Hanover

10 Feb 2021

With increased calls by the European Parliament, civil society and industry for an ambitious EU cross-sectoral, mandatory and harmonised sustainable corporate governance and due diligence framework, the European Commission is expected to table a legislative proposal in Q2 2021. Balance, however, needs to be found between high ambitions and what is achievable.

Ambitions and reflections on the framework 

In addition to better environmental and human rights protection and more transparency towards investors and consumers, companies with better social and environmental performance are among the more resilient in the current COVID-19 pandemic crisis. In this context, the Commission is working on a horizontal legislative framework (most likely a Directive) based on two pillars:

  1. Mandatory human rights and environmental due diligence duty, with companies required to identify and prevent risks and mitigate negative impacts on human and labour rights, climate, and the environment, in their own operations and value chain.
  2. Mandatory duty of care, with directors required to integrate long-term stakeholder interests and corporate sustainability risks, impacts and opportunities into corporate strategies, not only short-term gains.

Several crucial points need to be clarified still. While the rules will certainly apply to European companies, the Commission is contemplating what company law instruments it has at hand to bring non-European companies active on the EU market under the law’s remit. Moreover, SMEs would most likely be subject to a proportionate approach.

The Commission is also considering enforcement and implementation mechanisms, including possible remediation. This is a particularly sensitive issue that could lead to personal liability of directors and managers. The Commission is indeed deliberating on what enforcement mechanisms to opt for (with criminal and civil liability, administrative law mechanisms and oversight on the table), who would be entitled to take legal action and under what conditions, how to create incentives for directors to develop sustainability strategies, and what should be the composition of the board of directors.

Another key question is how to avoid fragmentation within the Union (due diligence laws already exist in France and the Netherlands, and a bill is under development in Germany) and create a truly level playing field. More administrative burden and red tape are absolutely to be avoided as the many different standards are already causing reporting fatigue among suppliers.

The practical side: industry experience 

While there is general support for an ambitious framework, numerous challenges exist in its practical implementation. Let us walk through some examples.

A horizontal framework would cover very different products and very different, often complex, value chains. How to develop criteria that are clear and ambitious while also considering the specificities of value chains? Should there be detailed methodology and standards to benchmark all products against one another, or should there be a minimum standards common framework with ambitious voluntary standards on top, potentially sector-specific? In this context, it is important to note that while the upcoming initiative will be horizontal, sectorial legislation might follow in the coming years.

Another point relates to traceability tools: depending on the product and to some extent also geographies, there may be no tools available to actually trace the product to its origin. And linked to that, how far should and could a company’s responsibility go? The more severe risk is often not in a tier 1 suppliers, but further down the line. A risk-based approach along the full value chain seems to be preferred by industry, putting in place processes to identify and mitigate risks across the value chains, with a focus on high-risk elements, rather than imposing strict liability regimes.

Moreover, with value chains spanning across continents, material and political obstacles will most certainly arise to proper due diligence. In this context, advocating for a thorough international framework and ensure that partners abide by similar standards will be crucial.

Engage and inform 

Lots of unknowns remain at this stage. In order to guide policymakers in their task, industry needs to engage and share best practices, their challenges and their suggestions to overcome such challenges. This can be done both individually as through industry coalitions and existing voluntary due diligence schemes, who provide support on due diligence implementation.

Building on existing best practices will be important in developing the upcoming legislation. Therefore, a continuous dialogue and close collaboration between policymakers and all stakeholders is critical to ensure a truly level playing field.

On 11 January, we discussed the upcoming Sustainable corporate governance and due diligence framework during a Hanover 360° webinar with Lucrezia Busa (Cabinet Justice Commissioner Didier Reynders), Jose M. Álvarez Gallego (Inditex) and Jan Tytgat (Umicore).