Proposal for a new EU sustainability directive: do companies face even stricter due diligence requirements along the supply chain?

The European Commission submitted a proposal for a new directive on corporate sustainability requirements to the European Union in Brussels on 23 February 2022 (so-called "Proposal for a Directive of the European Parliament and of the Council on Corporate Sustainability Due Diligence and amending Directive (EU) 2019/1937"). Its purpose is to promote sustainable business behaviour in relation to supply chains, especially in activities with an impact on human rights and the environment.

Under the proposal, affected companies must assess potential and actual adverse effects of their own activities, those of their subsidiaries, and those of their established trading partners along the entire value chain. In addition, the proposed directive provides for civil liability of companies if they breach reasonable due diligence obligations. Furthermore, special obligations for implementing and monitoring the required sustainability efforts are being imposed on management boards, obliging them to set up complaints systems.

Below, we have compiled a brief overview of the possible innovations for you:

Directive’s target groups

• Group 1: The due diligence requirements of the draft directive shall apply to all EU corporations with more than 500 employees and a worldwide net annual turnover of at least 150 million euros.
• Group 2: The directive shall also cover those limited liability companies that have more than 250 employees, a worldwide net annual turnover of at least 40 million euros, and where at least 50% of the turnover is generated from a resource-intensive industry identified in the directive as being particularly risky. These include, for example, textile or leather manufacturers, agricultural producers, forestry producers, food wholesalers and manufacturers, as well as raw material extractors.
• Group 3: Finally, companies from third countries operating in the EU will also fall under the directive, provided they meet the requirements of group 1 or 2.

According to the Commission, this currently affects about 12,800 companies in the EU and about 4,000 companies from third countries. In contrast, the German Act on Corporate Due Diligence Obligations in the Supply Chain (Lieferkettensorgfaltspflichten-gesetz, LkSG) applies to companies regardless of their legal form and turnover, if they employ at least 3,000 employees (as of 1 January 2023) or 1,000 employees (as of 1 January 2024) in Germany. Consequently, the planned EU sustainability directive will also cover smaller companies, which means that target groups affected by it will even exceed those of the LkSG.

Main contents of the proposed directive

• According to the directive, due diligence obligations are to be made a part of corporate policy by integrating them into the company guidelines. Company guidelines have to be updated annually and must include a description of the company's long-term approach.
• In addition, a code of conduct and measures for compliance with the code must be established.
• Companies will be required to identify actual and potential negative effects on human rights and the environment. Potentially negative effects are to be avoided by taking appropriate measures. The actual negative effects are to be brought to an end. If this is not possible, they must be reduced to a minimum.
• In addition, the proposed directive requires the establishment of a complaints system covering the entire value chain in the affected companies so that the effectiveness of the strategies and measures taken by the company can be checked. Thus, similar to the LkSG or the draft of the German Whistleblower Protection Act (Hinweisgeber-schutzgesetz-Entwurf, HinSchG-E), this directive proposal also requires the affected companies to implement complaint mechanisms. Persons affected or persons who have reason to believe that they are affected are authorised to file complaints. In addition, trade unions, employee representatives and civil society organisations active in areas of the value chain have access to the complaints mechanism. This parallels the LkSG, which also gives "potentially affected persons" the opportunity to lodge a complaint.
• Companies must monitor the effectiveness of their strategies and measures taken to fulfil their due diligence obligation and report on matters publicly on the company website.
• In addition, an authorised person must be appointed to receive notifications from the supervisory authorities. This further concretises the main task of the human rights officer under the LkSG.

The due diligence requirements in the draft directive have a broader scope than those under the LkSG. In principle, the LkSG only covers direct suppliers, with indirect suppliers only being covered in exceptional cases. The proposal for a new EU sustainability directive, on the other hand, provides for due diligence obligations for all suppliers, as long as an established business relationship exists, i.e. it targets the entire value chain.

Climate protection and incentive target in variable remuneration systems

• Unlike the LkSG, the draft directive obligates the affected companies in group 1 and, in part, group 3 to take the 1.5-degree maximum warming target of the Paris Climate Agreement into account in their corporate strategy.
• And it even goes one step further: these objectives also have to be duly taken into account in the variable remuneration systems with members of the company management if these systems are linked regarding the bonus-relevant factors to contributions made by the company management to the strategy and to the long-term interests and sustainability of the company.

Sanctions

• The draft enables the competent bodies to sanction violations of the regulations which will then have been adopted nationally. Firstly, this can be by way of a fine.
• Secondly, it permits a civil liability of the affected companies which could face damage claims from plaintiffs who have been harmed by the due diligence breaches.

Outlook

This Commission proposal for a new EU sustainability directive joins a host of other regulatory projects and targets at EU level to ensure the Union’s successful transition to a carbon-neutral and green economy in line with the European Green Deal. The aim is to achieve the United Nations’ sustainable development goals, which specifically include its human rights and environmental goals.

However, it also leads to a host of new corporate and due diligence obligations for the companies affected, some of which lead to synergies. These partially also vary in scope, which makes their particular scope difficult to determine.

Companies should therefore keep a close eye on further (European) legal developments in good time when aligning their sustainability strategy and adapting their compliance management systems. In addition to the above-mentioned directive proposal, examples include the European Commission's proposal for a European Supply Chain Act (see ourarticle dated 4.3.22), the proposal for a directive on corporate sustainability reporting (see ourarticle dated 28.1.2022), the EU Regulation on Sustainability-related Disclosure Requirements in the Financial Services Sector, the EU Taxonomy Regulation and the EU Whistleblowing Directive (see ourarticle dated 14.4.2022 and our article dated 9.6.21).

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