In 2022, the European Commission announced important proposals for sustainability due diligence, which would impose obligations on companies to take appropriate measures for their entire value chain to prevent human rights and environmental law violations. Multinational companies having business relations with the EU should consider starting risk assessments of their supply chain to comply with these upcoming rules.

Introduction

Compliance with laws and regulations has been one of the most complex issues for large multinational companies for the following reasons: the cost of training and monitoring employees in all subsidiaries and affiliates and the number and complexity of laws and regulations to comply with. For instance, to comply with competition rules, it is essential to train salespeople in subsidiaries or local offices. In addition, multinational companies are required to comply with the competition rules of various jurisdictions, such as the US anti-trust laws, the EU competition law and other local anti-trust laws and regulations of the jurisdictions in which the companies are active.

In 2022, the European Commission ('EC') published two proposals concerning sustainability due diligence rules: a proposal for the Directive on Corporate Sustainability Due Diligence1 (the 'CSDD Directive') and a proposal for the Regulation on prohibiting products made with forced labour on the Union market2 (the 'Forced Labour Ban Regulation'). Both of these proposals will require companies to conduct due diligence regarding human rights and environmental issues. If enacted, the companies operating commercial activities worldwide will have to comply with burdensome obligations. First, companies that fall into the scope of these texts would have to monitor, in addition to their subsidiaries and affiliates, their supply chains. In other words, it would be necessary for these companies to assess the risks of human rights and environmental law violations by their suppliers. Moreover, the laws and regulations that the company should comply with are diverse, they encompass all major international agreements and conventions, EU regulations and national laws protecting human rights and the environment. Therefore, multinational companies will have to take into account all these rules when assessing the risk of violations.

This article aims to describe the outline of these two proposals, which are in the ordinary legislative procedure, that is, presented to the European Parliament and Council, and will enter into effect around 2025 at the earliest. Separately, certain EU Member States, including France, have already adopted rules on sustainability due diligence. We will briefly explain French national legislation on sustainability due diligence, which has already entered into force and has been discussed in an ongoing case, to analyse the possible consequences of this proposed EU legislation in practice.

EU Directive on Corporate Sustainability Due Diligence

Introduction

Before publishing the CSDD Directive on 23 February 2022, the EU had already enacted three pieces of legislation that impose supply chain due diligence regarding human rights and sustainability issues. However, these pieces of legislation only concern specific industries, that is, the mineral3 and wood4 industries, or require only large companies located in the EU to report non-financial information, including on human rights.5

At the national level, some European countries have already introduced national legislation regarding human rights due diligence. However, these national laws focus on specific human rights violations, for example, child labour or forced labour,6 or target only large national companies. As a result, these rules have had limited implications for companies outside the EU.

The CSDD Directive, by contrast, will have a broader personal scope of application and will require more general human rights and environmental due diligence than the existing EU and national legislation. Therefore, the CSDD Directive would have broader impacts on non-EU companies either exporting products to the EU or having subsidiaries or affiliates within the EU.

Purpose of the Proposed Directive

The CSDD Directive aims to foster sustainable and responsible corporate behaviour throughout global value chains.7 For this purpose, the CSDD Directive provides a set of obligations for companies regarding actual and potential human rights adverse impacts and environmental adverse impacts, with respect to their own operations, the operations of their subsidiaries and the value chain operations carried out by entities with whom the company has an established business relationship (Article 1).

Personal Scope

The CSDD Directive will apply to the following companies (Article 2):

  • EU companies having more than 500 employees and a net worldwide turnover of more than €150 million.
  • EU companies having more than 250 employees and a net worldwide turnover of more than €40 million, at least half of which is generated in specific high-risk sectors, inter alia:
    • the manufacture of textiles, leather and related products (including footwear) and the wholesale trade of textiles, clothing and footwear;
    • agriculture, forestry, fisheries (including aquaculture), the manufacture of food products and the wholesale trade of agricultural raw materials, live animals, wood, food and beverages; and
    • the manufacture of basic metal products, other non-metallic mineral products and fabricated metal products (except machinery and equipment).

Furthermore, the CSDD Directive will apply to companies outside the EU that meet either of the following conditions:

  • have a net turnover in the EU of more than €150 million; or
  • have a net turnover in the EU of more than €40 million and at least half of the net worldwide turnover is generated in the high-risk sectors listed above.

Therefore, non-EU companies that meet these thresholds will be required to comply with the due diligence requirements set by the CSDD Directive, even if they do not have a subsidiary or affiliate in the EU or their European subsidiary or affiliate is not within the scope of the CSDD Directive.

Due Diligence Obligations

The CSDD Directive will require companies to conduct human rights and environmental due diligence by carrying out the following actions (Article 4):

  • integrating due diligence into their policies;
  • identifying actual or potential adverse impacts;
  • preventing and mitigating potential adverse impacts, bringing actual adverse impacts to an end and minimising their extent;
  • establishing and maintaining a complaints procedure;
  • monitoring the effectiveness of their due diligence policy and measures; and
  • publicly communicating on due diligence.

The human rights and environmental conventions that companies should consider when conducting due diligence are listed in the Annex of the CSDD Directive.

Due diligence obligations will extend to business relationships with the company's value chains.8 That is, companies should identify, prevent and monitor actual and potential violations of human rights or environmental standards in the operations of their value chains.

There are additional obligations on large companies and EU-based companies. Companies that meet the size criteria above, whether EU companies or not, will be required to adopt a plan to ensure that their business strategy is compatible with limiting global warming to 1.5°C in line with the Paris Agreement (Article 15). In any EU-based company within the scope of the CSDD Directive, directors will be required to take into account the human rights, climate change and environmental consequences of their decisions when fulfilling their duty to act in the best interest of the company (Article 25). It is worth noting that this provision is particularly controversial as it is unclear how to assess sustainability decisions.

The above obligations will have to be satisfied at any time. However, from a practical point of view, it is preferable to assess the risk before entering into an SPA, supply agreement or any other relevant agreements with business partners, and if necessary, take appropriate measures to comply with the CSDD Directive.

Sanctions

National administrative authorities may impose fines in case of non-compliance based on the company's turnover. The EC will set up a European Network of Supervisory Authorities which will facilitate the cooperation of the supervisory authorities and the coordination and alignment of regulatory, investigative sanctioning and supervisory practices (Articles 20 and 21).

In connection with companies outside the EU, the competent authority will be that of the Member State in which the company has a branch. If the company does not have a branch in any Member State or has branches in different Member States, the competent authority will be that of the Member State in which the company generates most of its net turnover in the EU (Article 17). In addition, companies could be held liable for damages resulting from their failure to prevent potential adverse impacts or bring actual adverse impacts to an end (Article 22).

Implications for Non-EU Companies

Companies outside the EU, especially those generating a net turnover in the EU of more than €150 million and having value chains in countries with a risk of human rights violations, should prepare a strategy to comply with the due diligence obligations.

Furthermore, non-EU companies supplying products within the EU should also expect that European clients would ask to collaborate on their sustainability due diligence. When collaborating with competitors by sharing resources or information, it is essential to consider compliance with applicable competition law.

The proposal for the CSDD Directive has been presented to the European Parliament and the Council for approval. Once adopted, the Member States shall transpose it into national laws within two years from its entry into force. The companies that meet the size criteria of the CSDD Directive should comply with the due diligence obligations by the end of this period. Companies within the CSDD Directive's scope because of their activities in high-risk sectors, on the other hand, should do so within four years after its entry into force.

It is worth noting that the CSDD Directive is highly controversial, as an exercise of due diligence in developing and emerging countries is burdensome for European businesses. Given the sensitive nature of the rules and current controversies, the proposal is not likely to be enacted before 2023. That is, the due diligence obligations on large companies will come into force in 2025 and those on other companies in high-risk sectors in 2027 at the earliest.

EU Regulation Prohibiting Products Made with Forced Labour

Introduction

Following the CSDD Directive, the EC unveiled a proposal for the Forced Labour Ban Regulation on 14 September 2022. As the EC indicated, the Forced Labour Ban Regulation and the CSDD Directive are interlinked. However, it should be noted that the Proposal has a different scope of application and mechanism from the CSDD Directive. The Forced Labour Ban Regulation, which imposes new sanctions, that is, prohibition on placing products made with forced labour in the Union market, is another important signal for companies of the importance of conducting human rights due diligence in its operations and supply chains.

Scope of Application

While the scope of the CSDD Directive is limited to large or 'high-risk' companies, the Forced Labour Ban Regulation will apply to 'economic operators', which means any natural or legal person or association of persons who is placing or making available on the Union market. Therefore, theoretically, the Forced Labour Ban Regulation will apply to any companies supplying products to the EU market, even if they are located outside the EU.

Prohibited Products

The Forced Labour Ban Regulation prohibits economic operators from placing or making available products that are made with forced labour on the Union market (Article 3).

A 'product made with forced labour' includes any products for which forced labour has been used in whole or in part at any stage of its extraction, harvest, production or manufacture, including working or processing at any stage of its supply chain. Therefore, in parallel with the CSDD Directive, companies placing or making available products within the EU should ensure that forced labour has not been used even at the level of their supply chains.

It is worth noting that the EC specifies sectors where forced labour has frequently been reported, namely service sectors, textiles, mining and agriculture. Yet, all industry sectors are covered by the Forced Labour Ban Regulation.

Forced Labour

Forced labour is defined in Article 2 of the International Labour Organisation's Convention Concerning Forced or Compulsory Labour, that is, 'all work or service which is extracted from any person under the menace of any penalty and for which the said person has not offered him or herself voluntarily' and includes forced child labour. It refers to situations in which persons are coerced to work through the use of violence or intimidation, or by more indirect means such as manipulated debt, retention of identity papers or threats of denunciation to immigration authorities.

Unlike the US Uyghur Forced Labor Prevention Act, which entered into force in June 2022, the Forced Labour Ban Regulation is not targeting only certain regions such as the Xinjian Uyghur Autonomous Region.

Investigation

The investigation process will be carried out in two phases: (1) the preliminary phase; and (2) the investigation phase.

(1) Preliminary Phase

Unlike the EU competition law, the competent authority is a national authority designated by each Member State. Competent authorities will follow a 'risk-based approach', meaning that they should focus their enforcement efforts on the economic operators likely to violate the forced labour prohibition. In this regard, competent authorities should take into account the size and economic resources of the economic operators, the quantity of products concerned, as well as the scale of suspected forced labour. In other words, the authorities are likely to focus on large multinational companies in the sectors where there is a high risk of forced labour. With regard to the risk assessment, the EC is required to publish guidelines and make publicly available a database of forced labour risks in specific geographic areas or with specific products.

Before initiating an investigation, the competent authority should request from the company under assessment information on actions taken to identify, prevent, mitigate or bring to an end the risk of forced labour based on the applicable rules or legislation, such as the CSDD Directive; the company under assessment should respond to the authority within 15 working days. It should be noted that, if the company under assessment has conducted effective human rights due diligence based on the applicable rules, the competent authority will take this into account when they assess whether there is a well-founded suspicion of forced labour.

(2) Investigation Phase

If the competent authority has substantiated concerns, it will be required to initiate an investigation. The competent authority will inform the company subject to the investigation within three working days from the date of the decision to initiate such investigation.

Sanctions

If the investigation concludes that forced labour has been used, the authority will have to, without delay, adopt a decision containing:

  1. a prohibition on placing or making the relevant products available on the Union market;
  2. a request to withdraw the relevant products already made available from the Union market; and
  3. a request to dispose of the relevant products.
  4. Nevertheless, the Forced Labour Ban Regulation does not provide for the recall of products that have already reached end users in the Union market. Decisions taken by a competent authority in one Member State will be recognised and enforced in the other Member States.

Nevertheless, the Forced Labour Ban Regulation does not provide for the recall of products that have already reached end users in the Union market. Decisions taken by a competent authority in one Member State will be recognised and enforced in the other Member States.

Customs Controls

Once the decision becomes definitive, the competent authority communicates it to the customs authorities of the Member States. Based on such decision, customs authorities should identify the concerned products and carry out controls on products entering or leaving the Union market. If necessary, customs authorities will stop products made with forced labour from entering or leaving the EU market.

Implications for Non-EU Companies

All companies distributing their products in the EU market, whether or not they have subsidiaries or affiliates in the EU, will have to comply with the Forced Labour Ban Regulation. Moreover, the non-EU companies indirectly exporting goods to the EU, that is, producing and distributing materials or parts for the products exported to the EU, will also be subject to the Forced Labour Ban Regulation.

The proposal follows the ordinary legislative process of the EU. However, it should be noted that, given its contentious nature and geopolitical dimension, the Forced Labour Ban Regulation is also highly controversial; therefore, the European Parliament and Council will likely provide their input.

The Forced Labour Ban Regulation is expected to be adopted and enter into force in 2024 at the earliest. Then, the new Regulation will apply 24 months from its entry into force, that is, in 2026. It should be noted that, unlike EU directives, EU regulations shall apply within the Member States without being incorporated into the national law.

French Duty of Care Law

These proposals for the new EU rules on sustainability due diligence are still unclear from a practical point of view and many companies are confused about how to comply with such obligations and what are the potential impacts on the company in the case of a breach. In order to better understand the practical implications of sustainability due diligence, it would be helpful to study some examples in European countries where such duty has already been imposed on large companies.

In France, there will be a hearing involving the French energy and petroleum company TotalEnergies before the Paris judicial court on 7 December 2022, upon a claim filed by NGOs on the basis of breaches of its duty of care. This case marks the first use of this concept created by the law of 27 March 2017 on the duty of care of parent companies and companies giving orders (the 'Duty of Care Law').9

The Duty of Care Law inserted an article L. 225-102-4 of the Commercial Code which establishes a regime for any French limited company (société anonyme) that employs, at the close of two consecutive financial years:

  • at least 5,000 employees within the company and its direct and indirect subsidiaries whose registered office is in France; or
  • at least 10,000 employees within the company and in its direct or indirect subsidiaries whose registered office is in France or abroad.

The companies that meet this criterion must establish and effectively implement a due diligence plan. The provision specifies that subsidiaries are deemed to fulfil this duty if the parent company establishes and implements a due diligence plan.

Due diligence plans should include reasonable due diligence measures to identify the risks to be prevented, the serious violations of human rights and fundamental freedoms, the health and safety of people, and the environment resulting from the actions of the company (or companies it controls). The plan should in principle be developed in association with the company's stakeholders. The Duty of Care Law provides at least five measures in the vigilance plan:

  1. a risk map to identify, analyse and prioritise risks;
  2. procedures for regular assessment of the situation of subsidiaries, subcontractors or suppliers with whom an established commercial relationship is maintained, in the light of risk mapping;
  3. appropriate actions to mitigate risks or prevent serious harm;
  4. a mechanism for alerting and collecting reports on the existence or occurrence of risks, established in consultation with the representative trade unions in the company; and
  5. a system for monitoring the measures implemented and evaluating their effectiveness.

The company's management report must make public the company's compliance plan and its effective implementation. It is also specified that when a company that has been given formal notice to comply with the obligations set out therein fails to do so within a period of three months from the date of the formal notice, the competent court may, at the request of any person with interest in the matter, enjoin it, if necessary, under penalty, to comply with them.

In the TotalEnergies case, the NGOs have argued that the TotalEnergies' plan does not identify the risks in a precise manner, which makes it impossible to put in place effective vigilance measures. It is expected that the French courts will provide further clarification regarding the extent to which companies should specify the actions to be taken in the due diligence plan in this case.

Conclusion

In the EU, the rules on sustainability due diligence, which impose burdensome obligations on companies operating a business in many countries, would no longer be a 'soft' law but legally binding provisions that can be enforced by competent authorities or parties with interest around 2025 at the earliest. Moreover, the TotalEnergies case illustrates that the failure of the sustainable due diligence obligations would result in court proceedings, which could have severe consequences on the company's operation within the EU as well as its reputation.

Despite the ambiguity of the proposed texts, it would be advisable that companies directly or indirectly subject to these new rules start assessing the risks of violations of human rights or environmental law within the supply chain.

Footnotes

1. European Commission, Proposal for a Directive on corporate sustainability due diligence and amending Directive (EU) 2019/1937, Brussels, 23.2.2022 COM (2022) 71 final.

2. European Commission, Proposal for a Regulation of the European Parliament and of the Council on prohibiting products made with forced labour on the Union market, Brussels, 14 September 2022, COM(2022) 453 final.

3. So-called the Conflict Minerals Regulation, Regulation (EU) 2017/821 of the European Parliament and of the Council of 17 May 2017, laying down supply chain due diligence obligations for Union importers of tin, tantalum and tungsten, their ores, and gold originating from conflict-affected and high-risk areas.

4. Regulation (EU) No 995/2010 of the European Parliament and of the Council of 20 October 2010, laying down the obligations of operators who place timber and timber products on the market.

5. Directive 2014/95/EU of the European Parliament and of the Council of 22 October 2014, amending Directive 2013/34/EU as regards disclosure of non-financial and diversity information by certain large undertakings and groups.

6. UK Modern Slavery Act 2015.

7. European Commission, press release 'Just and sustainable economy: Commission lays down rules for companies to respect human rights and environment in global value chains', 23 February 2022, available at https://ec.europa.eu/commission/presscorner/detail/en/ip_22_1145.

8. 'Value chain' is defined as activities related to the production of goods or the provision of services by a company, including the development of the product or the service and the use and disposal of the product as well as the related activities of upstream and downstream established business relationships of the company (Article 3(g)).

9. TotalEnergies' trial for non-compliance with due diligence in Uganda and Tanzania postponed (rfi.fr).

Originally published by Inter-Pacific Bar Association Journal.

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