EU green deal and the supply chain: Where do we go from here?

How are your clothes being made? Who is making them, where are they located, and how are they being treated? Not to mention, what are your clothes actually made up of?

While there has been the organic movement and free trade initiatives over the last few decades, retail or any product seller, has a supply chain that is usually quite difficult to get answers to as a consumer. Or even a business that uses these suppliers.

The European Union, in its effort to advance ESG-related objectives, put into place two new Directives, the Corporate Sustainability Due Diligence Directive (“CSDDD”) and the Corporate Sustainability Reporting Directive (“CSRD”) that will impact how businesses based both in and outside of the EU do business.

They are in addition to other directives and regulations relating to the EU’s Green Deal. The spirit of these new directives is to prevent EU businesses from turning a blind eye or claim plausible deniability to illegal or unethical practices without doing any due diligence – significant efforts will need to be made and reported in order to be compliant with these laws.

Below is a high-level breakdown of the CSDDD and CSRD which will have more requirements and details forthcoming.

In addition to the above, the International Sustainability Standards Board (“ISSB”) has released its much anticipated International Financial Reporting Standards (“IFRS”) 1 and 2. Germany’s LkSG is already in effect for larger German companies and may potentially need to be revised if in conflict with the EU CSDDD as EU laws have supremacy over conflicting national laws of member states.

Furthermore, the UK announced its ISSB-derived Sustainability Disclosure Standards and the French National Assembly is adopting a “Say on Climate” bill which allows shareholders to vote for company climate plans.

This is in stark contrast with the US which has passed many anti-ESG laws, depending on the state, and legal challenges to ESG compliance.

Albeit the rise of the ESG-industrial complex, there is a lot of uncertainty as to how these new disclosure requirements will actually be able to make meaningful changes such as the prevention of an increase in 1.5°C ( or 35° F) or ending slave labour practices.

As a case in point, how does a company located in the US, UK, or EU essentially have control over third-party suppliers located in countries that have differing labour practices?

Businesses can ask them to sign contracts and codes of conducts with human rights and environmental standards, but in many of the countries where these third-party suppliers exist, the rule of law is not as strong.

Would a supplier actually disclose real labour practices, wages, and employee working conditions, especially if it is cost-effective for them to keep their practices the way they are and there are no penalties or policing from their local government?

The solution then is for the EU, UK and US based companies to then either continuously audit or micromanage their suppliers.

This may be facilitated by surveillance equipment and go to the extent of having cameras in factories and heavily monitoring management.

So then, one must ask, where do you draw the line in terms of how much you can realistically audit from sitting in an office in another country?

Increased operational costs of the supplier implementing this will also be absorbed by the customer. Compliance with higher wages and audits will increase the cost for the supplier and likely either result in a higher cost to the company client or lower wages to the employees of the supplier.

What these laws may bring, unfortunately, is paper compliance with supply chain and due diligence laws. Many of these suppliers will take this as a hint of what their corporate EU clients want to hear and may even provide evidence of some of these changes or upgrades in environmental and labour practices but will actually do very little to improve.

The CSDDD, for example, shall require a robust complaints procedure.

But realistically, how would a factory worker in Bangladesh have any actual ability to “whistle blow” for abusive labour practices? Or, what if a third-party supplier is partaking in dumping toxic chemicals into their local environment which not just makes the locals sick but also the employees? Likely, the factory worker would not speak the same language as the corporate client and has a very high chance of being retaliated against if she reported it.

Given this, here are a few pointers to consider compliance with these new laws and regulations relating to third party suppliers and your supply chain:

Visit your company’s library

It is helpful to know or have in one place where your policies and procedures ‘live’ for to ensure any changes can be made quickly to be compliant with these new laws.

This would include policies, procedures, codes of conduct, ethics, supplier policies, vendor agreement templates, etc. Most policies, procedures, and codes of conduct relating to vendors have requirements or guidelines relating to anti-bribery laws, corruption, slavery, and applicable sanctions.

It may also be useful to speak with legal counsel about incorporating contractual clauses within agreements with suppliers. The main advantage to having these clauses contractually between the supplier and the corporate client is that the client could claim that the supplier would be in breach of contractual obligations and terminate the contract or require changes.

Keep data as raw as possible

Whether it’s using a robust enterprise risk management system or a spreadsheet to track data, especially GHG emissions (Scope 1, 2, and 3), having this data in raw data from each department or sector of your company makes it easier to comply with the various rules, regulations, and voluntary disclosures – even if tomorrow they change.

Ask third party suppliers or vendors for evidence

If a third party says they are compliant, ask for proof of this – this can be in the form of certification, an audit, documentation, receipts, bills, the supplier’s own codes, policies, and procedures, etc.

Keep your CFOs and COOs in the loop

Some of these laws, especially the CSDDD will hold directors and officers accountable for non-compliance or non-reporting of these laws. It is a best practice to keep the appropriate board committee and executive team informed of progress and deadlines in relation to compliance of these laws.

Make sure marketing understands not to talk the talk if you aren’t walking the walk

Discuss with your counsel whether it’s better to say nothing at all if you don’t have your “ESG” ducks sorted – this is currently something all companies should consider. Certain ESG lawsuits by shareholders are accusing companies of pledging or committing to diversity or fighting climate change but not doing enough about it. Companies should be mindful of whether their words and actions can be considered “greenwashing” or “rainbow-washing.”

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