Third Time's a Charm: EU Moves to Approve the Sustainability Due Diligence Directive

Following two failed attempts to win approval since the announcement of a "political agreement" on December 14, 2023, the CS3D was finally approved by the Council of the EU on March 15, 2024. The European Parliament must now approve the agreed text, which is considered a formality.  

The CS3D is an important part of the EU's Green Deal legislative package that will layer on top of, among other ESG-related rules, the Corporate Sustainability Reporting Directive, the Deforestation Regulation, and the planned regulation prohibiting products made with forced labor.  

The Council of the EU adopted a revised text seeking to incorporate sometimes competing changes requested by a number of EU Member States. As reported, key aspects of the compromise text include: 

• Scope of Covered Companies: Non-EU companies—including the ultimate non-EU parent company of a group of companies—must comply with CS3D if they "generate" more than €450 million of net turnover in the EU in each of the last two consecutive financial years. EU companies will be required to comply if they meet these same thresholds and also have more than 1,000 full-time equivalent employees on average. 
• Phase-In Periods: Companies must comply with the CS3D on a phased-in basis depending on their size (i.e., number of employees and net worldwide turnover), from between three and five years of the entry into force of the CS3D, meaning that the earliest compliance date will be in 2027. EU Member States will need to transpose the CS3D into national law.
• Substantive Requirements: Companies must comply with a number of onerous prescriptive requirements, including performing due diligence over upstream and downstream business partners, monitoring and assessing actual and potential adverse impacts of their and their value chain's activities, and putting in place governance structures such as a stakeholder engagement processes, a complaints procedure open to third parties, and a transition plan for climate change mitigation.
• Liability: EU Member States will be required to allow third-party claims against covered companies for noncompliance with key provisions of the CS3D. Liability requires intentional or negligent failures that caused damages to a legally protected interest under the EU Member State's national law. The CS3D contains limitations for damages caused solely by business partners. 
• Regulatory Actions and Penalties: EU Member States will be required to empower a regulatory authority to enforce the CS3D, which must be able to issue orders to comply and impose fines of up to 5% of the company's net worldwide turnover.
• Applicability to the Financial Sector: Outside limited exceptions and accommodations, financial institutions including banks will be required to comply with the CS3D.  

The CS3D will have far-reaching consequences on covered companies and—because the due diligence and governance obligations will have an extensive knock-on effect on contractual relationships with third parties—non-covered companies alike. All companies doing business in the EU will need to understand whether the CS3D applies to them, what information they will be required to produce, and what processes and procedures should be adjusted or put in place to comply with the CS3D, as appropriate.