due diligence requirements through the supply chain : final report, European Commission, 2020, viewed 22nd July 2022, <https://data.europa.eu/doi/10.2838/39830>, https://op.europa.eu/en/publication-detail/-/publication/e47928a2-d20b-11ea-adf7-01aa75ed71a1/language-en
[2] Proposal for a Directive on Corporate Sustainability Due Diligence, European Commission, 23rd February 2022, viewed 22nd July 2022, <https://eur-lex.europa.eu/legal-content/EN/TXT/HTML/?uri=CELEX:52022PC0071&from=EN>
[3] Article 2 (1)(b), Proposal for a Directive on Corporate Sustainability Due Diligence, European Commission, 23rd February 2022, viewed 22nd July 2022, <https://eur-lex.europa.eu/legal-content/EN/TXT/HTML/?uri=CELEX:52022PC0071&from=EN>
[4] Corporate sustainability due diligence, European Commission, viewed 22 July 2022, <https://ec.europa.eu/info/business-economy-euro/doing-business-eu/corporate-sustainability-due-diligence_en>
Recent Comments