On December 14, 2023, the European Parliament and the European Council reached a provisional deal on the Corporate Sustainability Due Diligence Directive (CS3D). Initially proposed by the European Commission in February of 2022, the CS3D requires certain companies to account for and mitigate adverse human rights and environmental impacts throughout their supply chains, including both their own operations as well as upstream and downstream activities. In November 2022, the European Council adopted the general approach proposed by the European Commission. Since then, the Council and the European Parliament have negotiated the parameters of the CS3D to reach a provisional agreement. While press releases from the Council, the Parliament, and the Commission all confirm an agreement has been reached, the text of the agreed upon CS3D is not yet publicly available. It is likely to be released in early 2024.

Who is subject to the CS3D?

The CS3D will apply to both European companies and non-European companies with substantial turnover in the EU.

For EU-based companies, the CS3D will apply to companies of substantial size and economic power, i.e., companies with more than 500 employees and a net global turnover of €150 million. In addition, it will apply to EU-based companies with over 250 employees and an annual turnover of €40 million or greater, if at least €20 million is generated in one of the following “high-risk” sectors:

• manufacture and wholesale trade of textiles, clothing and footwear
• agriculture, including forestry and fisheries
• manufacture of food and beverage products, and trade of raw agricultural materials
• extraction and wholesale trade of mineral resources or manufacture of related products
• construction

While not entirely consistent across the Press Releases, it appears non-EU companies will be in scope of the Directive if they meet either of the equivalent turnover thresholds in the EU as the first two groups described above. The Commission will publish a list of non-EU companies that fall with the scope of the CS3D.

Small and medium sized companies are not within the scope of the CS3D.

The European Council has indicated that financial sector companies will be temporarily excluded from the CS3D’s obligations, but they will have to adopt a climate transition plan and may have broader obligations in the future.

What does the CS3D obligate companies to do?

Under the Directive, companies will be obligated to consider both actual and potential adverse impacts on human rights and the environment across their entire operations and supply chains, including both upstream and downstream impacts. Obligations will include assessing adverse impacts and taking steps to mitigate and prevent those impacts by integrating due diligence policies and processes into corporate risk management systems. The CS3D will require companies to make investments, seek contractual assurances from business partners, and provide support to those entities to manage environmental and human rights impacts. Companies subject to the CS3D will also be required to engage with stakeholders affected by their actions, including by publicly communicating on due diligence policies, establishing a complaints procedure, and monitoring effectiveness of the policies.

The agreement clarifies the impacts covered that companies will be required to consider. Environmental impacts will include harmful soil change, water pollution, air pollution, harmful emissions, and excessive water consumption, among others. Human rights impacts will include, at minimum, child labor and worker exploitation. The provisional agreement also includes an Annex that lists international instruments and standards for protecting human rights and the environment that, if violated, will be considered to pose an adverse impact.

Last, the compromise contains an obligation for large companies (i.e., companies in the first category described above with over 500 employees) to adopt and implement transition plans for climate change mitigation that are consistent with limiting global warming to 1.5 degrees Celsius.

What are the penalties and liabilities for non-compliance?

Companies will be liable for breaching their obligations under the CS3D and victims will have a cause of action to be compensated for damages. EU countries will designate authorities to monitor compliance, which will have the ability to conduct investigations and impose penalties. Penalties may include naming companies publicly for non-compliance and fines of up to 5% of their worldwide turnover.

How does the CS3D compare to the German Supply Chain Due Diligence Law?

The CS3D follows on the heels of existing efforts in individual EU member countries, most significantly the German Supply Chain Due Diligence Act (in German, Lieferkettensorgfaltspflichtengesetz or LkSG). The LkSG came into force on January 1, 2023 and requires companies that meet a certain employee threshold in Germany to establish a risk management system to prevent or minimize environmental and human rights risks.

The CS3D has much broader implications and will likely result in a tightening of the LkSG. In the first place, the CS3D will apply to a broader range of companies than the LkSG. Whereas the LkSG will extend to companies with 1,000 employees in Germany starting in 2024, the CS3D applies to both EU and non-EU-based companies that meet the employee and turnover thresholds discussed above. Further, the CS3D is expected to reference a longer list of human rights and environmental conventions than the LkSG, meaning the range of potential adverse impacts to be managed through corporate compliance management systems will be broader. At the same time, the CS3D will require deeper engagement with and understanding of the full value chain, as it includes broader requirements to identify and address risks posed by indirect business relationships.

What comes next?

We will provide an update once the full text of the agreed-upon draft Directive becomes publicly available. It will not become law until it is formally approved by the European Parliament and the EU Council. Once it is approved and published in the Official Journal of the EU, the CS3D will enter into force 20 days after publication, and member countries will have two years to adopt the provisions of the Directive into law through national legislation.