What the new EU Law on Supply Chain Sustainability will mean for the SME Sector?

What’s happening?

In February 2022, the European Commission adopted a proposal for a Directive on corporate sustainability due diligence (CSDDD). It is hoped that by adopting this directive, the EU will become a world leader in enhancing the protection of the environment and human rights, by requiring businesses to monitor their supply chains for the risk of adverse impacts on these areas. In December of 2022, the European Council, representing the member states, published their negotiating position and have made notable revisions to the original Commission proposal, in response to concerns raised by business groups. The European Parliament is yet to formally adopt a position, and this may alter the terms of the Directive further. It is hoped that a position can be agreed by May 2023.

Who will it affect?

This is slightly more complicated than it first seems to answer. While the official remit of the Directive will target large companies employing over 500 people, with net worldwide turnover of more than €150 million, there are secondary categories which require a lower threshold; and now the Council’s revisions have altered the implementation process further by agreeing to a ‘phased-in’ approach. The CSDDD is expected to be formally adopted in early 2024, with individual member states having two years to transpose this into their own domestic law. The policy will affect the following groups at the following times:

1. “Very large companies”, meaning EU incorporated companies with more than 1000 employees and more than €300 million net worldwide turnover, and non-EU companies with more than €300 million EU net turnover, will be required to report to the standards outlined within the Directive, within three years from its implementation.
2. “Group 1 companies”; EU incorporated limited liability companies, including regulated financial undertakings, with more than 500 employees and €150 million or more in net turnover worldwide, and non-EU companies with net EU turnover of more than €150 million, will have four years to meet the standards of the law.
3. “Group 2 companies”; EU incorporated limited liability companies operating in “high impact sectors” *, with over 250 employees and global net turnover of €40 million where 50% of net turnover was generated in “high-impact sectors”; non-EU Companies with net EU turnover of €40 million, with no employee threshold; these firms will have five years to comply with the directive.

*High Impact sectors include Agri-food, production, manufacture, and wholesale trade thereof; manufacture of textiles and wholesale trade thereof; extraction of mineral resources, manufacture of metal products and wholesale trade of mineral resources and related products.

4. Of important note for SME’s is the change of the term ‘Value Chain’ to ‘Chain of activities’, for the scope that business need to report on the impact of. SMEs were always going to be indirectly targeted by the Directive, as larger companies would hold their suppliers to the same due diligence obligations being imposed on them. That has not changed, but the scope of SME’s affected has. ‘Chain of Activities’ includes upstream business partners related to the production of goods or provision of services, and downstream business partners involved in the distribution, transport, storage, and disposal of the product; however, it now excludes downstream business partners involved in the production of goods or provision of services. This has reduced the number of SMEs that will be impacted by the Directive.

What happens next?

Adhering to the new standards of the Directive, will be a timely, cumbersome, and expensive process. But the competitive advantages for SMEs in acting quickly to prepare themselves to meet the standards outlined in the Directive, will provide considerable benefits in growing their businesses as well as future proofing them. The Directive will also allow for the costs of complying with the new rules to be subsidised through state aid. Businesses must take the time now to keep themselves informed about the legal developments as the EU finalises its position and begin planning how they can meet the standards which have been outlined in detail by the European Commission and Council.

It is critical that SMEs engage fully with this process, and that both the European Union and national governments engage with business of all sizes to ensure that the Directive fulfils its intended purpose, while also being workable for the companies affected by it. This will allow the EU to achieve its aim of making the bloc a world leader in upholding human rights, promoting sustainability, while facilitating free trade.