The European Commission delivered its long-awaited proposal for a Directive on Corporate Sustainability Due Diligence earlier this year, which was largely welcomed by progressive businesses - however with some reservations.
This directive aims to ensure that companies active in the Single Market operate responsibly and contribute to sustainable development by requiring them to identify and prevent negative human rights and environmental impacts connected to their operations and supply chains. That is, companies will need to conduct responsible business conduct “due diligence,” e.g. that companies must consider how their business and value chain impacts people and the environment.
Despite improvements from the initial drafts and a general consensus that the proposed Directive is a welcome step in the right direction towards harmonising sustainability due diligence obligations, one thorny question remains: can the Directive achieve its intended impact?
As discussions zoom into the proposal’s specifics, there is a chance that we do not appreciate the larger picture. Besides potentially creating bureaucracy for regulatory authorities and companies alike, the Directive could also, critically, undermine the progress that companies have had in implementing the internationally accepted standards on responsible business conduct such as the UN Guiding Principles on Business and Human Rights or the OECD Guidelines for Multinational Enterprises. If this happens, then the Directive would not be achieving its intended impact.
1. Levelling the playing field requires harmonised implementation
One of the Directive’s main benefits would be addressing the growing fragmentation of due diligence requirements in the Single Market, including the German Supply Chain law, the Dutch Child Labour law, and the French Duty of Vigilance Law. This is positive. All companies operating in the EU Single Market should play by the same rules, which includes conducting business responsibly. SMEs are not included, however, ideally they should eventually be included. SMEs play an important role in avoiding negative impacts on human rights and the environment; therefore I encourage the EU regulators to consider a phased approach for bringing them on board.
The key to ensuring that this Directive can, in fact, level the playing field is to secure that it is implemented in a harmonised manner. This means detailed guidance to Member States on how to implement the Directive, including the supervisory authorities’ powers, levels of pecuniary sanctions and, not least, consideration for how the supervisory authorities would work in tandem with, or even supplement, the OECD National Contact Points. I look very much forward to seeing how implementation and enforcement is envisaged.
2. Striving for (legal) clarity has caused unclarity
The Directive has a strong foundation with its clear references to accepted international standards on managing social and environmental impacts, namely the UN Guiding Principles on Business and Human Rights (“UN Guiding Principles”) and the OECD Guidelines for Multinational Enterprises. The UN Guiding Principles were unanimously endorsed by the UN Human Rights Council in 2011 and outline the methodology for how businesses respect and remedy adverse human rights impacts. Numerous companies work with implementing these standards; they form the basis for how Maersk defines its responsible business conduct approach. Seeing clear references to these standards is a good signal.
However, in the quest to create legal clarity on companies’ due diligence responsibility, the Commission has unnecessarily deviated from these international standards, introducing new concepts that are untried and untested. In defining a company’s due diligence scope, the proposal establishes a duty to identify actual and potential adverse impacts arising from their operations and where related to their value chains. So far so good. But then the proposal limits the scope of this duty by the type of connection to the value chain, namely “established business relationships”, rather than the company’s connection to the adverse impact, as outlined in accepted international standards. In concrete terms, that means that companies should focus their due diligence efforts on impacts in the value chain based on the type of business relationship with the party causing the impact, rather than the severity of the impact and the companies’ connection to the impact. This is quite a divergence from working with the UN Guiding Principles for more than 10 years, and it unhelpfully confuses the responsibility of companies in identifying and mitigating their adverse impacts.
This new term, combined with the heavy focus on contractual clauses and compliance ‘tick-box’ exercises, significantly alters the risk-based approach outlined in international standards. So, what could this mean in practice? Will we see more compliance colleagues taking the lead on ensuring human rights and environmental impacts are managed? My concern is that it could divert attention (and resources) away from the more complex options that require companies to use their leverage to influence long-term positive change, going beyond contractual clauses. This should not be a concern for experienced companies already working with responsible business conduct due diligence, in line with the international standards. But for companies just starting this journey, the proposed Directive could set them down the wrong path.
3. Board oversight, not duties
Leaving aside the ambiguity of what it means for Directors to “take into account the consequences of their decisions for sustainability matters,” the question remains on whether there is indeed a need to change Directors’ duties in the first place.
Across the EU, companies are at different levels of maturity on sustainability due diligence, and respective Member States’ governance mechanisms on Directors’ duties are similarly at different levels of maturity when it comes to accounting for “sustainability matters.” In Denmark, and the Nordics more generally, there is a strong foundation in corporate governance models for Boards to consider responsible business conduct. This is supported by reporting requirements that increase transparency, and strong incentives (driven by, for example, investors, customers, and employees) to engage in this area. Therefore, this proposed Directive could impose bureaucratic regulation on something which boards are already considering, in the effort to pressure Member States that are lagging behind to update their corporate governance systems. An EU Directive seems to be disproportionate and to violate the EU principle of subsidiarity.
Introducing Board oversight of sustainability impacts could, on the other hand, increase corporate accountability. Requiring board oversight on sustainability impacts, integrated as a part of an overall sustainability governance system, would mean that company boards will become better versed in understanding and considering sustainability risks as part of business decisions. This approach is about change management and Maersk is well on the way with this journey; our ESG strategy has been approved by the A.P. Moller - Maersk Board.
Ensuring that companies do no harm, is indeed a challenging (and ongoing) task, which is not easy to regulate nor capture in ESG ratings. There is great hope that this Directive can be a catalyst for driving positive change, and not just in the European Union. In order for this catalyst to fill that role, more thought should be provided to the Directive’s implementation, key due diligence concepts need to be based on internationally accepted standards, and the governance piece must be fit-for-purpose. I look forward to following the Directive’s development and contributing with our experience to the discussions!