Germany obliges companies to monitor human rights in their supply chain

The German parliament has passed the controversial Supply Chain Act, now renamed the Supply Chain Due Diligence Act. It obliges large German companies, and also foreign companies with registered branches in Germany, to ensure that their suppliers from abroad comply with environmental and social standards. It will come into force at the beginning of 2023.

"The Act will require companies with more than 3,000 employees in the group that are home-based in Germany, including temporary ex-pats working abroad, for the very first time to take decisive compliance measures to combat human rights violations along supply chains," said Dr. Eike W. Grunert, expert in designing and implementing corporate compliance systems at Pinsent Masons, the law firm behind Out-Law. "From 2024 onwards, it will apply to companies with 1,000 employees or more."

A number of last-minute amendments were made before the Act was passed. the Act will now not only apply to all entities with headquarters, main branches, or effective place of management within Germany, but also to all branches of foreign entities registered in the German commercial register.

"Although the new rules will apply only to large businesses, in the medium term, the new Act will affect SMEs, which are part of the supply chain of companies in the scope of the Act,” Dr. Grunert said. “Large companies are required to monitor whether their suppliers comply with the requirements and to do so on a regular basis," Dr. Grunert said. "The Supply Chain Due Diligence Act requires companies to increase transparency requirements and specific compliance measures with regard to their supply chain on a regular basis. In many companies, this will go far beyond the current standards of supply chain management."

Hinesh Shah, who specialises in forensic intelligence at Pinsent Masons, said: "The Supply Chain Due Diligence Act highlights how the scope of supplier due diligence is evolving as increasing focus is placed on social and environmental issues by international governments. Suppliers will need to demonstrate they are able to meet the requirements set out in the legislation or else face their business relationships being terminated."

The new Act will oblige companies to identify and assess risks within their supply chain in terms of forced labour, child labour, discrimination, violations of the freedom of association, problematic employment and working conditions as well as environmental degradation. On the basis of such analysis, measures are required to be taken to prevent or minimise the risk of human rights violations in these areas.

However, the requirements only apply in a company's own field of business and to their immediate suppliers. Indirect suppliers are also legally defined as part of the supply chain, but only become the subject of the extensive catalogue of obligations under the proposed new law if the company at the head of the supply chain and in-scope of the law becomes aware of potential breaches. The implementation of an internal reporting procedure, as required by the Supply Chain Due Diligence Act, must therefore also enable employees of indirect suppliers to file a complaint.

In addition, companies are also required to publish an annual report with respect to the actual and potentially negative consequences of their business activities in relation to human rights.

The German Federal Office for Economic Affairs and Export Control is to be responsible for monitoring whether the companies in the ambit of the law are complying with the new regulations. It will be possible for affected individuals to report a complaint about a potential violation of the law directly to this authority.

Companies with an average worldwide annual turnover of more than €400 million could face fines of up to 2% of this turnover for a failure to comply with their due diligence requirements.

Companies could also be barred from winning public contracts in Germany for a period of up to three years. Foreign nationals who consider their human rights have been violated could also get new rights to bring their cases before the German courts, under the representation of trade unions or non-governmental organisations.

"The combination of high corporate fines, representative action by trade unions or NGOs and complaints procedures is particularly explosive and increases the risk of liability," said Dr. Jochen Pörtge, expert in white collar criminal law and corporate defence at Pinsent Masons.

"Thus – similar to the GDPR – there is a risk of particularly high fines for companies in case of infringements. Combined with complaints procedures or whistleblowing systems, this is likely to result in a high number of proceedings and a significant risk for companies," he said.