A Q&A on the European Commission’s Proposed Corporate Sustainability Due Diligence Directive

In February 2022, the European Commission released its long-awaited proposed Directive on Corporate Sustainability Due Diligence, the core of which would require mandatory human rights and environmental due diligence.

In this blog we provide an overview of certain aspects of the proposed Directive. This blog is excerpted from a substantially more-detailed summary of the Directive available here.

What Does the Directive Do?

The Directive would require EU Member States to transpose into national law a corporate due diligence duty to identify, prevent, bring to an end, mitigate and account for adverse human rights and environmental impacts. The duty would apply to a company’s own operations, its subsidiaries and their value chains.

What Are Adverse Human Rights Impacts?

An adverse human rights impact would be either (i) an adverse impact on a protected person resulting from the violation of one of the enumerated human rights or prohibitions or (ii) a violation of a prohibition or right not listed that directly impairs a legal interest protected in an international human rights instrument listed in the Annex to the Directive.

What Are Adverse Environmental Impacts?

An adverse environmental impact would be an adverse impact on the environment resulting from the violation of a prohibition or obligation pursuant to one of twelve environmental conventions. The conventions address topics such as biological diversity, mercury and hazardous waste.

Which Companies Are Covered?

The Directive’s obligations as transposed into national law generally would apply to both companies formed in an EU Member State and companies formed outside the European Union, depending on turnover, number of employees and/or sector.

All companies above a certain size generally would be covered (Group 1 companies). Smaller companies (Group 2 companies) would be covered if they meet a size threshold and are in specified high-impact sectors covered by existing sectoral OECD guidance.

For EU companies, the size threshold would take into account both net turnover and number of employees. For non-EU companies, size would be measured only by turnover.

Generally, Group 2 companies would have a lesser due diligence obligation focused on severe adverse impacts relevant for their sector.

Is the Directive Currently Legally Binding?

No, the Directive does not yet have legal effect as it has only been adopted by the Commission. The next step is for the Commission’s proposal to be presented to the European Parliament and the Council for approval. During this process, the Directive will likely be amended. Once adopted, Member States would have two years to transpose the Directive into national law, which would be binding on companies.

What Is Due Diligence?

Due diligence would apply to the adverse human rights and environmental impacts addressed by the Directive. At a high level, due diligence would consist of the following actions:

• Integrating due diligence into policies (including adopting a due diligence policy);
• Identifying actual or potential adverse impacts;
• Preventing and mitigating potential adverse impacts;
• Bringing actual adverse impacts to an end and minimizing their extent;
• Establishing and maintaining a complaints procedure;
• Monitoring the effectiveness of the due diligence policy and measures taken; and
• Publicly communicating on due diligence.

What Are Appropriate Due Diligence Measures?

Companies would be required to take ‘appropriate measures’ to:

• Identify actual or potential adverse human rights and environmental impacts arising from their own operations, their subsidiaries and the established direct or indirect business relationships in their value chain;
• Prevent potential adverse impacts identified or adequately mitigate those impacts where prevention is not possible or requires gradual implementation; and
• End actual adverse human rights and environmental impacts they had or should have identified. If the adverse impact cannot be brought to an end, the company would be required to minimize the extent of the impact.

A measure would be appropriate if it is capable of achieving the objectives of due diligence, commensurate with the degree of severity and the likelihood of the adverse impact, and reasonably available to the company. Whether a measure is appropriate also would take into account the circumstances of the specific case.

What if an Actual Adverse Impact Cannot Be Ended or Minimized?

If permitted by the law governing the relationship, the company would be required to:

• Temporarily suspend commercial relationships with the partner in question while pursuing efforts to end or minimize the extent of the adverse impact; or
• Terminate the business relationship with respect to the activities concerned, if the adverse impact is considered severe.

If an actual adverse impact cannot be brought to an end or minimized, the company would be required to refrain from entering into new relations or extending existing relations with the partner in connection to or in the value chain of which the impact has arisen.

Is Reporting Required?

Most subject companies would be required to annually report on the matters covered by the Directive.

How Does the Directive Relate to the EU Non-Financial Reporting Directive?

The Directive is intended to complement the current NFRD and its proposed amendments by adding a substantive requirement to perform due diligence to identify, prevent, mitigate and account for external harm resulting from adverse human rights and environmental impacts in a company’s own operations, its subsidiaries and their value chains. Companies required to report under the NFRD would not have a separate reporting requirement.

What Should Companies Be Doing Now?

Companies should assess whether they are likely to come within the scope of the Directive and, if so, they should continue to monitor the status of the Directive. Potentially affected companies also should consider conducting a high-level preliminary gap assessment to provide a directional sense of the amount of work that would be required to comply with the Directive's requirements. Since the ultimate terms and timing of the final Directive will determine companies’ compliance obligations, we believe it is premature for companies to begin implementing compliance measures specifically in response to the Directive.

Of course, many companies have in place or are developing or enhancing policies, procedures and programs to address adverse human rights and environmental impacts, whether to meet current or pending legal requirements, meet customer or other stakeholder requirements or demands or align with the company’s human rights and environmental sustainability goals and values. These initiatives should continue. New or enhanced policies, procedures and programs should be designed to be flexible enough to accommodate the requirements of the Directive.

Michael Littenberg is a Partner at Ropes & Gray LLP

Samantha Elliott is an Associate at Ropes & Gray LLP

Austin Bohn is an Associate at Ropes & Gray LLP

This post is published as part of the OBLB series on ‘The Corporate Sustainability Due Diligence Directive Proposal’.