The Corporate Sustainability Due Diligence Directive is game-changing legislation. It shifts the focus from words to tangible action on ensuring environmental sustainability and the actual and potential impacts on human rights.
Efforts are now underway in Brussels through the trilogue to finalise and agree the text for the EU Corporate Sustainability Due Diligence Directive. CS3D aims to foster responsible and sustainable corporate behaviour by considering the activities of companies, their subsidiaries and global value chain. It focuses on actual and potential adverse impacts on human rights and the environment that are caused by, contributed to or directly linked to the company's own operations, their subsidiaries or operations carried out by entities in their value chain, where a business relationship exists.
The CS3D requires companies to take appropriate measures to broadly scope out the impacts of their operations, subsidiaries and business relationships enabling the identification and assessment of actual and potential adverse impacts. Due diligence steps to be taken include identifying where these impacts are most likely to occur and their severity, subsequently conducting in-depth assessments of prioritised operations, subsidiaries and business relationships to determine their specific nature and extent. There is a further requirement on companies to prevent or, where not possible, mitigate such adverse impacts.
What does it cover?
In terms of ESG subject matter coverage, the due diligence requirements relate to human rights and the environment. Human rights adverse impacts are presently defined in relation to those rights and prohibitions included in international human rights agreements. The Annex gives colour to various social factors. These include, but are not limited to, anti-bribery, anti-corruption, the right to a living wage, forced labour and the rights of the child, and indigenous peoples' rights.
Adverse environmental impacts are currently defined in the proposed text as relating to impacts caused by failing to comply with relevant provisions of environmental laws (as listed in the Annex). This includes causing environmental degradation that impairs the natural bases for the preservation of food and feed.
Other adverse environmental impacts relate to:
- climate change;
- biodiversity loss;
- air, water and soil pollution;
- land, marine and freshwater ecosystems degradation;
- overconsumption of material, water, energy and other natural resources; and
- harmful generation and mismanagement of waste, including hazardous substances.
A sharp focus on climate transition
The European Parliament included an amendment broadening the scope of environmental conventions addressed in the directive to include climate change conventions. CS3D contains a significant requirement for certain entities meeting its applicability thresholds (see Article 2) to not only develop, but also implement a climate transition plan (Article 15) in line with the reporting requirements in Article 19(a) of the Corporate Sustainability Reporting Directive (CSRD).
This climate transition plan must state:
- the resilience of the company's business model and strategy to climate-related risks;
- climate-related opportunities;
- how the company takes account of the interests of its affected stakeholders and the impacts of the company on climate change in its business model and strategy;
- how the company is implementing its strategy in regards to climate change, including financial and investment plans; and contain
- science-based time-bound targets for scope 1 and 2, and (where relevant) scope 3 emissions for 2030, and in subsequent five year intervals to 2050 with a description of progress made in meeting these.
The European Parliament has given further weight to climate change by proposing that Directors are charged with responsibility for overseeing the climate transition plan. Companies with an average of over 1000 employees are to put in place a policy where Directors' variable remuneration is linked to the company's transition plan. It is against this backdrop, that the directive in its present form should now be viewed by companies from a triple lens of adverse impacts: human rights, the environment and climate change. We eagerly await the agreed final negotiated text, once the trilogue process is complete, to see how it has evolved and how it will offer greater legal certainty to companies and embrace climate change.
The impact on sectors and jurisdictional reach
In earlier text, the specific reference in Article 2(1)(b)(ii) to "agriculture, forestry, fisheries (including aquaculture), the manufacture of food products, and the wholesale trade of agricultural raw materials, live animals, wood, food and beverages" was deleted in the European Parliament's proposal. The removal of this reference to high impact sectors does not mean that the CS3D is no longer applicable to the food industry. It is rather that they may be caught by the Parliament's lowering of the applicability threshold to companies with average of over 250 employees and a net worldwide turnover of more than EUR 40 million in the last financial year, for which the annual financial statements have been prepared (Article 2(1)(a)). However, those in the food sector that fall below this and the other applicability thresholds will be captured indirectly through the value chain as larger entities, under their risk-based assessments across their value chain. Moreover, it is not only European companies who will be required to meet the requirements of the directive as it has an extraterritorial component, e.g. in instances where a company generates a net worldwide turnover of more than EUR 150 million, provided that a minimum of 40 million EUR was generated in the European Union in the financial year preceding the last financial year (see Article 2(2)(a).
Time to act is now
Whilst we may not know the final wording of the directive yet, as the trilogue is still in progress, there is a clear direction in which companies should be starting to prepare now. Due diligence policies and processes will need to be revisited, in many cases upgraded and in some cases established, to ensure that appropriate measures are put in place to identify, prevent, mitigate, manage and where appropriate cease activities that cause or have the potential to cause adverse impacts to the environment and human rights. Now is an opportune time to undertake materiality assessments across your value chain and to consider the CS3D in the wider context of your business model, strategy and overall approach to managing ESG risks and opportunities.
The question is: are you prepared?
If you have any questions about points raised above, or how this may affect your business, please get in touch with DWF's Tracey Groves, Nadine Robinson, or Dominic Watkins.
This article was prepared together with Footprint Media Group and is also available here.