Human rights compliance at the centre of German Supply Chain Act

The German Federal Cabinet in early March 2021 adopted a draft Bill which, if enacted, would establish a new Supply Chain Act in Germany. The draft Act is also being referred to in some quarters as the Law on Business Due Diligence in Supply Chains, or Due Diligence Act. It is intended to oblige German companies to ensure that their suppliers from abroad comply with environmental and social standards. It is due to be adopted by the German parliament by no later than September 2021 and then expected to enter into force at the beginning of 2023.

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

The Act will apply to entities with headquarters, main branches, place of management or legal seat in Germany that are exceeding these headcount thresholds. This will, however, also include international groups that are headquartered elsewhere, as long as their presence in Germany exceeds these thresholds. "Although this is not entirely clear yet, group employees not located in Germany but abroad very likely do count for the assessment whether the Act applies to a German based parent company," Dr. Grunert said.

Plans to extend the scope of the Bill further to also cover companies with 500 employees or more were abandoned.

"Nevertheless, in the medium term, the new Bill will affect SMEs, which are part of the supply chain of companies already in the scope of the draft Bill. Large companies are required to ensure that their suppliers comply with the requirements and to do so on a regular basis," Dr. Grunert said. "The Due Diligence Act requires companies to increase transparency requirements and compliance measures with regard to their supply chain. 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 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 proposed new law is intended to 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' 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 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 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.

Under the draft Bill, companies would not face being held liable under civil law for human rights violations along their supply chain. Instead, companies could face fines for failure to comply with their due diligence obligations. The draft provides for fines of up to €800,000, while companies with an average worldwide annual turnover of more than €400 million could face fines of up to 2% of this turnover.

If a potential fine exceeds €175,000 euros, companies could also be barred from winning public contracts in Germany for a period of up to three years. The draft also provides a potential future right for foreign nationals, who consider their human rights have been violated, to be represented by trade unions and non-governmental organisations in order to assert their rights before the German courts.

"This fact is particularly explosive and increases the risk of liability, also considering that companies will be required to have set up an internal complaint procedure and that the maximum fine for violations should be based on the respective turnover of the company," 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 complaint procedures or whistleblowing systems, this is likely to result in a high number of proceedings and a significant risk for companies," he said.

The draft Bill is based on the national action plan for economic and human rights (NAP). It was approved by the Federal Cabinet in 2016. Within four years, it should ensure that German companies increase their efforts to prevent human rights violations along their supply chains.

For the purposes of assessing whether the NAP is actually implemented, two quantitative surveys were carried out on behalf of the Foreign Office. The main objective of the surveys was to determine whether and to what extent at least half of all companies in Germany with more than 500 employees have adequately integrated core elements of human rights due diligence into their respective business processes. However, both a first and second interim report from July 2019 and February 2020 respectively showed that the majority of the companies surveyed had not implemented the NAP satisfactorily by then from the perspective of the federal government.