The Corporate Sustainability Due Diligence Directive (“CSDDD”) will be revolutionary when it comes into force and its impact on companies doing business in Europe will be profound. While we wait for the EU’s agreement on the final text, the proposal unveiled by the Commission in February 2022 offers a comprehensive insight into how the CSDDD will affect environmental and human rights compliance.
Rationale
The EU Commission has cited various drivers behind the CSDDD and has identified three categories of beneficiaries who will benefit the most from the CSDDD: citizens, developing countries and companies. The Commission highlights that, despite the clear benefits of sustainable corporate governance, according to a 2020 European survey, only 16% of companies surveyed conducted environmental and due diligence over the entirety of their supply chains. Below we discuss in more detail some of the key drivers behind this revolutionary Directive:
- Human Rights: A mandatory due diligence framework will dissuade EU companies from using suppliers with poor labour and human rights track records. In practical terms, the CSDDD has a global reach and has the potential to benefit the interest of workers from all over the world. The CSDDD will also give “victims” a direct recourse against companies that fall foul of their obligations.
- Corporate Governance and Risk Management: The CSDDD will drive good corporate governance by ensuring that i) directors take responsibility for the implementation of the due diligence framework within their organisations; ii) companies and directors become accountable for the human rights and environmental failures of their suppliers; iii) companies enhance their awareness of their third party risk landscape and iv) senior management are transparent and document the decision making process behind the use of suppliers, particularly where they are high risk.
- The Environment: The CSDDS’s overarching purpose is to reduce and prevent pollution, deforestation, excessive water consumption, or damage to the ecosystem. The CSDDD would require certain large companies to adopt a plan to ensure that the company’s business model and strategy are compatible with the transition to a sustainable economy, including limiting global warming to 1.5°C in line with the Paris Agreement. These measures and strategies would include emission reduction plans and the use of sustainability factors in setting the remuneration policies.
- Unified Legal Framework: France and Germany have already adopted national laws on human rights and environmental good governance. In France, the Loi sur le devoir de vigilance which applies to companies of over 1000 employees (or 5000 if just in France) and in Germany, the Sorgfaltspflichtengesetz applies to companies with over 3000 employees. The resulting fragmentation and barriers within the EU single market risks creating additional administrative burdens and costs for companies operating across borders. The CSDDD would bring legal certainty and allow for a level playing field for companies operating in the single market.
Who is affected
The obligations in the CSDDD will apply to the following companies and sectors:
- Group 1: all EU limited liability companies with more than 500 employees and a worldwide turnover of €150 million.
- Group 2: other EU limited liability companies with 250 or over employees and €40 million in net turnover worldwide (provided that at least 50% of this turnover is generated in a high-impact sector).
- Group 3: non-EU companies that generate a net turnover of more than €150 million in the EU.
- Group 4: non-EU companies that generate a net turnover of more than €40 million in the EU, provided at least 50% of worldwide turnover was generated in a high-impact sector.
The high-impact sectors currently include i) the manufacture and wholesale trade of textiles; ii) clothing and footwear; iii) agriculture including forestry and fisheries; iv) manufacture of food and trade of raw agricultural materials; v) extraction and wholesale trade of mineral resources or manufacture of related products and vi) construction.
The CSDDD will cover both upstream and downstream business partners and includes activities relating to production, supply, transport, storage, design and distribution. The obligations downstream activities will be narrower.
Key Obligations and Practical Guidance
The CSDDD imposes a duty for directors to set up and oversee the implementation of due diligence controls and to integrate it into the corporate strategy. The due diligence will require companies to perform some of the following work:
a. Identify all business partners that fall within the scope of CSDDD so the next steps can be performed.
b. Assess or “screen”, their business partner’s credentials and the human rights and environmental risks they pose. The risk score will be used to allocate a risk profile which can them be managed accordingly.
c. Develop a prevention and mitigation action plan, with reasonable and clearly defined timelines for action and indicators. Depending on the risk, the plan may include things such as:
- Seeking contractual assurances (compliance with the company’s policies, adequate termination rights etc…).
- Providing visible communication of the company’s principles and policies.
- Performing training and awareness sessions with the business partners and the team members dealing with the business partners.
- Working with suppliers to help them meet the required thresholds for human rights and environmental compliance.
- Interaction between the company’s E&C team and the partners legal and compliance functions.
- Establishing and communicating the existing of reporting systems to the business partners.
For seasoned compliance professionals, all the above will seem very familiar, as it is the same type of due diligence carried out to prevent financial crime like bribery and corruption. Nevertheless, it’s worth noting that CSDDD obligations are inherently more technical and will demand stronger cross-department collaboration to achieve adequate integration of processes and controls.
Under the CSDDD, EU governments will be required to create practical portals, dedicated to companies’ obligations, that will provide guidance and information on content and criteria specific to human rights and environmental due diligence.
Supervisory Body and Sanctions
Once the CSDDD is transposed into national law, each EU country will designate a supervisory authority. These bodies will exchange best practices and cooperate at EU level within the European Network of Supervisory Authorities established by the Commission. These bodies will have the powers to:
- Launch inspections and investigations over substantiated concerns submitted by any natural or legal person.
- Impose penalties on non-compliant companies, including “naming and shaming” and fines of up to 5% of their net worldwide turnover.
- Debarment from public contracts and tenders in the case of severe breaches.
- A civil mechanism will allow victims to be compensated for direct damages resulting from breaches of CSDDD obligations. Liability will be subject to a 5-year limitation period and trade unions will be able to bring claims on behalf of victims.
- Directors responsible for providing for and overseeing the due diligence processes could also face administrative proceedings for breaches of their directors’ duties.
Similarly, to the EU whistleblowing directive (Directive (EU) 2019/1937) the specific remedies and the size of penalties will differ between each member state.
Conclusion
When it comes into force the CSDDD will be a transformative piece of legislation set to revolutionize how multinational corporations address human rights, environmental concerns, and overall third-party risk management. While the provisions will not be transposed international law until 26/27, it is destined to have a profound effect on corporate attitudes towards human rights and environmental responsibility across Europe and globally.
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References:
https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=CELEX%3A52022PC0071
https://commission.europa.eu/business-economy-euro/doing-business-eu/corporate-sustainability-due-diligence_en
https://www.europarl.europa.eu/doceo/document/TA-9-2023-0209_EN.pdf
