Corporate Sustainability Due Diligence Directive: A New Check?

As businesses continue to evolve, new legislation keeps coming to keep up the transparency in the financial, operational, and structural domains of organizations. In fact, the regulatory bodies are now also concerned about the environmental and physical aspects of companies while also keeping track of financial and business operations. Considering that the European Union recently issued legislation named the Corporate Sustainability Due Diligence Directive that aims to obligate larger companies to always focus on human rights during their organizational operations. 

Read this extensive article to learn what CSDDD is and how it can impact your business regarding compliance checks.

What is the Corporate Sustainability Due Diligence Directive?

The Council of EU passed the long-anticipated CSDDD on May 2024, introducing a certain obligation over the corporate and business sector to ensure the fulfilment of human rights while staying compliant with Environmental Due Diligence procedures. The Directive, which is a recent and undoubtedly crucial new law to be implemented, will standardize current requirements across the EU and is expected to set a standard for other nations wishing to enact legislation along similar lines. It requires companies to conduct thorough due diligence to identify, prevent, and mitigate adverse impacts related to human rights and the environment.

Furthermore, the legislation requires companies to do due diligence on their corporate operations as well as the affairs of their affiliates and other companies in their supply chains that they have formed in direct and indirect ways commercial links with. In order to comply with the strategies, they would have to create and carry out “prevention action plans,” get contractual guarantees from their direct collaborators, and then confirm compliance.

Background of EU CSDDD

The Directive was originally put out by the European Commission in the year 2022, and in the latter part of 2023, the EU Council and  Parliament temporarily agreed to it. Following discussions among the three EU legislating organizations resulted in further accommodations to address personal EU Member States’ issues. As a result, on the 15th of March 2024, the Council acknowledged a “final compromise text,” which was subsequently endorsed by the European Parliament’s session in April 2024.

“Large companies must take their responsibilities in the transition towards a greener economy and more social justice. The Corporate Sustainability Due Diligence directive will give us the possibility to sanction those actors that violate their obligations. It is a concrete and significant step towards a better place to live for everyone.”

• Pierre-Yves Dermagne, Belgian Deputy Prime Minister and Minister of the Economy and Employment 

Elements of Corporate Sustainability Due Diligence Directive

The following are the key elements of the EU CSDDD that require businesses to ensure corporate due diligence:

• Application of CSDDD

As per the legislation issued by the European Union Council, the Corporate Sustainability Due Diligence Directive is applicable to both the EU and non-EU companies. However, there are primarily two types of companies that fall under the bracket of this CSDDD:

1. Organizations with more than 1000 employees with an annual global turnover exceeding €450 million (as well as parent organizations of such business entities)
2. Companies with a licensing agreement or an EU franchise are eligible for annual royalties exceeding €22.5 million. Moreover, organizations with an annual net turnover of more than €80 million (or leading parent institutions of such corporate groups).

• Due Diligence Obligations

The Corporate Sustainability Due Diligence Directive requires companies in scope to ensure risk-based basic human rights and due diligence to determine and evaluate existing and possible adverse consequences. 

Reflecting the earlier suggestions from the Commission, Council, and Parliament, the final text of the Directive obligates businesses to adopt due diligence policies and “relevant measures” to detect and assess both actual and potential impacts. Following this, they must stem potential effects and address actual impacts, which involves making and implementing action plans, offering a settlement, gaining contractual assurances from business associates, and providing targeted and proportional help for small to medium-sized enterprises (SMEs).

• Stakeholder Engagements

The Corporate Sustainability Due Diligence Directive requires businesses to engage purposefully with other stakeholders while establishing and maintaining a complete notification mechanism to stay compliant. In addition, the regulation also obligates companies to monitor the efficacy of the steps taken frequently and communicate their effective due diligence procedures.

• Finance Sector

Article 26 of the Directive covers only the initial phase of authorized financial actions and does not include the downstream activities of corporate partners, whether they are related to goods or services. While the downstream aspect of financial initiatives seems to be excluded from the CSDDD’s due diligence requirements, Recital 51 highlights that financial undertakings are expected to consider certain measures to address adverse impacts. These measures, including the use of leverage to influence clients, are outlined in the OECD Guidelines for Multinational Enterprises and related financial sector guidance.

In addition, Article 36 obligates the EU Commission to deliver a report to the Parliament and Council within two years of the Directive’s activation. This further emphasizes the evaluation of the need for supplementary due diligence obligations that are specific to regulated financial organizations and financial services.

• Regulatory Enforcement

The Corporate Sustainability Due Diligence Directive requires the Member States of the European Union to establish regulatory authorities to oversee compliance with recent legislation. Authorities will hold the power to demand details from businesses and conduct further investigations if needed. However, in case of non-compliance, regulatory or supervisory authorities will be authorized to call the company to discontinue infringements and charge penalties, for instance, maximum charges equal to at least 5% of the firm’s yearly net global revenue. 

When serious and irreversible damage is at hand, the governing body can also take emergency action. The company’s corrective processes and corporate due diligence must be considered when determining whether to apply fines. These include the company’s investments, targeted assistance for SMEs, coordination with other organizations, and prioritization of severe and expected detrimental effects.

Know Your Business to Stay Compliant with CSDDD

EU’s Corporate Sustainability Due Diligence Directive further emphasizes companies adopt Know Your Business Solutions to carry out due diligence on company operations and structures for the sake of sustainability. This aligns with the principles of business verification, focusing on comprehending the business connections and hazards associated with partners.

• Corporate Due Diligence

The CSDDD makes it mandatory for companies to identify and reduce potential impacts on human rights and the environment throughout their value chains. Hence, this criterion calls for corporate due diligence procedures to have a thorough knowledge of commercial ties to confirm the legality and risk profiles of business partners.

• Accountability & Governance

As per the EU’s Corporate Sustainability Due Diligence Directive, directors must be held accountable for compliance with due diligence obligations, similar to how Know Your Business frameworks often require senior management to oversee compliance and risk management strategies. This accountability can enhance corporate governance and risk assessment practices.

• Integration with Existing Practices

This new EU directive encourages organizations to improve their current practices in order to align with sustainability goals, making it an essential component of Know Your Business checks when it comes to ensuring the adherence of business partners to ethical and sustainable practices.

How The KYB Can Help

While knowing the whereabouts and legitimacy of any business is already a crucial component of Know Your Business, the Corporate Sustainability Due Diligence Directive is another important element of the process. As discussed above, corporate due diligence is not only confined to verifying the legal conduct of businesses before initiating any sort of partnership. In fact, another essential step of a compliance check is to make sure that a business operating in the EU or dealing with EU counterparties fulfils basic human rights and practically executes action plans.

Contact us today and discover how The KYB helps you stay compliant with all the relevant regulations and verify businesses across 250+ jurisdictions.