Around 17,000 EU and non-EU companies will be required to conduct ongoing due diligence on human rights and environmental risks in their operations and supply chain as early as 2025. This reflects a shift over the past decade from voluntary standards adoption to regulation in market expectations for supply chain due diligence.
The EU Corporate Sustainability Due Diligence Directive (“the Directive”) is expected to be adopted before the end of the year and represents a milestone in setting a global standard for mandatory due diligence. It will impact actors in raw material value chains by laying down requirements for identifying, assessing, mitigating and remediating actual and potential social and environmental adverse impacts, effectively broadening the scope of existing mandatory requirements beyond conflict minerals and battery materials. The draft Directive is being discussed at a time when stakeholders from a wide range of sectors are lobbying for mandatory due diligence and aims to advance respect for human rights and environmental protection in the EU and beyond, not just in raw material supply chains but horizontally across industry sectors.
The Directive is still being discussed by the EU institutions though it’s expected to be adopted at first reading. The trialogue discussions among the EU institutions kicked off in early June following the European Parliament’s adoption of its amendments to the Commission’s proposal, specifically on 1 June 2023. This vote followed the Council adopting its own position in November 2022. As expected, the European Parliament’s negotiating position represents a progressive view on the Directive focussed on expanding its scope and applicability. Following the plenary vote, Special Rapporteur, Lara Wolters said “The European Parliament’s support is a turning point in the thinking about the role of corporations in society. A corporate responsibility law must ensure that the future lies with companies that treat people and the environment in a healthy way – not with companies that have made a revenue model out of environmental damage and exploitation. Most companies take their duty towards people and the environment seriously. We help these companies with this ‘fair business law’. And at the same time we cut off those few large cowboy companies that flout the rules”.
Below we offer our analysis of the European Parliament’s amendments to the draft Directive and the Council’s compromise text, and what this means in terms of compliance for actors in raw material supply chains.
Based on feedback from the institutions, negotiations in the Parliament as well as the Council have been difficult. In general, the Parliament is pushing for a risk-based approach to due diligence that covers the entire value chain and includes meaningful engagement with affected stakeholders, including vulnerable groups, and remediation. The Parliament is also proposing to widen the scope of application to more companies.
Similar to the Council, the Parliament is pushing in Article 2 to include more companies in scope of the Directive and has broadened the scope of application for EU companies in several places by lowering the thresholds for employees and turnover as well as removing thresholds for high-risk sectors. Firstly, the Directive will apply to EU companies “with more than 250 employees and a worldwide net turnover of more than EUR 40 million in the last financial year as well as parent companies with over 500 employees and a worldwide turnover of more than EUR 150 million” as opposed to the Commission’s proposal which requires EU companies with more than 500 employees and a net worldwide turnover of more than EUR 150 million in the last financial year. Secondly, the Parliament has deleted Article 2(b), which outlined special thresholds for companies in high-risk sectors. This article included sectors such as mineral resource extraction, manufacture of basic metal products, non-metallic mineral products, fabricated metal products (except machinery and equipment), and wholesale trade of mineral resources and intermediate mineral products. The deletion means that the specific thresholds for companies in these sectors are no longer included in the scope of the legislation. These proposed changes go beyond the Council’s compromise text, which proposed amending the Commission’s proposal such that the scope of application extends to 1,000 employees and EUR 300 million net turnover worldwide for EU companies and EUR 300 million net turnover in the EU for non-EU companies.
The Council’s compromised text aligns with the EU Commission’s position, suggesting that EU companies should become subject to the Directive two years after its entry into force. However, the Council proposes an amendment, suggesting that non-EU companies must adhere to the Directive three years after its entry into force instead of the initially suggested four years. The timeline for when the Directive will enter into force according to the Parliament’s position is the same as the Council’s position but the Parliament has added one additional year from entry into force for smaller companies to comply.
The Council proposes changes to two definitions in Article 3: ‘Business partner’ and ‘Chain of activities.’ It removed ‘established business relationship’ (point f) and replaced ‘business relationship’ (point e) with ‘business partner.’ Additionally, the Council replaced ‘value chain’ with ‘chain of activities’ in the compromise text to accommodate differing views between Member States on the matter. The term ‘value chain’ is also used by the Parliament but the Parliament further specifies that ‘business relationships’ means ‘a direct or indirect relationship of a company with a contractor, subcontractor, or other entities in its value chain’ and suggested to delete Article 3 (f) completely. The Parliament also suggests to add (i) ‘activities related to, and entities involved in, the production, design, sourcing, extraction, manufacture, transport, storage and supply of raw materials, products or parts of a company’s product and the development of a company’s product or the development or provision of a service’ to the definition of Article 3 (g) for the term ‘value chain’.
Both the Parliament and the Council further define the process of identifying adverse impacts. While the Commission’s proposal requires companies to identify actual and potential severe adverse impacts relevant to the respective sector mentioned in Article 2(1), point (b) in general, the Parliament’s amendments specify a risk-based approach requiring that companies identify areas where adverse impacts are likely to be severe, including higher risk operations, subsidiaries, and business relationships, taking relevant risk factors into account. They must then conduct in-depth assessments of these prioritized areas to determine the specific current and potential adverse impacts. If a company lacks all necessary information about its value chain, it must provide an explanation of the efforts made to obtain this information, reasons for any gaps, and future plans to obtain the required information. Both institutions also reinforce the obligations of a parent company in relation to the due diligence process of subsidiaries, including implementing group level policies and compliance with the Directive. The Parliament furthermore introduces requirements for consulting and engaging with affected stakeholders in a meaningful way including vulnerable stakeholders. As per its proposed addition to Article 3 (n) the Parliament defines vulnerable stakeholders as ‘affected stakeholders that find themselves in marginalised situations and situations of vulnerability, due to specific contexts or intersecting factors, including among others, sex, gender, age, race, ethnicity, class, caste, education, indigenous peoples, migration status, disability, as well as social and economic status, and includes stakeholders living in conflict-affected and high risk areas, which are the causes of diverse and often disproportionate adverse impacts, and create discrimination and additional barriers to participation and access to justice’.
The European Parliament amendments introduce obligations for financial services companies where Article 8a states that “Member States should ensure that institutional investors and asset managers take appropriate measures, as described in paragraph 3 of the article, to encourage their investee companies to address and resolve identified adverse impacts in accordance with Article 6.” The Council’s compromised text does not include provisions for institutional investors and asset managers, which were newly introduced by the Parliament.
In Article 14, the Parliament proposes that the Commission establishes a dedicated digital portal with resources to support compliance by companies. Access to the portal is free of charge. The portal will hold information relating to the reporting requirements of the Directive specific to company size, sector, product and service and risk exposure. It will also contain information on funding and tendering opportunities supporting the implementation of the due diligence obligations.
As per Article 15, the Council and the Commission propose that only EU companies with a EUR 150 million net turnover worldwide and non-EU companies with a EUR 150 million net turnover in the EU are obligated to adopt a climate transition plan. In contrast, the Parliament obliges all companies falling under the Directive’s scope to be subject to this requirement. This means that all companies in scope of the Directive will need to introduce ambitious climate plans in line with the Paris agreement, which will include Scope 1, 2 and 3 emissions. Companies will also need to do due diligence on climate impacts and other impacts on climate change. The plan should address the resilience of the company’s business model to climate risks, identify opportunities related to climate matters, explain decarbonization strategies, consider stakeholder interests and climate impacts, describe the implementation of the strategy, set time-bound targets for emissions reduction, and define the role of administrative bodies. Member States are responsible for ensuring that Directors oversee the obligations and that companies with over 1,000 employees have a policy linking variable remuneration for directors to the company’s transition plan, subject to approval by the Annual General Meeting.
In Article 20, the Parliament suggests adding measures and sanctions in relation to non-compliance. The proposed measures include pecuniary sanctions, public statements disclosing responsibility and the nature of the infringement, obligations to take specific actions and cease infringing conduct, and the possibility of suspending the circulation or export of products. Additionally, when pecuniary sanctions are imposed, they should be determined based on the company’s net worldwide turnover, with a maximum limit set at no less than 5% of the company’s net worldwide turnover from the preceding business year.
The Directive should be seen within the broader context of emerging due diligence regulations at both national and supranational levels to which actors in raw material value chains are subject to directly or indirectly. Various countries, including France, Germany, and the United States, have already implemented their own due diligence laws at the national level. Examples include the German Supply Chain Act, the French Duty of Vigilance Law, the US Dodd-Frank Act, the Uyghur Forced Labor Prevention Act (UFLPA), and the California Transparency in Supply Chain Act. All these regulations share a common focus on addressing human rights abuses and promoting responsible business practices in supply chains. For companies in raw material supply chains, additional mineral-specific due diligence legislation is already in place, for example, the EU Conflict Minerals Regulation covering conflict minerals and for battery materials the soon to be in force EU Battery Regulation.
Though a wide array of voluntary standards and certifications for responsible sourcing and production already exist – some of which are in the process of being recognised for equivalence with EU due diligence regulation – a significant number of companies in raw material supply chains are still in the early stages of implementing human rights and environmental due diligence in the value chain. However, the Directive sends a clear message, that companies will need to do more.
Based on the Directive, companies will be required to take the necessary steps to ensure that they will conduct due diligence More specifically, companies will need to take the following steps:
RCS Global Group is the leading Supply Chain Mapping, Responsible Sourcing, Responsible Mining, ESG Performance and Traceability solutions provider, with a focus on natural resources value chains. We deliver globally for the leading corporations from all tiers of the value chain, from mining to the OEMs. In a tailored manner, our services enable companies to achieve enhanced alignment with regulations, such as the Directive, through the following means:
We review the client’s existing due diligence policies and processes for operations and value chain to assess their alignment with the Directive, including the related international good practice standards and frameworks (OECD Guidelines for Multinational Enterprises, OECD Guidance on Responsible Business Conduct and UN Guiding Principles on Business and Human Rights).
We work with our clients to establish a due diligence management system for responsible sourcing and/or production that meets the requirements of international good practice standards and frameworks referenced in the Directive, specifically, the OECD Guidelines for Multinational Enterprises, OECD Guidance on Responsible Business Conduct and UN Guiding Principles on Business and Human Rights.
We deliver targeted training to clients’ staff and/or suppliers on ESG risks and issues, industry trends, regulatory requirements, good governance approaches and practices for ESG risk management in operations and supply chain.
We work closely with project teams to identify potential environmental and social risks/impacts, and develop inclusive, pragmatic and affordable strategies that avoid, mitigate and/or offset significant impacts and risks.
We facilitate technical support from across the SLR Group (our parent company) to help our clients implement their sustainability strategies at operational level. Support areas include: biodiversity and natural capital, water, circularity and waste management as well as human rights impacts.
We guide our clients in developing a publicly facing report on responsible sourcing and/or production, providing transparency to external stakeholders on the client’s due diligence efforts based on clearly defined metrics in line with good practice standards and regulatory requirements.