What is it?
Sustainability or sustainable development, which have become buzzwords in the recent years, require an integrated approach from companies, taking into account environmental aspects alongside economic development.
In 1987, the UN Brundtland Commission defined sustainability as, “meeting the needs of the present without compromising the ability of future generations to meet their own needs”. Last year, as a result of almost 35 years of socioeconomic development, the European Commission adopted a proposal for a directive on Corporate Sustainability Due Diligence (CSDD), a legislative framework to ensure that companies are responsible for human rights and environmental breaches along their value chain.
The Directive is based on and interacts with other regulations focusing on supply chain ESG (Environmental, Social and Governance), such as the SFDR (the European Union’s new Sustainable Finance Disclosure Regulation), the Corporate Sustainability Reporting Directive (CSRD) and the German Supply Chain Act.
Who would be affected?
The rules of the due diligence directive apply to large EU companies and to non-EU companies active in the EU. The Commission proposes that it should be applicable to:
- EU companies with more than 500 employees and a net worldwide turnover of more than EUR 150 million in the last financial year
- EU companies with more than 250 employees and a net worldwide turnover of more than EUR 40 million, provided at least 50% of this turnover was generated in a high-impact sector (e.g. the manufacturing of textiles, leather and related products; agriculture, forestry and fisheries; the extraction and manufacturing of mineral products).
- non-EU companies that generate a net turnover of more than EUR 150 million in the EU in the last financial year.
- non-EU companies that generate a net turnover of more than EUR 40 million in the EU, provided at least 50% of worldwide turnover was generated in a high-impact sector.
It should be noted that, although small and medium-sized companies do not fall directly within the scope of the EU CSDD, they are indirectly affected, as being suppliers to larger, in-scope companies, they will also have to comply with the new directive.
The directive as proposed would be enforced at Member State level, with these two enforcement levers in particular being relevant to in-scope companies:
- the directors of EU companies would be accountable for overseeing the due diligence requirements, and the suggested climate change requirements would be reflected in their remuneration.
- the companies would be liable for damages if they fail to comply with obligations to prevent, bring to an end, or mitigate any potential adverse impacts.
Failure to comply with the EU CSDD will lead to sanctions: a competent regulatory authority (designated by EU Member States) may impose sanctions, including fines and compliance orders. Furthermore, any victim of non-compliance with CSDD obligations will be entitled to claim compensation for the resulting damage.
The Council’s position
The CSDD was proposed by the European Commission in February 2022 and is now moving through the European Union legislative process.
In December 2022, the European Council finalised its position, significantly modifying the scope of the Commission’s proposal and suggesting a less punitive approach to enforcement measures. The Council’s text has introduced a phase-in approach regarding the application of the rules. The rules would first apply to very large companies with more than 1000 employees and €300 million net worldwide turnover or to non-EU companies with a €300 million net turnover generated in the EU, but only after 3 years from the date of the entry into force of the directive.
Some parts of the original proposal of the Commission on due diligence falling under the directors’ duty of care was deleted from the draft version of the Council, which narrowed down the scope of the CSDD, clarified the conditions for civil liability and suggested a more lenient approach.
The Council’s text also strengthens the risk-based approach and the rules on the prioritisation of the adverse impacts to ensure that companies carry out their due diligence obligations and comply with the new directive.
What should your firm do?
The Directive is unlikely to come into force until 2025 at the earliest, but firms may start now to take the first steps to comply with the requirements of the Directive. In preparation for compliance with the new directive, firms are advised to:
- identify actual or potential negative impacts on the environment and human rights within your operations,
- take measures to prevent, mitigate and remediate these impacts,
- implement a complaints procedure that everyone along the supply chain can access,
- if your annual turnover exceeds €150 million, you must outline a transformation plan to meet the Paris Climate Agreement emission reduction targets,
- issue a public report on your organization to prove that the company has successfully fulfilled its supply chain due diligence obligations.