New Compliance requirements within the supply chain
After an extended period of discussion, the German Federal Government agreed on a ministerial draft bill for a Supply Chain Act (in the draft referred to as “Due Diligence Act”). Subject to the further legislative process, the act is supposed to come into force at the beginning of 2023. Initially it would only apply to companies with more than 3.000 employees. Starting in 2024, it would apply to all companies with more than 1.000 employees.
The draft bill does not set out final instructions to companies in relation to their respective obligations under the new act. Instead, it provides for a wide variety of activities and reporting obligations for companies. In the event of violations, companies face fines as well as exclusion from public contracts.
Supply Chain Act – Objectives
The Federal Government justifies the need for a supply chain act by citing the necessity to improve the international human rights situation by responsibly shaping supply chains of companies located in Germany. In this regard, the Federal Republic of Germany bears a special responsibility for sustainable and fair international trade due to the high degree of international integration of its economy.
Overview of draft bill – Duties to act and report
The core of the new act is the codification of human rights due diligence for companies. Point of reference for these due diligences are human rights and environmental laws, as stated in numerous international agreements. Included regulatory areas in particular are child labor, forced labor, slavery, problematic employment and working conditions, discrimination, violation of the freedom of association, and environmental damages.
Companies must establish an appropriate risk management system, in order to be able to recognize a possible breach of due diligence, to prevent or, in case of doubts, to eliminate a such. The basis for this is an individual risk analysis.
Suppliers with whom a contractual relationship exists must be obligated to comply with human rights. In addition, it is intended that appropriate contractual control mechanisms will be agreed, including the conduct of trainings as well as appropriate audits of the human rights strategy.
Furthermore, companies must adopt a declaration of principle in which the company’s human rights strategy is codified. Above all, the declaration of principle contains the results of the risk analysis and the measures taken to prevent a violation of due diligence. Additionally, companies are obliged to continuously document the measures taken as well as the compliance with legal requirements and to once a year report on the company’s homepage about the identified risks, the implementation of due diligence and the assessment of the impact of the measures taken and their effectiveness as well as the future strategy.
Once violations of due diligence have been identified, companies must endeavor to end them. For this purpose, removal concepts with concrete time schedules need to be developed. The termination of business relationships, on the other hand, is intended by the act only as ultima ratio. The draft bill obliges companies to ensure, that there are no violations of due diligences in their own business areas and with their direct suppliers, or that these are ended immediately.
Both for their own employees and for external third parties, companies must establish a complaints system (whistleblowing-system) to enable the submission of confidential reports and information. The effectiveness of this system must also be reviewed regularly.
Risk analysis: Requirements
One of the key requirements under the proposed new act is the stipulation of human rights due diligence obligations for companies. In practice, this means that companies will need to identify and analyze their individual risks with regards to potential human rights or environmental violations. The risk analysis must be carried out repeatedly, at least once a year and in cases of special events or changing risks even more frequently. As is already common practice in compliance risk analyses today, the obtained results must then be weighted and prioritized based on the actual risk exposure of a company and its operations. The decisive factors are the type and severity of possible violation. Subsequently, taking into account the interests of relevant stakeholders (according to the draft, this includes both the interests of the entrepreneur’s own employees as well as the interests of the supplier’s employees), measures must be taken that are suitable for preventing the realization of such risks.
Obligation to act in the event of indications of violations
For indirect suppliers along the supply chain up to the raw material supplier only graduated responsibility applies: Companies are only obliged to analyze the risk and establish preventive or implement avoidance measures if they have substantiated knowledge of human rights violations, especially via the internal or external grievance procedure that is mandatory under the draft.
In line with the increasing importance of environmental, social, and governance-related aspects (ESG) in corporate compliance considerations, the new act also includes fundamental environmental protection obligations – in a way as a subset of human rights – in the scope of protection of the due diligence. This is noteworthy insofar as in deviation from constitutional law environmental protection in the sense of ecological human rights protection is – as far as can be seen – for the first time regarded as a component of human rights. Environmental protection is to be covered to the extent that environmental damage directly affects human rights. Not only the production of mercury-added products under the United Nations Mercury Convention (so-called Minamata Convention) and the use of particularly dangerous, so-called persistent organic pollutants (POP) under the Stockholm Convention are included as relevant risks, but also the general causing of potentially food-/water-depleting or health-damaging soil, water and air pollution and the disregard of basic standards of occupational safety.
Against the background of current environmental issues, such as environmental damage caused by industrial accidents and the discussions about the consequences of raw material extraction for electric car batteries, it will be exciting to see what impact the quite broadly defined environmental and occupational health and safety risks will have in practice. In the future, such environmental incidents will be particularly explosive since domestic NGOs or trade unions will be able to publicly claim them in Germany by way of special litigation status.
The new act– insofar as it makes it through the German parliament – marks the start of a new global supply chain responsibility. Admittedly, because of pressure from the Federal Ministry of Economics, the scope of application is initially limited to large companies and civil liability for damage claims by other companies in the supply chain has been removed. Although the impact on more remote, particularly critical supply chain relationships will therefore certainly initially remain restricted, the new regulation by all means represents an important signal for global compliance with human rights and environmental requirements. With a view to achieving a Level-Playing-Field, the EU-directive, which is expected soon and, in contrast to the German draft, will still contain civil liability and import bans, remains to be seen.