Corporate Sustainability Due Diligence Directive provisionally agreed by the EU Council and Parliament

15 December 2023

The EU institutions provisionally agreed a final text of the EU's landmark human rights and environmental due diligence legislation, which puts full inclusion of the financial sector on ice

Following a fifth round of trilogue negotiations, the Council of the European Union (the "Council") and the European Parliament (the "Parliament") provisionally agreed a final text of the Corporate Sustainability Due Diligence Directive ("CS3D") in the early hours of 14 December 2023. This "provisional agreement" is unlikely to change substantively between now and its final adoption by the Council and Parliament.

The main effect of the CS3D will be to introduce obligations on in-scope EU and non-EU companies to adopt and implement due diligence policies and processes to identify and address adverse human rights and environmental impacts (known as human rights and environmental due diligence, or "HREDD") with which the companies may be involved, either through their own operations, those of their subsidiaries or through business relationships in their value chain.

We briefly summarise some of the main features of the agreed CS3D below. The full text of the provisional agreement has not been released. This blog is therefore based on the announcements made by the EU institutions following the provisional agreement.

Background and purpose

The initial proposal for a CS3D was published by the European Commission (the "Commission") on 23 February 2022. In December 2022, the Council agreed a number of amendments to the Commission's proposal. In April 2023, the Legal Affairs Committee of the Parliament (JURI), which led the Parliament's work on the CS3D, adopted a series of amendments, presaging much of the Parliament's final negotiating position, which was voted on at the plenary session of the Parliament on 1 June 2023. Trilogue negotiations between the three EU institutions took place over the following six months, culminating in this provisional agreement.

Clifford Chance has followed these negotiations closely; our publications on each stage of the legislative process are linked above, and at the end of this blog, alongside links to key recent updates from the three institutions.

What has been agreed?

1. Mandatory HREDD for in-scope companies

In-scope companies will be required to adopt HREDD policies and integrate HREDD processes within their risk-management systems. Through these, they will be required to take appropriate measures to:

i. identify, assess and, where needed, prioritise actual or potential adverse human rights and environmental impacts in their operations and value chains (both upstream and downstream, except in the case of the financial sector – see below);

ii. prevent or mitigate potential adverse impacts; and

iii. bring to an end, minimise and remedy actual adverse impacts.

Companies will be required to publicly communicate on their compliance with the CS3D, where they are not already subject to the reporting requirements of the Corporate Sustainability Reporting Directive, which entered into force on 5 January 2023.

2. Scope

The CS3D will apply to large companies formed under the laws of an EU Member State ("EU Companies") as well as companies with significant turnover in the EU formed under the laws of a non-EU country ("non-EU Companies").

"EU Companies" are defined as those with more than 500 employees and a net global turnover of more than EUR 150 million, or EU companies that operate in specific high-impact sectors with more than 250 employees and a net global turnover of EUR 40 million.

"High-impact sectors" are defined as the manufacture and wholesale trade of textiles, clothing and footwear, agriculture including forestry and fisheries, manufacture of food and trade of raw agricultural materials, extraction and wholesale trade of mineral resources or manufacture of related products and construction.

According to the Council's press release following the provisional agreement, non-EU Companies are defined as those that have a EUR 300 million net turnover generated in the EU, with no requirement to meet an employee threshold. The CS3D will apply to non-EU Companies three years from the entry into force of the Directive.

3. Financial sector – partial inclusion

In a win for the Council, most of the due diligence rules will not apply to financial institutions, including banks, insurers, institutional investors and asset managers. The provisional agreement means that the entire sector is exempt from having to ensure that loans or investments are not linked to human rights abuses.

The agreed compromise will however impose some obligations on financial institutions. EU and non-EU financial institutions conducting enough business to fall within the scope of the CS3D will be required to conduct HREDD on the upstream elements of their value chain, a much lighter regulatory burden.

The provisional agreement emphasises the "temporary" exclusion of the financial sector from the full scope of the CS3D. Representatives of the three institutions (Lara Wolters MEP, Commissioner Didier Reynders and Spain's State Secretary Gonzalo García Andrés) have clarified that discussions will continue as to the timing and shape of the financial sector's full inclusion in HREDD obligations.

4. Climate transition plans – an obligation to adopt and implement

In a press conference held following the announcement of the political agreement, the Parliament's lead Rapporteur for the CS3D, Lara Wolters, confirmed that the provisionally agreed text contains a requirement for companies to adopt and put into effect a transition plan for climate change mitigation in line with the goals of the Paris Agreement, including concrete targets and measures that will lead their value chains to climate neutrality by 2050, in five-year steps starting in 2030. The requirement to implement the transition plan marks a victory for the Parliament's negotiating position. The climate transition plan will also apply to in-scope financial institutions.

In this regard, we note that the U.S. Securities and Exchange Commission's own climate disclosure rules are now anticipated to be published by April 2024. For the potential implications of CS3D on U.S. companies, please see our briefing here.

5. Directors' duties removed; directors' remuneration kept

Article 25 of the Commission's proposal, supported by the Parliament, would have required directors of in-scope companies, when fulfilling their duty to act in the best interest of the company, to take into account the consequences of their decisions for sustainability matters, including, where applicable, human rights, climate change and environmental consequences, including in the short, medium and long term. This provision was strongly opposed by the Council, and ultimately removed from the provisional agreement.

However, Lara Wolters has clarified that Article 15 of the CS3D, entitled "Combating climate change", will require Member States to link any variable remuneration of company directors with directors' efforts to have their company adopt a climate plan and put it into effect. This provision will only apply to companies with over 1000 employees.

6. Penalties for non-compliance

Designated supervisory authorities in each Member State will monitor whether in-scope companies comply with their obligations under the CS3D. They will have the mandate to launch inspections and investigations, and impose penalties on non-compliant companies. Such penalties include "naming and shaming", and fines of up to 5% of the company's net worldwide turnover. The latter provision was introduced in the Parliament's negotiating position. Though not yet confirmed by the three institutions following the announcement of the provisional agreement, all three draft texts used in trilogue stated that such fines would need to be "effective, proportionate and dissuasive".

Compliance with due diligence obligations can now also be used as part of the award criteria for public and concession contracts.

7. Civil liability introduced

The provisional agreement further introduces a civil liability element, with liability to pay damages to victims in cases of non-compliance. It allows victims, trade unions or civil society organisations to bring claims within five years, and places limits on the disclosure of evidence, injunctive measures, and the cost of proceedings for claimants.

As Member States implement the CS3D's civil liability requirements, account will be taken of their national legal systems as well as the interrelationship of the CS3D with other applicable EU laws. For example, in its briefing published on 31 May 2023, the Parliament noted: "EU environmental law does not generally apply to value chains outside the EU, even though they may be accountable for up to 80-90% of the environmental harm resulting from EU production. The Environmental Liability Directive established a framework for environmental liability with regard to preventing and remedying environmental damage. This framework is based on the 'polluter pays' principle for companies' own operations, but it does not cover companies' value chains. The civil liability introduced by the CSDDD will therefore be complementary to the Environmental Liability Directive."

What happens next?

The provisional agreement will now require formal approval by the JURI committee and the Parliament as a whole, as well as by the EU governments, represented by the Council. These votes on the adoption of the CS3D by both institutions are likely to take place towards the end of January, at which point the final text of the CS3D will be made public.

When will the new rules apply?

The CS3D will enter into force 20 days after its publication in the Official Journal. Member States will then have two years to transpose the provisions of the CS3D into national law.

Based on the Council's press release, non-EU Companies will then have a further year to comply with the CS3D.

Based on the draft positions of each institution, it is likely that smaller in-scope companies will have longer to comply with the Directive, though this is as yet unconfirmed.

Key resources

Press

Previous Clifford Chance publications on the CS3D: