When it comes to sustainable ESG, the past decade has felt like a massive re-enactment of the well-known Spiderman pointing meme: three supposed superheroes pointing at each other as the villain. The three supposed superheroes being large enterprises with their investors, consumers, and the political branch of government. Each points to the other to argue that their behaviour should change first, resulting in what appears to some as a triple stalemate. Of course, many actors have taken significant steps over the past years, but it is clear that this deep transition requires effective calibration of all these efforts to enable a true transformation.
A triple stalemate is hard to accept in the face of widespread adverse environmental and societal impacts. This presumably has led the European Commission and an increasing number of courts to direct their efforts towards (large) enterprises by re-allocating their legal and financial responsibility. With the proposed CSDD, the Commission aims to impose far-reaching due diligence obligations on enterprises in their value chain. Although we applaud its aim, the proposed CSDD risks not being as effective as intended for several reasons. Here, we discuss two of these. First, the CSDD takes a big leap by allocating legal responsibility far beyond direct control or direct benefit. By doing so, but then being unclear about the precise action required, it does not achieve one of its core aims, namely legal certainty. Second, and in the same vein, it bears the risk of incentivising behaviour counterproductive to its aim.
Filling a gap, by going beyond traditional limits of liability for another person’s impact
Transforming enterprises’ concern over adverse impacts throughout their value chain into a legal responsibility is a fundamental step. It warrants conceptual analysis.
In general, an enterprise itself is not necessarily considered to be at fault if adverse events happen because of activities of the persons it directly or indirectly trades with. It is, quite simply, another person’s fault that is at issue.
Making persons legally liable for something that is not their own fault is, however, not unheard of. But it is traditionally reserved for specific, enumerated circumstances. Sometimes, it is justified by direct responsibility or direct control, from an ‘optimal risk bearer’ perspective. Parents are liable for losses caused by their underaged kids, homeowners are liable for losses arising out of deterioration of their property, and so on. Sometimes, it is justified by the notion that the party held liable for another’s actions is actually reaping the benefits of the work that this other person is doing. But the nexus between that benefit and the person liable is then typically direct: for example, employers reap the benefits of the work of their employees and, accordingly, are vicariously liable for faults their employees commit. In short: risk liability or vicarious liability do not arise from the own fault of the person held liable, but rather is a matter of economic attribution of risk.
In other cases, responsibilities are construed such that an own fault by the person held liable exists, even though that person was not directly causing the damage at issue. Sometimes, the government is held liable for failing to secure that rules are made and enforced to guide private actions. Duties of care are also sometimes imposed to private enterprises, such as banks, where a standard of reasonable care requires that they act to avoid a situation that would otherwise foreseeably harm others. The working of such duties of care is typically limited to specific statutory obligations, or a judicial case-by-case assessment. Either way, a certain behavioural standard must be found first, before one can even start assessing whether a given behaviour breaches it.
Apparently, the European Commission has concluded that these classical doctrines based on general standards insufficiently deter behaviour having adverse environmental and human rights impacts. Accordingly, the proposed CSDD introduces a broad legal obligation of the enterprise itself to act against adverse impacts caused by persons several steps away from it in the value chain. This could be understood on the basis that companies can benefit from the adverse behaviour of these persons.
But to be clear, where the CSDD extends this obligation beyond the enterprise’s own activities (and those of its subsidiaries) to any impacts arising from their established business relationships, it actually creates a pathway to holding enterprises liable for damage that was directly caused by another person and for which that other person can be held directly liable. In doing so, the CSDD goes beyond behavioural and economic notions on which legislation is generally built. It establishes far-reaching obligations, covering an array of adverse environmental and human rights impacts. It shapes obligations arising from the entire value chain, broadening the scope well beyond direct control or direct benefit from the actions of the relevant enterprises in the value chain. The notion of an ‘established business relationship’—which is criticized by several national governments and NGOs either for being too limited or for deviating from similar, existing soft law instruments—does little to limit that broad scope, both because indirect established business relationships are also in scope, and because the notion of an established business relationship is rather vague and open-ended. And where the CSDD establishes legal responsibility, the obligations arising from it are phrased rather vaguely, as they require the relevant person to take ‘appropriate measures’.
This begs the question of whether the proposed CSDD strikes the right balance between two of its aims: creating legal certainty for enterprises on the one hand, and effectively moving business to greater sustainability on the other. As follows from the above, legal certainty is hardly achieved. That might be acceptable if that meant that the proposed CSDD is effective in moving business toward sustainability. We doubt it does so in its currently proposed form, and we now turn to its potential counterproductive effects which make it doubtful whether its purpose is achieved.
The behaviour triggered by the proposed CSDD risks being counterproductive to its aim
These potentially counterproductive effects are largely behavioural in nature.
First, the proposed CSDD may lead to disengagement and asset partitioning. When suppliers or subsidiaries misbehave, it is not a given that the entities ultimately responsible for their actions under the CSDD will engage and improve these suppliers’ or subsidiaries’ conducts. Instead, companies may elect to find other suppliers or sell their subsidiaries. The notion of ‘established business relationships’ compounds that issue, by potentially encouraging enterprises to either limit their suppliers to an all too select group, or to disperse relations to such an extent that they are not ‘established’. True engagement, hence, may simply lead to bearing too much risk. This may also cause a decline in investments from the European Union in developing countries as companies in scope may divert their upstream and downstream activities away from countries in which the (perceived) risk of adverse impacts is higher. As a result, developing countries may have more difficulties to pursue economic growth and improved living standards.
Second, the proposed CSDD allocates the financial burden only on enterprises in scope. It is unclear which company should bear the financial consequences when two or more market players in the same value chain are all in scope of the CSDD. Additionally, allocating financial responsibility for such measures solely to in-scope companies will make them solely accountable for determining which actions qualify as ‘appropriate’ and ‘sufficient’, and for financing these measures, including ‘necessary investments’ (Article 7(2)(c) of the proposed CSDD) or ‘payment of damages’ (Article 8(3)(a) of the proposed CSDD). Other than passing the costs directly on consumers (with the risk of increased social inequality looming), there is no obvious mechanism through which the financial and operational burden of these obligations can be shared within the value chain, certainly not the exposure that these obligations create for companies.
Third, the proposed CSDD has certain anti-competitive effects. The costs of compliance with the proposed CSDD may distort competition. Out-of-scope companies with only limited operations in the European market could be at a significant advantage in non-EU markets. Unsustainable behaviour may continue, but in parallel value chains in which larger European companies will not want to participate may multiply. As the CSDD is intended to be enforced by national authorities, there is an added risk of uneven implementation across jurisdictions. This can be detrimental to the legal certainty the CSDD aims for, and may further lead to a ‘race to the bottom’ and accompanying market behaviour.
The European Commission should consider how to anticipate behavioural effects of the legal fiction created by the CSDD. This can be done either in the CSDD or by other means such as appropriate antitrust policies or taxation measures in effect aiming at redistributing the financial burden of in-scope enterprises. This will prevent the CSDD from becoming a legislative version of an ongoing Spiderman-style finger-pointing or even from causing new stalemates along the way. The proposed CSDD can, after all, be an effective tool in helping the three Spidermen achieve societal good together.
Davine Roessingh is a Partner at De Brauw Blackstone Westbroek NV and co-head of its ESG practice, and a Lecturer in Arbitration Law at VU Amsterdam.
Dennis Horeman is a Partner at De Brauw Blackstone Westbroek NV and together with Davine Roessingh co-heads the firm's ESG practice.
This post is published as part of the OBLB series on ‘The Corporate Sustainability Due Diligence Directive Proposal’.