A photo shows a general view on the opening day of the 50th session of the UN Human Rights Council, ... [+]
This week has seen the EU agree new rules on supply chain due diligence, one of a set of laws passed including action on toxic air, packaging and packaging waste. What the Corporate Sustainability Due Diligence Directive establishes is legal liability for corporates on environmental and human rights issues in the European courts - and that could change the framework of corporate accountability.
The C3D is a companion to the Corporate Sustainability Reporting Directive which requires companies to be transparent about their ESG risks and impacts. The CSRD does not require actions to address them, it’s a requirement for transparency not behaviour change. Yet even here different Member States have implemented the rulings in different ways – France for example, has set a high bar in terms of penalties for non-compliance with CSRD, with fines of up to €75,000 and jail time for corporate directors that fail to comply.
The C3D is different and not only will some large non-EU companies find they’re subject to the new rules (even if they’re not subject to the companion EU law on ESG disclosures) but the new due diligence rules go further than the EU’s existing disclosure framework. Hannah Edmonds-Camara, special counsel at multinational law firm Covington explains: “CSDDD goes a step further than reporting on what the company is doing to manage human rights and environmental risk in their global value chains and requires companies to actually do due diligence, from implementing policies, to conducting risk assessments to taking steps to mitigate and remediate adverse human rights and environmental impacts.”
That means taking action, in their own operations, subsidiaries and across the value chain. A feature of CS3D is that these large companies will need to publish and implement a climate change transition plan in line with the Paris Agreement 1.5C temperature goal. As ensuring that corporations take responsibility for preventing and managing the impacts of their supply chains is seen as critical in global sustainable development efforts, Suzy H. Nikièma, director of investment at the International Institute for Sustainable Development (IISD) believes that, “The adoption of the CSDDD is a step in the right direction.”
The CS3D is weaker than originally hoped but will still impact corporate accountability
Beate Beller, corporate accountability campaigner at NGO Global Witness, said: “It was only a few weeks ago that EU Member States nearly killed this law off completely, so [the] vote to pass the final law is something to celebrate. While national governments such as Germany, France and Italy weakened it at the last minute, a new chapter is about to begin for corporate accountability.”
The CSDDD, also know as CS3D, was significantly diluted before finally being agreed. For example, the number of companies that the law applies to will be cut by almost two thirds, from approximately 16,300 to 5,400 as compared to the deal struck in December - both public and private companies will be affected. The legislation will be phased in over five years with the first stage of compliance by 2027, but eventually it will affect all companies that have over 1,000 employees and a turnover of €450 million.
ClientEarth lawyer Amandine Van Den Berghe said: “We know from disasters like the collapse of the Rana Plaza garment factory how important it is that companies take responsibility for environmental harm and human rights abuses in their value chains. It’s now critical this law is properly implemented, enforced and reviewed at the earliest opportunity to plug its many loopholes.”
Even with a weaker framework the CS3D will require companies to focus on sustainability and put resources into new due diligence processes and expanding the teams responsible for such data. It’s also going to see companies need a deeper understanding of the value chain, supplier performance and is likely to affect both operational costs and profitability in the short term. Given the potential downsides of failing to comply, from fines to legal action, the CS3D could transform operational understanding of supply chain accountability and make it a critical business issue. It's possible that despite initially impacting few companies, it ends up having a much wider impact.
Corporate liability becomes a reality
Where this is most likely to bit is in terms of the question of liability, which will see senior executives become liable for transgressions for up to 5% of company turnover. At the same time, it introduces the risk of liability, allowing victims to claim compensation from companies for damages caused by human rights or environmental violations. That could include jail time, which will likely also transform executive perception of the implications.
As Anne Clawson, principal and head of government affairs and public policy at Cascade Advisory points out, the legislation is also likely to have a significant impact on privately held companies which, she says: “Have not typically not faced the same public disclosure requirements as public companies (like from the SEC in the U.S. and from investors that lead them to publish annual sustainability reports already).”
Clawson points out another big distinction, in that companies will have to start auditing their suppliers and their customers' environmental and social performance. Many larger companies have already started internal audits of their sustainability reporting, but it only inconsistently includes suppliers and customers. She says: “Suppliers and customers have been providing some information to larger companies already, but not all suppliers and not all information. They will face many more demands in light of these new laws.”
The Brussels effect and the global supply chain
The real implications of the passing of the C3RD though is what Peter Walsh, senior director, Sustainability and ESG Digital Solution at digital EHS and sustainability platform Benchmark Gensuite, refers to as the ‘Brussels Effect’. This is the cascade effect throughout the global supply chain that means that if larger companies are forced to act, they will have to put pressure on their supply chain for the data and operational transformation that the new laws demand.
He explains: “Professor Anu Bradford of Columbia Law School describes a concept called the Brussels effect which means if you pass a law in Brussels, that law is probably going to go global. Corporate managers need a consistent approach to multiple jurisdiction reporting – and they’ll often choose meeting the highest standard. If that’s the European standard, that’s the de facto standard. Firms trading internationally find that it is not economically, legally or technically practical to maintain lower standards in non-EU markets.”
In terms of reporting format, California and the EU have tried to align their requirements, Canada is working on its own sustainability disclosure and China is working on aligning its taxonomy with the EU. In that way the EU is already influencing countries and companies, who are not even legally subject to European laws. Walsh adds, “The other aspect of that is that their requirements often run through the supply chain, a lot of the clauses require action throughout the value chain. So if you're not subject to the CSRD, then your client is and will be coming to you for the information on your client or your supplier. It affects the entire ecosystem of business.”
The law is now subject to final approval by Member States, after which it will be transposed into national law.
