February 25, 2022

The European Commission (Commission) issued a proposed directive on corporate sustainability due diligence on 23 Feb 2022. Measures would require companies to integrate human rights and environmental due-diligence policies throughout their organization and established business relationships, identify actual or potential adverse impacts (and end or minimize them), and establish complaint and monitoring procedures. The Commission says the directive would provide a harmonized legal corporate sustainability due-diligence framework, prevent legal fragmentation, meet consumer and investor expectations, and increase certainty for companies.

Highlights

 

Affected companies

The proposed rules would apply to the following companies and sectors:
 

  • “Group 1” — European Union (EU) limited-liability companies with an average of 500 or more employees and a minimum worldwide net turnover exceeding €150 million in the preceding financial year.

  •  “Group 2” — Smaller companies with an average of 250 or more employees and a net turnover exceeding €40 million in the preceding financial year, of which 50% or more of the net turnover was generated in high-impact industry sectors. Group 2 would have to comply with the directive two years after Group 1. High impact sectors include textiles, leather and related products; agriculture, food and beverage manufacturers; the extraction of mineral resources, etc. The commission would revise the list of high-impact sectors in the light of “clear evidence” about labor exploitation, human rights violations or newly emerging environmental threats.

  • Non-EU companies must comply with the directive within two years of its implementation if they meet the turnover threshold criteria applicable to Group 1 and 2, generated in the EU. The commission estimates the directive will apply to 13,000 EU, and to 4,000 third-country companies.

Adverse human rights and environmental impacts 

An annex to the directive lists the human rights issues and environmental impacts it covers. Human rights issues include violations of rights and prohibitions included in international human rights agreements and conventions, such as child and forced labor; violation of freedom of association and the right to organize and engage in collective bargaining; unequal treatment in employment; withholding an adequate living wage; and violations of indigenous peoples’ rights to lands and resources. Environmental impacts include violations of internationally recognized objectives and prohibitions in environmental conventions. Companies would have to adopt a plan to ensure their business model and strategy are compatible with transitioning to a sustainable economy and to limit global warming to 1.5 centigrade in line with the Paris Agreement.
 

Due diligence

Companies would have to conduct “appropriate” human rights and environmental due diligence to identify actual and potential adverse impacts in their own operations, subsidiaries, and established direct and indirect business relationships in their value chains. Companies would have to incorporate their due- diligence policies into all relevant corporate policies, issue a code of conduct to be followed by employees and subsidiaries, include a description of the due-diligence processes and their application to established business relationships, and indicate how compliance would be verified. Companies would have to consult with potentially affected groups, including workers and other relevant stakeholders, and assess the effectiveness of their measures at least every 12 months.
 

Prevention or mitigation of adverse impacts 

Companies would have to prevent or adequately mitigate potential adverse human and environmental impacts, but if neither is possible, they would have to prioritize actions, and take all “reasonably available” measures. The directive defines the steps companies should take to end or minimize adverse impacts. Different factors could be considered, such as the specificities of the company’s value chain, the applicable industry sector or geographical area, and the company’s ability to influence direct and indirect business relationships. Companies’ termination of business relations should be a last resort, and occur only after other efforts are pursued.
 

Directors’ duty of care and variable remuneration

Directors of companies (including members of administrative, management or supervisory bodies, chief executive officers, or others who perform similar functions) would face new due-diligence duties. They would have to assess human rights, climate change and environmental matters into their decision-making.
 

Companies would have to take account of directors’ contribution to fulfilling the organization’s climate- change plan when setting variable remuneration.
 

Complaint procedures 

Companies would have to allow persons or organizations — including trade unions and civil society organizations — to submit complaints about actual or potential human rights and environmental adverse impacts directly to them. Companies should establish procedures and inform relevant parties about such processes, and should not prevent the use of judicial remedies.
 

Authorized representative

Companies would have to designate an authorized representative who is domiciled or established in one of the member states where they operate. Member states would have to ensure that companies empower their authorized representative to receive communications from supervisory authorities on all matters necessary for compliance, and companies would be required to provide their authorized representative with the necessary powers and resources to cooperate with supervisory authorities.
 

Supervisory authority and sanctions 

Member states’ laws should ensure companies are liable for damages arising from their failure to comply with the due-diligence process. Member states would have to designate one or more supervisory authorities to supervise companies’ compliance. For companies, their competent authority would be in the member state where the company is registered, or where it generated most of its net turnover in the previous financial year. Sanctions should be “effective, proportionate and dissuasive,” and any pecuniary sanctions should be based on the company’s turnover.
 

Next steps

The proposed directive will be presented to the European Parliament and the Council of Ministers for approval. Once adopted, member states will have two years to transpose the directive into national law. 
 

Other proposed EU measures

The commission says this proposal would complement the current directive on nonfinancial reporting, and proposed revisions to the directive issued in 2021, by “adding a substantive corporate duty for some companies to perform due diligence” and lead to “more complete and effective” company reporting.
 

The Commission issued on 23 Feb 2022 a flanking initiative — a communication on decent work worldwide — as part of its “Just and Sustainable Economy Package.” The communication aims to promote decent work across all industry sectors and policy areas in global supply chains, and reiterates the Commission’s intention to issue, in 2022, a new legislative instrument to ban products made using forced labor from entering the EU market. 
 

Related resources

Fiona Webster
by Fiona Webster

Principal, Mercer’s Law & Policy Group

Stephanie Rosseau
by Stephanie Rosseau

Principal, Mercer’s Law & Policy Group


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