Human Level’s Take: Have a question on the EU Corporate Sustainability Due Diligence Directive (CSDDD)? The European Commission is here to answer! The European Commission’s new FAQ delves into the full array of questions that are coming up. While the information is not necessarily new, it’s telling to see what the European Commission has chosen to highlight. In particular, the Commission has sought to emphasize aspects of the EU CSDDD that seek to ensure that the due diligence duty doesn’t become a compliance burden pushed on to companies’ smaller business partners. Of particular note, the European Commission situates the EU CSDDD squarely within the context of the transition to a sustainable economy; delves into the benefits for business of the directive and reiterates the Directive’s alignment with the UN Guiding Principles and the OECD Guidelines. The FAQs also call out the inter-connection between environmental and human rights impacts; how disengagement should be viewed as a last resort; and the importance of contractual provisions that ensure a fair allocation of tasks amongst contracting parties and avoid burden-shifting. The focus on purchasing practices, and other measures that can support business partners, is reiterated. The stick of administrative enforcement and civil liability - alongside other risks such as reputational risks and risks of losing trust from customers and employees - are all referenced as reasons to take this law seriously. So companies, we can no longer say that the EU hasn’t given enough guidance! Implementation starts now!
We extract here some of the key information from the FAQ - based on the kinds of questions that we are getting. (There are other questions included in the FAQ - also, we have re-worded the questions):
Why this law? The European Commission describes why we need this law: (1) it’s necessary for the transition to a sustainable economy, (2) the voluntary frameworks are not enough, (3) without it, there would be unclear and fragmented legal landscape across the EU Single Market, (4) the law will help business (e.g. risk management, resilience, innovativeness, and overall competitiveness), and (5) other countries are adopting similar laws.
The European Commission also lists the following as the main benefits of the law:
- Harmonised legal framework in the EU, creating legal certainty and a level playing field.
- Greater customer trust and employee commitment.
- Better awareness of negative human rights and environmental impacts.
- Better risk management (including of liability risks), enhanced resilience, increased innovation and competitiveness.
- Increased attractiveness for employees who prioritize sustainability performance, sustainability-oriented investors and in public procurement procedures
Alignment with UN Guiding Principles? The European Commission references the international standards on corporate sustainability due diligence (aka the UN Guiding Principles & the OECD Guidelines) and reiterates that the law “to a large extent aligns with these voluntary frameworks, with certain necessary adaptations linked to its mandatory nature.” The European Commission also provides that the list of human rights that are covered by the due diligence duty are also those referenced in the UN Guiding Principles.
How many companies are in scope? The European Commission indicates that there will be approx. 6,000 EU-based companies in scope, and 900 non-EU companies in scope. The FAQ describes the rationale for why EU-based companies are in scope based on their net worldwide turnover (over EUR 450 million) and number of employees (over 1,000), while non-EU companies are in scope based solely on their net turnover generated in the EU (over EUR 450 million), and without consideration of employee numbers. In short: it would be very complicated for stakeholders or supervisory authorities in the Member States to check the number of employees in non-EU companies.
How does this law connect with the EU Deforestation Regulation, Forced Labour Regulation and EU Corporate Sustainability Reporting Directive (CSRD)?
- The law is a general horizontal framework (lex generalis) for sustainability due diligence for very large EU and non-EU companies.
- There are also sectoral laws pursuing the same objectives but providing for more extensive or more specific obligations (lex specialis) (e.g. EU Deforestation Regulation). The European Commission makes clear that these supersede the law’s general requirements in case of conflict.
- The law relies on the reporting under the Corporate Sustainability Reporting Directive (CSRD). For the small number of companies that are not already covered by the CSRD, it complements the existing rules by providing a simplified and aligned reporting framework.
What’s the deal with financial services?
- The European Commission makes clear that the Directive does cover financial companies, but that the financial services provided in the context of relationships with clients are excluded from the scope of the due diligence.
- At the same time, the Commission notes that there is a specific review clause in the law and that client relationships could be included a little later (in two years’ time).
- Financial companies are still expected to look at their clients’ GHG emissions, since they are required to adopt and put into effect a climate transition plan, which includes absolute emission reduction targets for scope 3 greenhouse gas emissions (where appropriate).
What’s the deal with SMEs?
- SMEs do not have due diligence obligations (see the thresholds above!) but of course, a number of them will be direct or indirect business partners in the chains of activities of companies that are in scope. Therefore, they are in scope of companies’ due diligence.
- The European Commission reiterates that the provisions contained in the CSDDD are there to help protect SMEs and minimise their burden - by paying attention to two aspects: ensuring that companies don’t shift compliance over to their smaller business partners, and ensuring that SMEs have they support they need. This is where the law’s focus on adapting purchasing practices comes in, as well as the calls on companies to make investments, build capacity and provide support to SMEs (both financial and non-financial).
- The European Commission notes that companies are required to bear the costs of audits. The SME being audited may decide to bear (part of) the costs - in which case, the company will be able to use the audit report vis-à-vis other business partners.
What’s the deal with the environmental impacts in scope?
- The European Commission observes that the adverse environmental impacts in scope for environmental due diligence are based on multilateral environmental conventions.
- The environmental conventions that are in scope are those that (1) have sufficiently precise and clear requirements and (2) can be implemented directly by companies (without needing additional measures by States)
- The European Commission also underscores the connection between environmental and human rights impacts: measurable environmental degradation that (1) impairs human rights or (2) substantially affects ecosystem services that contribute to human wellbeing are in scope.
- Examples of impacts on human rights from environmental degradation provided include impacts on human health, safety and livelihoods.
- Environmental degradation includes harmful soil change, water or air pollution, harmful emissions, excessive water consumption, degradation of land and any other impact on natural resources.
Which parts of the value chain are in scope for the due diligence duty?
- The European Commission delves into the concept of ‘chain of activities’ which covers both upstream and downstream activities.
- When it comes to upstream, this covers the activities of upstream business partners related to the production of goods or the provision of services by the company, including the design, extraction, sourcing, manufacture, transport, storage and supply of raw materials, products or parts of products and the development of the product or the service.
- When it comes to downstream, this covers the activities of downstream business partners related to the distribution, transport and storage of the product, where the business partner carries out those activities “for the company or on behalf of the company.”
- The European Commission makes clear that the due diligence duty is not limited to a specific product or service and does not depend on where the company operates or where its business partners are located. It observes that this is consistent with the approach taken in the UN Guiding Principles and OECD Guidelines.
What practical measures are expected of companies - when it comes to preventing, mitigating and bringing to an end adverse impacts?
It is helpful to see the measures that the European Commission pulls out, and how. They are:
- developing and implementing prevention and corrective action plans (only for complex issues)
- seeking to obtain contractual assurances from a direct business partner, including cascading requirements through the chain of activities
- making the necessary financial or non-financial investments, including in their chains of activities (for example, upgrading infrastructures)
- providing support (such as capacity building) to their SME business partners where necessary in light of the resources, knowledge and constraints of the SME
- providing financial support (such as direct financing, low-interest loans, guarantees of continued sourcing, or assistance in securing financing) to their SME business partners where compliance with the code of conduct or the prevention action plan would jeopardise the viability of the SME
- adapting their business plans, strategies and operations (including purchasing practices, design and distribution practices) and
- collaborating with other entities to resolve the issues including with a view to increase their leverage over business partners.
What’s the deal with contracts?
- The European Commission reiterates that companies will be required to use “fair and non-discriminatory terms” when seeking contractual assurances from their SME business partners.
- The European Commission “will issue guidelines on these aspects, including for model contract clauses that ensure a fair allocation of tasks and avoid burden-shifting to business partners.”
What’s the deal with disengagement?
- The European Commission makes clear that the law expects companies to prioritise engagement with business partners, rather than disengagement
- There are safeguards contained in the law to ensure that disengagement is viewed as a last resort measure
- In particular, disengagement is only required in case of severe impacts and only as a “last resort” measure when all other measures have failed. There are a range of measures to be tried first - including using or increasing the company’s leverage through the temporary suspension of the business relationship, prior to any termination
- Before disengaging, companies have to conduct a weighing-exercise: can the negative impacts of disengagement reasonably be expected to be manifestly more severe than the adverse impacts to be addressed through disengagement?
- In the event of disengagement, companies need to take steps to prevent or at least mitigate the adverse impacts of disengagement, and to provide reasonable notice to business partners before termination.
What’s the deal with industry and multi-stakeholder initiatives?
- The European Commission acknowledges both the role and the limitations of industry and multi-stakeholder initiatives in due diligence.
- They are expected to play an important role in facilitating compliance with companies’ obligations: they help companies pool resources and act jointly.
- At the same time, they cannot be used to fulfil companies’ due diligence duties: companies remain responsible for the selection of specific initiatives and for compliance with their own due diligence obligations.
What can we say on enforcement?
- The administrative enforcement regime includes: injunctions (i.e. orders to cease or adopt certain conduct), sanctions (including fines), and/or exclusion from public and concession contracts
- The European Commission makes clear that the civil liability regime applies to cases of cause or contribution, but does not extend to cases of direct linkage.
- Injured parties may authorise a trade union, a non-governmental human rights or environmental organisation or other NGO based in an EU Member State to bring actions on their behalf (following national law conditions)
What are the European Commission guidelines that we can expect?
Guidelines will be created by the European Commission on the following topics:
- Risk factors
- How to conduct due diligence in accordance with the law (e.g. identification process, the prioritisation of impacts, stakeholder engagement and responsible disengagement)
- Model contractual clauses for the relationship with business partners
- Fitness criteria and a methodology for companies to assess the fitness of industry and multi-stakeholder initiatives as well as third-party verifiers
- Data and information sources as well as digital tools that could support compliance
- Climate transition plans
