Get ready for the EU’s Corporate Sustainability Due Diligence Directive
By Georgie Messent, Begonia Filgueira and Aliyana Jiwani
European Union proposals for a new Corporate Sustainability Due Diligence Directive are proceeding at pace. How should you prepare?
Companies worldwide could face new rules on their environmental and human rights practices within two years, as the European Union continues its efforts to drive up corporate sustainability standards. Having only recently passed its Corporate Sustainability Reporting Directive (CSRD), the EU is now finalising the Corporate Sustainability Due Diligence Directive (CSDDD); the regime could come into force as soon as 2025.
The EU hopes its latest legislation will prompt large companies to do more to address their environmental and human rights impacts, through potentially costly and far-reaching due diligence obligations across their operations and supply chains. The CSDDD will also explicitly require larger companies to adopt a strategic plan for how they will play their role in keeping global warming to only 1.5 degrees, and for supporting the transition to a sustainable economy.
Once implemented, the CSDDD will create new rights for individuals and entities that suffer harm to seek full compensation from a company held responsible. Some lawyers worry this could lead to a wave of litigation against large corporations. There is also the potential for the courts to impose penalties linked to a company’s worldwide turnover if it fails to comply with the directive. And falling foul of the CSDDD would likely lead to significant reputational damage.
Who the CSDDD affects
The CSDDD is part of a wider EU push to address climate change and corporate sustainability challenges. The bloc is determined to ensure that companies in the region – including those with non-EU parents – are held accountable for their environmental, social and governance (ESG) performance.
The CSDDD is likely to come into force in the EU in 2025, with member states required to implement it by 2027. The largest EU and non-EU companies will need to have due diligence processes in place within three years of the directive’s adoption – potentially by 2028.
Four different categories of company fall within the scope of the proposed directive:
- EU Companies with more than 500 employees and a net worldwide turnover of more than €150 million in their last financial year.
- EU companies with more than 250 employees and a net worldwide turnover of more than €40 million in the last financial year, if at least €20 million of that turnover comes from a “high-risk sector”. These include:
- manufacturing and wholesale of textiles;
- agriculture, forestry, fisheries, manufacturing and wholesale of trade agriculture, food and beverages; and
- extraction and wholesale trade of mineral resources.
- Non-EU companies with a turnover generated in the EU of more than €150 million.
- Non-EU companies with a turnover generated in the EU of more than €40 million, where at least €20 million of this turnover is generated in a high-risk sector.
What the CSDDD requires
Companies in scope of the CSDDD will be required to identify – and then communicate – where their business activities may result in adverse environmental and human rights impacts globally. They will also be expected to take steps to mitigate, prevent or put a stop to these adverse impacts.
In practice, the CSDDD follows OECD guidelines in setting out six steps that all companies must take to fulfil their obligations. They must:
- integrate due diligence into company policies;
- identify actual and potential adverse environmental and human rights impacts;
- prevent and minimise potential adverse environmental and human rights impacts and cease adverse impacts;
establish a complaints procedure; - monitor the effectiveness of the company’s due diligence process;
- communicate their findings – for companies covered by the CSRD, this communication will be included in their consolidated sustainability reporting; other companies will have to make an annual statement on their website.
These due diligence duties will apply to all companies (albeit from different dates). In addition, those in categories 1 and 3 will be required to adopt an action plan to ensure their business model and strategy are compatible with the transition to a sustainable economy. This will include the concept of limiting global warming to 1.5C in line with the Paris Agreement, which is also a requirement in the CSRD.
A timeline for CSDDD implementation
While the European Council has now finalised its position on CSDDD, the European Parliament’s deliberations have not reached a conclusion. Further amendments to the proposed directive are therefore possible; negotiations with the European Council should begin in the first quarter of 2023.
Once agreed and adopted, the obligations contained in CSDDD are likely to come into practical effect between 2028 and 2030, with the exact date depending on the size of the company. The council has suggested that EU companies with more than 1,000 employees and net worldwide turnover of more than €300 million, as well as non-EU companies with an EU turnover of €300 million or more, should be required to comply first.
Penalties for non-compliance with the provisions of CSDDD will be linked to the company’s net turnover.
How we can help your business prepare for CSDDD
There are a number of ways that businesses can prepare for CSDDD now. It makes sense to do so alongside preparations for other ESG-aligned reporting and regulatory changes including the Corporate Sustainability Reporting Directive and the Task Force on Climate-Related Financial Disclosures. Our UK and EU legal specialists can work with your legal and operational teams to:
- Provide training to your teams.
- Help map your business’s obligations under CSDDD and monitor its progress towards the objectives of CSDDD through regular assessments or audits,
- Establish pathways for visibility and governance of extended supply chains globally, including the sourcing of raw materials, waste management and labour practices.
Help you establish robust data gathering and pass-through systems from the supply chain, which will also be essential for ESG reporting. - Help larger companies to draft and adopt a plan to work within 1.5 degrees and the transition to a sustainable economy; this could also fulfil other legal duties such as the Extended Producer Responsibility obligations and the management of carbon taxes and plastic packaging taxes.
- Review supply chain contracts and embed due diligence policies, as well as net-zero related/emissions reduction wording where appropriate; this could support Scope 3 emissions reduction and reporting (relating to the supply chain), as well as CSDDD compliance.
- Help create due diligence policies and processes for your company, subsidiaries and established business relationships, help create a preventative or remediation action plan, and help assess contractual assurances, including insurance where appropriate.
- Help embed any new or existing ESG policies (or specific net-zero, environmental, sustainability and human rights policies) in management communications, in order to set a strong tone from the top.
We can work with clients across any sector or industry, including those in the “high-risk sectors” under CSDDD. The key is to be prepared for these changes and for the inevitable increase in scrutiny around environmental compliance and human rights practices.
