Addressing the 'S' in the 'ESG': The EU Commission's proposal for a corporate sustainability due diligence directive

Article Experience

Respecting human rights is an increasingly important and necessary element to achieve sustainable business success. Over recent years, companies and corporations have been witnessing a rapid development in legislation establishing corporate due diligence obligations and accountability for violations of human rights.

On 23 February 2022, the European Commission published its Directive on Corporate Sustainability Due Diligence (the ‘Proposed Directive’) which, when adopted, will require large companies that have operations in the EU to conduct due diligence and report on their human rights and environmental impacts throughout their global value chains. It will also require directors to incorporate sustainability matters into their decision-making process and introduce a civil liability regime.

The new due diligence directive will work in conjunction with existing regulations that already apply to asset managers and financial market participants, such as the Sustainable Finance Disclosure Regulation and the EU Taxonomy.

The Commission’s proposal aims to ‘foster long-term sustainable and responsible corporate behaviour’ along global value chains and to assist with the transition to a sustainable economy.

The Commission’s proposal aims to ‘foster long-term sustainable and responsible corporate behaviour’ along global value chains and to assist with the transition to a sustainable economy.

It builds on the UN Guiding Principles on Business and Human Rights and the OECD Guidelines for Multinational Enterprises.

Here are answers to some of the key questions, including who will be affected and how companies can get their compliance systems updated in good time.

Which companies will the Proposed Directive apply to?

As drafted, the Proposed Directive will apply to EU limited liability companies who:

  • Have more than 500 employees on average and a net worldwide turnover of more than €150 million in the last financial year (Group 1).
  • Have more than 250 employees on average and a net worldwide turnover of more than €40 million in the last financial year, and at least 50% of this net turnover was generated in ‘high impact sectors’ such as textiles, agriculture and the extraction of minerals (Group 2).

Non-EU companies will be affected by the new rules if they:

  • Generated a net turnover of €150 million in the EU in the financial year preceding the last financial year (Group 1).
  • Generated a net turnover of more than €40 million but not more than €150 million in the EU in the financial year preceding the last financial year, and provided that at least 50% of this net worldwide turnover was generated in ‘high impact sectors’ (Group 2).
    Micro companies and SMEs are not directly captured by the proposed rules, but could be indirectly affected.

What does this mean for affected companies?

Under the Proposed Directive, companies will need to:

  • integrate due diligence into policies;
  • identify actual or potential adverse human rights and environmental impacts;
  • prevent or mitigate potential impacts
  • bring to an end or minimise actual impacts;
  • establish and maintain a complaints procedure;
  • monitor the effectiveness of the due diligence policy and measures; and
  • publicly communicate on due diligence.

Non-EU companies within the scope of the proposed Directive must designate an authorised representative in one of the EU Member States to be compliant.

How will the new rules be enforced?

A new system of administrative supervision: Compliance will be supervised by EU Member States who have to designate an authority to ensure effective enforcement. They could impose fines or issue orders requiring a company to comply with the due diligence obligations.

Civil liability by way of damages claims: EU Member States will hold companies liable for damages if a company failed to comply with the due diligence requirements, and an adverse impact occurred as a result of that failure.

Extension of directories’ duties: The Proposed Directive requires directors to incorporate sustainability matters into their decision-making as part of their directors’ duty of care. Breaches will be considered a breach of the director’s fiduciary duties under existing EU Member States’ laws.

What human rights are protected?

A wide range of human rights are protected, all of which are listed in the Proposed Directive’s Annex:

This includes the right to enjoy just and favourable conditions of work, the prohibition of unequal treatment in employment, but also the prohibition to restrict workers’ access to adequate housing (where workers are housed by the company).
  • Economic and social rights and labour rights feature strongly. This includes the right to enjoy just and favourable conditions of work, the prohibition of unequal treatment in employment, but also the prohibition to restrict workers’ access to adequate housing (where workers are housed by the company).
  • A chunky paragraph lists numerous children’s rights, followed by stand-alone prohibitions to use child labour, modern forms of slavery, forced labour, or human trafficking.
  • The ‘classic’ civil liberties, i.e. the right to life, the prohibition of torture, the right to private and family life, or freedom of thought are all included. Another lengthy paragraph is dedicated to freedom of association and assembly, including the rights to form and join trade unions.

Significantly, the Annex also entails a catch-all provision according to which a ‘violation of a prohibition or right not covered by [the rights listed in the Annex] but included in the human rights agreements listed’ may be brought into the scope of the Proposed Directive. This will be the case where:

(a) the violation ‘directly impairs a legal interest protected in those agreements’; and
(b) ‘provided that the company concerned could have reasonably established the risk of such impairment and any appropriate measures to be taken in order to comply [with its due diligence obligations]’.

Preamble 25 of the Proposed Directive explains that the purpose of this catch-all clause is indeed ‘to ensure a comprehensive coverage of human rights’. In this sense, the Proposed Directive goes beyond any current national (draft or passed) laws on mandatory human rights due diligence within the European Union and beyond.

What is the timeline for this?

The Proposed Directive is currently undergoing the EU legislative process and is not expected to be adopted before 2023. Once adopted, EU Member States will have two years to transpose the Directive into national law. For EU companies falling into Group 2 above, the rules only start to apply two years later than for Group 1.

What next steps should companies be taking?

Companies who fall into one of the above categories should start preparing now for the upcoming legislative changes to ensure you are compliant. Although some changes may be made following the debate in the European Parliament, the principles are likely to remain similar to those outlined.

Please get in touch with Robert Kovacs if you would like to discuss what the Proposed Directive may mean for your company.

Authors