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The twin directives of CSRD and CS3D: the cart before the horse?

01 July 2024

True Diligence – preparing for a new era of corporate responsibility

In this article, we explore the interface between the CSRD and CS3D, whether it is beneficial to look at both Directives in parallel, and/or to prioritise one over the other.  We conclude that not only are there efficiencies in addressing these two Directives in tandem, but to achieve True Diligence requires a heightened focus on evidence-based action, which makes it a necessity.  Businesses must act with integrity and bridge the 'say-do' gap. 

ESG targets in isolation are necessary but no longer sufficient. Targets need reinforcement by action plans hardwired into your business model and strategy, with evidence-based tangible outcomes reflecting the actions taken.  

With the tsunami of ESG regulation facing corporates with the UK, Europe and globally, it is a formidable task for businesses to keep track of developments and new laws on the regulatory horizon.  With over 50,000 companies within Europe falling within the scope of the EU Corporate Sustainability Reporting Directive (CSRD) one could easily become consumed with CSRD, deciding to ignore or park its sister Directive, the EU Corporate Sustainability Due Diligence Directive (CS3D) for the time being.  As we prepare for a new era of corporate responsibility however, progressive and forward-thinking companies will need to consider these in tandem as part of their approach to achieving True Diligence.

Why companies should approach the CSRD and CS3D in tandem

In this decade of action, we are facing a critical paradigm shift beyond disclosure to an additional focus on achieving sustainability outcomes. With these twin Directives coming on board, the CSRD followed by CS3D, you could argue that we have put the cart before the horse; focusing first on the reporting piece before conducting due diligence.  Under the CSRD, those companies within scope are required to disclose in accordance with the European Sustainability Reporting Standards (ESRS). However, a key question to ask is this:  What forms the content for those disclosures? The answer is concrete and tangible actions, which can only be delivered after first identifying what are the key risks and material impacts to address.

Conducting risk-based due diligence on human rights, environmental and climate-related impacts takes reporting beyond a historic static snapshot in time.  Due diligence connects reporting to the future, and provides the critical evidence base upon which to identify and assess salient human rights and material environmental and climate-related impacts, together with development action plans to address these impacts. Where reporting comes after due diligence is undertaken, it acts as a vital mechanism for measuring whether an organisation is improving or failing on its ability to protect human rights, ensure environmental sustainability and combat climate change.   Reporting and due diligence become mutually reinforcing and cyclical in keeping with a 'plan-do-check' approach to continuous improvement. 

What are the target outcomes of the CSRD and CS3D?

CSRD covers 'sustainability matters' beyond human rights and environment to include governance and social factors.  It adopts a double materiality lens (of both financial materiality and impact materiality) and reporting on due diligence processes as one of five reporting themes.  There is also a link in the CSRD to the CS3D requirement to design and put into effect a climate mitigation transition plan. This focuses on disclosing plans to ensure the business model is aligned with the 1.5°C Paris Agreement goal.

Moreover, CSRD has a set of associated mandatory ESRS. These include two cross-cutting general standards, as well as specific standards which are:

  • environmental standards - related to climate, pollution, water and marine resources, biodiversity and ecosystems, resource use and circular economy
  • social standards - related to workforce, workers in the value chain, communities, customers and end-users;  and
  • governance standards - related to business conduct and transparency.

CS3D aims to ensure companies 'active in the internal market contribute to sustainable development and the sustainable transition of economies and societies'. It asks companies to acknowledge that the success of EU sustainability objectives is related to corporate behaviour and that there is a link to their global value chains.  CS3D imposes a due diligence duty on companies related to actual and potential human rights impacts and adverse environmental impacts.

How do these twin Directives intersect?

In addition to the shared coverage of environmental, climate and human rights related matters, the key intersection between CSRD and CS3D is disclosure. 

The CSRD includes the requirement to include in the management report information needed to understand the company’s ‘impact on sustainability matters’, combined with information needed to understand ‘how sustainability matters’ affect the company’s development performance and position.  In this regard, there are corresponding requirements to disclose the sustainability due diligence process that the company has implemented, and principal adverse impacts connected with the company’s own operations and its value chain. This includes its products and services, its business relationships and supply chain, as well as other adverse impacts the company is required to identify pursuant to other Union requirements (which would then capture the CS3D requirements). 

Moreover, the CSRD requires the company to disclose the actions taken to prevent, mitigate or bring to an end actual or potential adverse impacts, together with the results of the actions. In both the CS3D and CSRD, there is a move beyond words and intentions to tangible action.

In terms of disclosure, the CS3D requires those companies within its scope to publish an annual statement on their corporate website within 12 months of the balance sheet date of the financial year for which the statement is drawn up (and for those voluntarily reporting with CSRD by the date of the publishing the annual financial statement).  Further information on the details and content of such reporting will be found in delegated acts which are expected to be adopted by 31 March 2027.  There is also a carve-out provision where companies in the scope of Articles 19(a) and 29(a) of the CSRD (as amended the Accounting Directive) do not have to comply with this annual statement requirement.

Critical steps to optimise your CSRD and CS3D efforts

There are three critical steps you can undertake to optimise your efforts when it comes to addressing these two Directives:

  • Firstly, treat the CSRD and CS3D as fraternal twins, closely connected but somewhat different.  There is a need to work in tandem. This is against the background of a paradigm shift beyond reporting to action.  It is not just disclosure that is now mandatory, but also implementation.  While the setting of targets is necessary, it is no longer sufficient.  You will also be held accountable and liable for your actions related to your obligation to conduct risk-based environmental and human rights due diligence. 
  • Secondly, businesses who seek to achieve true diligence must adopt a more holistic lens in the context of business transformation. They must ensure that environment, climate and human rights are not only mainstreamed into their business model and strategy, but also embedded into the associated risk management and governance mechanisms.
  • Finally, ensure your key stakeholders recognise and understand that implementation of the mandatory action plans (i.e. prevention, remediation and climate transition) under CS3D will be critical to achieving True Diligence which then forms the basis of the disclosure, not the other way around.  Getting the horse and cart to work together in tandem will be key.

DWF has undertaken market-led research on how prepared 1200 C-Suite Leaders are for CS3D as captured in our True Diligence report.   To learn more see:  True Diligence, Corporate Responsibility, CSDDD and Human Rights | DWF Group.

Contact Nadine Robinson or Tracey Groves for further information. 

Further Reading