The new Duties of Care Act (GERMAN SUPPLY CHAIN ACT)

An overview of the current status of legislation and future tasks of affected companies

 

The Federal Ministry for Economic Cooperation and Development (Bundesministerium für wirtschaftliche Zusammenarbeit und Entwicklung – BMZ) and the Federal Ministry of Labour and Social Affairs (Bundesministerium für Arbeit und Soziales – BMAS) were able to agree, after months of dispute with the Federal Ministry for Economic Affairs and Energy (Bundesministerium für Wirtschaft und Energie – BMWi), on a draft of a supply chain act which provides for the establishment of duty of care obligations with regard to internationally recognised human rights. The compromise falls well short of the original draft Duty of Care Act, which stipulated that German companies would be liable for infringements. The draft bill is expected to be submitted to the Cabinet for a decision in mid-March 2021.The final law is intended to be voted on by the Bundestag in the current legislative term.

Objectives

The aim of the Supply Chain Act is to allow companies to be held responsible for human rights violations within their supply chain. The act is based on the UN Guiding Principles on Business and Human Rights (UNGPs), the aim of which is to implement human rights protection worldwide in the form of National Action Plans (NAPs). While the German NAP initially relied on the implementation of the requirements by companies on a voluntary basis, such self-regulation by businesses is considered to have failed (after a two-stage monitoring process). Both the NAP and the 2018 coalition agreement provided for the introduction of legal provisions in this case. In addition, the European Parliament’s Legal Committee has now voted in favour of a European Supply Chain Act. After a long dispute over the exact regulatory content of a Supply Chain Act, the Federal Government has now taken action ahead of an obligation imposed by the EU.

Companies affected

In the first instance, only partnerships and corporations under German and foreign law which are domiciled in Germany and employ more than 3,000 employees throughout their entire group are affected. From 2024 onwards, the Supply Chain Act is also set to apply to smaller companies with more than 1,000 employees. However, as early as 2014, the European legislator adopted the Directive on the extension of reporting by large capital market-oriented companies, credit institutions, financial services institutions and insurance companies (CSR Directive), which was transposed by Germany in sections 289, 289c, 315b and 315c of the Commercial Code (Handelsgesetzbuch – HGB) and provides for an obligation for capital companies with more than 500 employees to draw up a “non-financial” declaration on measures relating to environmental protection, employee protection, social initiatives and respect for human rights. It remains to be seen whether this employee limit will be brought into line with the provisions of the new Supply Chain Act.

What needs to be taken into account by German companies in the future?

The main element of the new Supply Chain Act is the establishment of duty of care obligations for companies in relation to human rights. To date, German law only required companies to report on measures taken to comply with human rights in the supply chain. Under the new Supply Chain Act, further due diligence obligations are now in place:

1. Obligation to carry out risk analysis

As a first step, companies need to identify and assess their risks within their supply chain in order to be able to take action on this basis. The relevant risk areas identified by law are, above all, forced labour, child labour, discrimination, violation of the freedom of association, problematic hiring and working conditions and environmental damage. Following the agreement within the government, companies are now meant to ensure that human rights violations do not occur in their own business and in their immediate suppliers, while indirect suppliers in the chain all the way down to the supplier of raw materials only have to be checked in a less thorough manner. In the case of indirect suppliers, companies must carry out a risk analysis only if complaints from employees of an indirect supplier reach the German company.

2. Obligation to take follow-up measures: Termination of business relationship as a last resort

As a consequence of the risk analysis, businesses need to take measures to prevent, minimise and remedy identified negative impacts. The principle of “enabling before withdrawing” applies. This means that companies should first be encouraged to seek solutions together with the supplier or within the industry concerned. Breaking off business relations should only be a last resort to deal with human rights violations committed by subsidiaries or suppliers.

3. Reporting obligation

Companies concerned will also be required to report publicly on an annual basis on the actual and potential negative impact of their business activities on human rights.

4. Duty to make every effort and principle of reasonableness

Both the obligation to carry out a risk analysis and the obligation to take follow-up measures is not intended to be an obligation to achieve success, but an obligation to make every effort. This means that companies are not obliged to prevent, in all circumstances, all human rights violations in their own business and those of their immediate supplier. Rather, the required risk management is based on the principle of proportionality. The measures that are appropriate and reasonable with regard to the individual undertaking are determined, in particular, by the nature of the business, the likelihood of risks arising and the severity of any possible damage. The actual possibility for an undertaking to intervene in a supply chain is also relevant.

No plan to make companies liable for damages (under German law)

According to the present and also future situation, businesses are not liable under German law for foreign violations by other companies in the global supply chain. The new rules still do not provide for any liability regime.

It is true that it is already possible today for third-party victims to enforce their rights before German courts. Under Article 4 I of the Rome II Regulation, courts must primarily apply the law of the state in which the event giving rise to the damage occurred. It is only in very limited exceptional cases that Article 4 III of the Rome II Regulation allows the application of a law other than the law of the place where the damage occurred if the act is manifestly more closely connected with another state. However, the provision must be interpreted narrowly and will not be relevant in most of the situations under consideration.

In practice, this possibility has been rarely used by third-party victims, as it mostly failed due to the victims’ living situation in their country. Therefore, under the Supply Chain Act, non-governmental organisations and trade unions are to be able to represent private injured parties before German courts by way of representative action if there are breaches of standards in the supply chain.

On the other hand, it is still not possible to claim against German companies for damage caused by a supplier or a subsidiary under German tort law. Under section 823 I, only the person who actually committed the infringement is liable. Tortious liability for fault of another party is only exceptionally possible under section 831 of the German Civil Code (Bürgerliches Gesetzbuch – BGB) if the company’s vicarious agent has caused the damage. However, within a supply chain, the supplier or a subsidiary will not normally be regarded as a vicarious agent of the commissioning company.

Checks, fines and public procurement penalties

In future, the Federal Office for Economic Affairs and Export Control (Bundesamt für Wirtschaft und Ausfuhrkontrolle) is to monitor compliance with the duties of care and carry out on-site checks at companies. In addition, complaints can be reported directly by affected parties.

In the event of non-compliance with the due diligence obligations, the Supply Chain Act provides for sanctions in the form of penalties and fines. The amount is to be up to ten per cent of a company’s turnover. In addition, companies that have already been subject to a high fine may be excluded from bidding for public contracts for up to three years.

Impact on supplier management and contract drafting

In response to a future Supply Chain Law, a company’s compliance organisation should be expanded to include sustainability and human-rights aspects in the supply chain. The first step is the risk analysis to assess the risk of possible human rights violations (based on country-specific and industry-specific factors). Both the UN Guiding Principles on Business and Human Rights and the National Action Plan provide guidance on the implementation of such compliance management systems.

If a company identifies risks within a supply chain, it must take preventive measures, for example through appropriate agreements with suppliers, which also impose duty of care obligations on the supplier to respect human rights, workers’ concerns and environmental standards. Screening existing and future suppliers regarding their ability to comply with duty of care obligations also makes sense. Supplier agreements may also refer to a “code of conduct” in which the company gives a binding description of its expectations of cooperation with the supplier. Contractual sanctions may include termination rights, rights of indemnity and claims for damages. In addition, the supplier may be required to ensure that compliance standards are also met in the downstream supply chain.

Appropriate auditing rights and proof of training carried out by the supplier are also required. Periodic spot checks of the relevant requirements also form part of a company’s supplier management processes.