— by DDr. Adolf Peter (Of Counsel)

In light of the EU Directive on the Disclosure of Non-Financial and Diversity Information, the Austrian Sustainability and Diversity Improvement Act (Nachhaltigkeits- und Diversitätsverbesserungsgesetz), the German Supply Chain Due Diligence Act (Gesetz über die unternehmerischen Sorgfaltspflichten zur Vermeidung von Menschenrechtsverletzungen in Lieferketten) and upcoming EU legislation, in particular

(i) the Corporate Sustainability Due Diligence Directive (on 23 February 2022, the European Commission adopted the Proposal for a Directive of the European Parliament and of the Council on Corporate Sustainability Due Diligence and amending Directive (EU) 2019/1937),

(ii) the Corporate Sustainability Reporting Directive (on 21 April 2021, the European Commission adopted the Proposal for a Directive of the European Parliament and of the Council amending Directive 2013/34/EU, Directive 2004/109/EC, Directive 2006/43/EC and Regulation (EU) No 537/2014, as regards corporate sustainability reporting), and

(iii) possible EU sustainability assurance standards,

one of the major topics for companies involved in international supply/value chains will be the development of due diligence strategies and the reporting and assessment of ESG-related standards comprising the entire supply/value chain.

The challenge for supply chain leading companies will be to

(i) identify the material ESG topics and risks having a positive or negative impact on the companies’ financial performance,

(ii) draft supply chain-related codes of conduct, including verifiable and quantified targets concerning climate change, the environment and human rights,

(iii) introduce ESG-related variable remuneration components for managing and supervisory board members being triggered by the fulfillment of ESG-related targets,

(iv) make the material ESG standards contractually binding throughout the supply/value chain, including a contractual escalation mechanism which should make it possible to eventually remove the violating supply chain member from the supply/value chain (contractual termination regime) in the event of ongoing violations of material ESG standards,

(v) organize and develop the ESG standards-related due diligence process, ideally including

  • regular unannounced on-site visits,
  • installing an ESG committee,
  • setting up a whistleblower mechanism granting access to employees of lower-tier supply chain members, too,
  • the ESG-related assessment of lower-tier supply chain members by independent third parties, such as auditing companies, and
  • the financing strategy of such supply chain-related ESG audits,

(vi) disclose annual ESG reports, including verifiable and quantified ESG targets (such as carbon emission reductions) relating to the entire supply/value chain,

(vii) have the supply chain-related ESG reports independently assessed (ideally by means of a reasonable instead of just a limited assurance), in order to prevent greenwashing, potential damage claims/loss of customers and/or business and criminal offences.

(viii) pass on the relevant ESG-related obligations and dispute resolution clauses (ideally arbitration clauses taking into account enforcements in different countries and possible consolidations of two or more pending arbitrations or joinders of third parties) by back-to-back provisions contained in all contracts of a supply chain in order to be able to claim damages (e.g. based on a severe loss of reputation causing the loss of customers and the termination of significant business relations) in connection with material breaches of environmental provisions (e.g. carbon emissions-related violations) or human rights-related standards (e.g. child labor) contained in the supply chain-related code of conduct.

Based on the due diligence obligation along the entire supply chain, it should be stressed that the upcoming ESG-related legislation in the EU will also have a major impact on companies seated outside of the EU (e.g. in China) if they are part of a supply/value chain which includes a supply chain member that is bound by the respective EU legislation.