Inside Track: Planning, Environment & Sustainability - In the media, In practice and courts, Cases and Legislation - Real Estate and Construction

Introduction

On 23 February 2022, the European Commission published its much-anticipated
draft corporate sustainability and due diligence directive
(the
Draft Directive). The Draft Directive sets out a proposed EU
standard for human rights and environmental due diligence (HREDD)
which, importantly, would apply to any US-based company and its
subsidiaries if those group companies have aggregate annual
net turnover in the EU of:

  • more than EUR 150 million (Group 1); or

  • more than EUR 40 million with at least 50% of net worldwide
    turnover generated in a “high-risk” sector which includes
    textiles, clothing and footwear, agriculture, forestry, fisheries,
    food & extractives (Group 2).1

Notably, the HREDD applies even if the Brazil-based companies
and their subsidiaries do not have a physical presence in the EU,
if the above net turnover threshold is met.

The Draft Directive requires both Group 1 and Group 2 companies
to take appropriate measures to identify, and mitigate, actual and
potential adverse human rights and environmental impacts arising
from their own operations anywhere in the world (not just in the
EU) and, where related to their value chains, from their
“established business relationships”.

EU Member States are required by the Draft Directive to:

  • designate a supervisory authority to supervise compliance with
    the due diligence and climate change-related obligations with
    adequate powers and resources to request information, carry out
    investigations, order remedial action, and impose
    fines;2 and

  • ensure that individuals and entities can bring civil
    claims.3

The Draft Directive provides for director responsibility and
accountability in relation to EU companies’ HREDD
programmes.4 Group companies that meet the turnover
threshold will also be required to appoint an EU-based
representative to liaise with EU supervisory authorities.

While the Draft Directive remains subject to further legislative
scrutiny and approval, it provides the most detailed insight yet as
to the scope and form of prospective HREDD obligations, and it
provides a helpful template for corporates to continue developing
their due diligence policies and procedures designed to identify,
assess and mitigate adverse human rights and environmental impacts
– both in their operations and in their value chains.

Furthermore, the Draft Directive will have implications for
US-based banks, insurers and other financial institutions which
meet the EU net turnover threshold. They will have to undertake
further due diligence on clients and their subsidiaries to whom
they extend loans, credit and other financial services5
in line with the Draft Directive’s requirements.

Growing HREDD Trend Globally

The overall message is clear: mandatory HREDD is coming, and
companies based in the US should already be anticipating upcoming
HREDD legal obligations and preparing for increasing stakeholder
expectations in this area. Although HREDD laws initially focused on
child labour and slavery (UK, Australia, California), the trend is
for a broader and more global view of human rights and the
environment. We see this with recent laws passed in the past year
in Norway, Germany and the Netherlands (see our Past Blogs on
national HREDD movements in Germany and the Netherlands). Japan is also expected to
release human rights guidelines for businesses sometime this
year. In addition, certain securities exchanges in the US have
adopted or proposed ESG related disclosure requirements which are
broad enough to cover disclosure of information relating to certain
social matters, including human rights.

Key Highlights of the Draft Directive

DUE DILIGENCE OBLIGATIONS

Key takeaway: Fundamentally, the Draft Directive would
require Group 1 and Group 2 companies to implement HREDD measures
that cover their entire value chains, looking beyond Tier 1
suppliers to include “established business relationships”
throughout the value chain. This includes contractors,
subcontractors and other entities in the supply chain. This will
add further complexity to supply chain risk assessments and ongoing
supply chain risk management in practice. 

DIRECTORS’ DUTIES

Key takeaway: The Draft Directive
provides for directors of applicable EU-based subsidiaries of
US-based companies to take into account “human rights, climate
and environmental consequences” in acting in the best
interests of a company. This includes a requirement to ensure a
company’s business model and strategy are compatible with the
1.5 °C goal of the Paris Agreement. This appears to be more
expansive than existing and anticipated national HREDD laws.

SANCTIONS

Key takeaway: The Draft Directive
provides that Member States shall implement rules on sanctions for
non-compliance, ensure such sanctions are “effective,
proportionate and dissuasive” and may include financial
penalties based on a company’s turnover.

NEW CIVIL LIABILITY REGIME

Key takeaway: A new civil liability regime could set
the stage for an increase in human rights and environmental related
litigation (e.g., brought by civil society organisations).
Furthermore, this regime will have implications for existing
national due diligence laws that do not currently provide for such
a regime (e.g., the German Supply Chain law).

MODEL CLAUSES AND GUIDANCE

Key takeaway: It is anticipated that the European
Commission will issue guidance and a set of voluntary model clauses
to support companies in complying with their obligations under the
Draft Directive. Our previous Blog on ABA model clauses provides
insights into the types of voluntary model clauses that are already
available in a supply chain context.

Timing and Implementation

The Draft Directive will now be presented to the European
Parliament and the Council for approval. Once adopted, Member
States will have two years to transpose the Directive into national
law.

How Can Your Organisation Prepare for the Requirements in the
Draft Directive?

The outline of the due diligence obligations in the Draft
Directive gives a good indication of the scope and likely
expectations of the design and implementation of a human rights and
environmental due diligence programme. US-based groups who are
likely to be in scope should start to map, align and leverage their
existing policies and procedures to the requirements in the Draft
Directive (particularly those set out in Articles 5-11) to identify
gaps and areas for enhancement and improvement ahead of the
adoption of the Draft Directive. For many large companies,
designing and implementing appropriate systems and controls and
embedding them into “business as usual” could be, in many
cases, a multi-year multi-stakeholder exercise, and so it is
imperative for companies to prepare for these new obligations in
haste.

More generally, businesses can position themselves for the Draft
Directive and other mandatory HREDD laws emerging at a national
level by:

  1. Integrating human rights into group policies and strategic
    planning processes;

  2. Disclosing how human rights considerations are integrated into
    strategies, policies and procedures;

  3. Carrying out a human rights impact assessment and taking
    proportionate counter-measures, as well as communicating internally
    and externally on what measures have been taken;

  4. Reviewing and reinforcing complaints mechanisms and speak-up
    programmes;

  5. Ensuring the business is well equipped to deal with
    ‘crises’;

  6. Reviewing the extent to which their board is equipped to
    address supply chain risks; and

  7. Reviewing the role, resources and expertise of the legal and
    compliance functions, who should play a key part in addressing
    these new challenges.

Read more of our Business and Human Rights perspectives here.

Footnotes

1 Group 1 companies are subject to a lesser due
diligence obligation (they are only required to focus on severe
adverse impacts relevant for their sector) and do not, for
instance, have specific obligations to address climate change as
prescribed for Group 2 companies.

2 The supervisory authority may initiate an
investigation on its own accord or as a result of
“substantiated concerns” communicated to it. Where there
is a failure to comply, the supervisory authority shall grant the
company concerned an appropriate period of time to take remedial
action where possible. Failing rectification, it can impose
pecuniary sanctions (Article 18).

3 Member States must allow individuals / entities to
raise “substantiated concerns” and ensure they have
access to a court or other impartial body to raise their concerns
(Article 19).

4 This would apply to directors of subsidiaries
based in the EU but not, for example, directors of the US-based
parent company.

5 “Other financial services” are not
expressly defined in the Draft Directive.

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article provides information and comments on legal
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