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On 24 April 2024, the EU Parliament adopted the final text of the Corporate Sustainability Due Diligence Directive ("CSDDD" or "Directive"), setting a due diligence standard for corporate social and environmental responsibility. This marks a significant evolution in the EU's corporate accountability landscape. Next steps: The EU Council must approve the final text for it to officially become law.
The CSDDD marks a significant shift in the landscape of corporate accountability within the EU.
While primarily targeting companies within its scope (cf. Fieldfisher's previous article), it cascades its effects down to their subsidiaries and business partners, including small and medium-sized enterprises (SMEs). Those partners will now have to navigate through a landscape marked by both challenges and opportunities.
1. Corporate due diligence requirements
The CSDDD requires covered enterprises ("in-scope companies") to integrate a risk-based due diligence on adverse human rights and environmental impacts into all their relevant corporate policies and risk management systems. Companies must identify, prevent, mitigate, and terminate potential or actual adverse impacts on human rights and the environment[2] within their chain of activities. Moreover, they must implement a transition plan for climate change mitigation, aligning their business model with a sustainable economy and the goal of limiting global warming to 1.5°C.
Practices resulting in adverse impacts may lead to the reassessment of business partnerships. Initial steps involve leveraging influence over partners to encourage compliance and remediate identified risks. If efforts to address severe impacts prove ineffective, companies might consider suspending the business relationship, halting plans to enter new contracts or refraining from extending current ones, essentially reevaluating the viability of continuing the partnership.
A company's civil liability does not exempt its subsidiaries or any direct and indirect business partners from being held jointly and severally liable. When adverse impacts within a company's chain of activities are solely caused by a business partner – referred to as 'being directly linked to' the impact – companies should look to use or increase their influence over their partner either to end or minimize the impacts. This might involve, for example, suspending the business relationship, using market power or linking business incentives to human resources and environmental performance and, in case of severe impacts, terminating the business relationship.
2. Business partners under the CSDDD
Through the concept of "chain of activities", the CSDDD will clearly have an effect on direct and indirect business partners as well. Direct business partners are those with a commercial arrangement related to the operations, products or services exchanged between the partner and the covered company. Indirect business partners are defined as entities engaged in business activities related to the entity's operations, products, or services.
The Directive impacts the full spectrum of business activities, spanning both upstream and select downstream processes. Focusing on upstream suppliers, the regulations impact both direct and indirect business partners. Every participant in the upstream supply chain of a covered entity is affected, regardless of having a direct contract with the company regulated by the CSDDD.
However, the standards for downstream activities – specifically in transportation, storage, and distribution – are relaxed, requiring compliance by business partners only for activities carried out for and on behalf of the in-scope company.
- Business Partners Tips&Tricks: map all commercial relationships with potential in-scope companies that could lead to a compliance requirement under the Directive, i.e. anticipate if you might be creating a compliance issue for one of your large partners who will be in-scope.
3. Challenges and opportunities for business partners
a) Impact on business partners
The first effect of the Directive on business partners involves the requirement for in-scope companies to map and evaluate their business partners' chain of activities.
This comprehensive assessment, covering the entire lifecycle of the relevant product or service in question, aims to identify and mitigate adverse impacts, thereby ensuring sustained business relationships.
The evaluation will encompass various risk factors, such as labour practices, environmental impacts, technology usage, as well as risks specific to geography, products, services and sectors. To avoid being identified as a cause for a potential adverse impact, business partners must align their chain of activities and corporate practices with the CSDDD requirements.
Secondly, the Directive's implementation will likely necessitate that business partners allocate additional resources to meet information requests from in-scope clients.
Business partners must therefore be equipped to efficiently manage, collect, and provide quantitative and qualitative data regarding the human rights and environmental impacts of their operations. Essential data could include specifics on materials and resources utilisation, labour practices (such as wages and child labour), environmental emissions, and the application of technologies throughout the production process and across the product lifecycle. This process of information sharing and screening for potential risks is designed to occur periodically (at least annually), with reassessments triggered by any significant operational changes, such as entering new markets, altering material sources, incorporating new technologies or undergoing corporate restructuring.
- Business Partners Tips&Tricks: use a risk-based approach to collect the relevant data as soon as possible for transfer to the in-scope company.
Finally, the Directive incites companies to improve their own operations through adoption of purchasing and distribution policies that support ethical practices throughout their supply chain. This may include measures to ensure fair living wages and incomes for their suppliers, adjustment to deadlines and modifications to current distributors' practices (which could also be requested to upstream and downstream business partners).
- Business Partners Tips&Tricks: adhere to this new universal due diligence as soon as possible to avoid market-driven repercussions through a 'name and shame' mechanism.
b) Opportunities for business partners
The Directive also presents opportunities for business partners.
It encourages voluntary adherence to international human rights and environmental frameworks, as it offers a chance to redefine market positioning and enhance relationships with relevant companies. Early action, especially among business partners, may unlock new markets, particularly in regions prioritizing sustainability.
For small and medium enterprises (SME's), alignment may amount to a strategic move enabling expansion and collaboration with larger entities, fostering growth and innovative sustainable practices.
The Directive also provides for specific SME support ensuring they can adopt capability development and providing access to training and systems upgrades. Where compliance with the code of conduct or the prevention action plan would jeopardise the viability of the SME,[3] targeted and proportionate financial support, such as direct financing, low-interest loans, guarantees of continued sourcing or assistance in securing financing, should be provided.
In terms of collaboration, companies should share information with each other to alleviate the burden of gathering information within the chain of activities. Hence, the Directive encourages collaboration between companies and their partners to amplify their collective ability to address and mitigate adverse impacts on human rights or the environment – within the limits of competition law.
- Business Partners Tips&Tricks: list all the support measures that your company is entitled to receive under the Directive and inform the in-scope company as soon as possible.
While the CSDDD mainly targets in-scope companies, it also has consequences for its business partners, and thereby introduces new challenges, as well as significant opportunities for these business partners.
Navigating this evolving landscape requires a proactive approach to due diligence, transparency, and sustainability, transforming potential challenges into strategic advantages.
Non-compliance with the Directive can result in competitive disadvantages for business partners, penalties for in-scope companies (which, depending on the contract and circumstances, could be passed on to business partners), interim measures and reputational harm through "naming and shaming".
Conversely, aligning with the Directive's standards where possible could not only strengthen relationships with in-scope companies but could also set partners apart in a competitive market. Early adaptation and collaborative efforts towards compliance can mitigate risks and open new avenues to growth, underpinning the transition towards a more sustainable and accountable corporate ecosystem.
At a minimum, business partners should scrutinise existing or future contractual relationships with in-scope companies regarding corporate due diligence.
If you have any questions as an in scope company, subsidiary, or business partner of an in-scope company, feel free to reach out to one of the Fieldfisher ESG experts.
[1] This article was drafted by Dr. Nicolas Celis, Nayelly Landeros and Thomas Hermans and reviewed by the entire Fieldfisher ESG Team Brussels.
[2] Adverse impacts to human rights are those resulting from abuse of rights in the international instruments listed in Annex I, Part I, Section 1 and legal interest protected in human rights instruments listed in Part I Section 2 to the CS3D. Environmental impacts are those resulting from violations of prohibitions and obligations listed in the Annex I, part II of the CS3D.
[3] Jeopardising the viability of an SME should be interpreted as possibly causing a bankruptcy of the SME or putting the SME in a situation where bankruptcy is imminent.