Upcoming Obligations in Relation to Corporate Sustainability Due Diligence

After some delay, the EU Commission has adopted its proposal for a Directive on Corporate Sustainability Due Diligence, which imposes obligations on companies to have due diligence processes in place to protect human rights and the environment in companies’ own operations and supply chains. Larger companies will also be required to ensure that their business strategy is aligned with the 1.5°C target set out in the Paris Agreement.

The actions taken by companies play a significant role in the transition to a climate neutral and green economy in line with the EU Green Deal and to achieve the global goals on sustainable development set out in the UN 2030 Agenda. In the light thereof, the EU Commission adopted its proposal for a Directive on Corporate Sustainability Due Diligence on 23 February 2022, which aims to promote a sustainable and responsible corporate behaviour in global supply chains. The Directive is intended to complement other EU rules and initiatives relating to sustainability and create legal certainty by avoiding the fragmentation that may arise as several member countries have adopted, or are planning to adopt, similar obligations on a national level.

In the following, a summary of the main features of the proposal is provided.

Which companies are covered by the Directive?

In a first step, the new rules will apply to companies in the EU with more than 500 employees and a global net turnover exceeding EUR 150 million (group 1). Two years after the rules have entered into force for group 1, companies with more than 250 employees and a global net turnover exceeding EUR 40 million shall also be included in the scope, provided that at least half of the turnover has been generated in one of the high impact sectors set out in the Directive, inter alia relating to textiles, clothing and footwear, agriculture, food and beverages, forestry, minerals, and metals (group 2). The rules will also apply to non-EU companies that generate a turnover from operations in the EU in line with the thresholds in group 1 and 2.

How far reaching is the responsibility?

Companies’ responsibilities in relation to actual and potential human rights and environmental adverse impacts do not only apply in relation to their own and subsidiaries operations, but also value chain operations carried out by entities with whom the company has an “established business relationship”. Companies must assess which of its business relationships are deemed as “established” at least annually. As regards the question of what is considered as human rights and environmental adverse impacts, reference is made in the Directive to certain international convention in the respective area.

What are the obligations?

To comply with the due diligence obligations, companies that are covered by the proposed Directive must take, inter alia, the following measures:

• Integrate due diligence into all of the company’s policies and have in place a due diligence policy. The company’s due diligence policy shall contain a code of conduct with rules and principles to be followed by the company’s employees and subsidiaries, and a description of the company’s due diligence processes and measures taken to verify compliance with the code of conduct and extend its application to established business relationships.
• Take appropriate measures to identify actual and potential human rights and environmental adverse impacts in own operations, subsidiaries and established business relationships, where related to the company’s value chain.
• Take appropriate measures to prevent or mitigate potential human rights and environmental adverse impacts, which can include, inter alia, implementing prevention action plans, ensure compliance by contractual assurances, investments into management or production processes, providing support to SMEs with which the company has established relationships, and by way of collaborations. As a last resort, companies may need to refrain from entering into new or extending existing business relationships, to ensure compliance with the due diligence obligations.
• Establishing and maintaining a complaints procedure for affected persons, trade unions and certain other organisations to submit complaints regarding actual or potential adverse impact.
• Continuously monitor, assess and develop the company’s measures and the effectiveness of the due diligence processes.
• Annually publish a statement on the company’s website on due diligence, potential and actual adverse impact and actions taken on those.

The larger companies covered by the rules (group 1) will be required to adopt a plan to ensure that their business model and strategy are compatible with the transition to a sustainable economy and with the limiting of global warming to the 1.5°C in line with the Paris Agreement.

The proposal also includes obligations on company directors, that are ultimately responsible for putting in place and overseeing the due diligence actions and policies, adaptation of company strategy and reporting to the board of directors. Directors must also, when fulfilling their duty to act in the best interest of the company, take into account the consequences of their decisions for sustainability matters such as human rights, climate change and environmental impact, in all decision making.

What are the consequences of non-compliance?

Member states shall designate the national authorities to supervise compliance with the new obligations and provide for dissuasive, proportionate and effective sanctions for infringements, including fines based on company turnover. Victims shall also be entitled to claim compensation for damages resulting from the failure to comply with the proposed obligations.

What is the next step?

The proposal will now go to the European Council and the European Parliament, and amendments may be made to the proposal before a final directive is adopted and can be transposed into member states legislation. Although binding rules are some years ahead and will not be directly applicable to all companies, the proposal is only one of many examples of the ongoing shift on the market with more regulations, requirements and expectations on companies from all of their stakeholders in relation to sustainability and emissions reductions. To keep up with these developments, companies should already at this point review their operations and value chains from a sustainability perspective to make sure, inter alia, that human rights are upheld and measures are taken to limit global warming in accordance with the Paris Agreement.