Introduction
Supply Chain Act provisions
Affected companies
Obligations for companies
Immediate actions for companies following enforcement of Supply Chain Act
Consequences of non-compliance
Comment
On 22 July 2021, the new law regarding the obligation of companies to monitor their supply chains (the Supply Chain Act) was published in the Federal Gazette, which marks the end of the legislative process. The purpose of the new law, which is due to enter into force on 1 January 2023, will ensure that internationally accepted human rights standards and certain environmental standards are observed. Initially, the new law will apply to companies or groups of companies that normally have more than 3,000 employees. Companies will be required to perform risk assessments in their supply chains and make reasonable efforts to avoid, mitigate or eliminate violations. There will be administrative fines and the risk of temporary exclusion from public tender processes in case of non-compliance.
The Supply Chain Act not only aims to increase the protection of life and health but also names just and favourable working conditions and a reasonable standard of living as protected legal positions. Child labour, slavery and forced labour, violations of the freedom of association, torture and inhumane treatment are specifically named as risk areas. The Supply Chain Act further emphasises obligations relating to the protection against negative consequences of mercury emission and persistent organic contaminants. The act is directed at the business activities of both individual companies and their suppliers.
According to the current draft, the Supply Chain Act would apply to companies with headquarters or a corporate seat in Germany that regularly employ more than 3,000 people. Employees of group companies are also considered to be employees of the group parent entity for the purposes of the Supply Chain Act. Leased employees shall be taken into account as well, if they work for a company for more than six months. From 2024, the employee threshold is expected to be lowered to 1,000. Small and midsize businesses will not be affected.
Companies that fall within the scope of the Supply Chain Act have to evaluate their own business activities, regardless of whether these are performed in or outside of Germany, as well as the business activities of their direct suppliers with respect to violations of the aforementioned human rights and environmental standards. Sub-suppliers shall be deemed direct suppliers whenever there is evidence that supply chain abuse or circumvention has been undertaken to reduce the standard of due diligence requirements for direct suppliers. Apart from that, sub-suppliers as well as suppliers of raw materials must be evaluated whenever a company receives complaints from employees of any such sub-supplier, or can easily obtain information regarding actual or threatening violations.
If violations or risks of violations are detected, companies are obliged to take measures intended to prevent, mitigate or eliminate negative consequences. The expectation of the Supply Chain Act is that companies try to find solutions together with their supplier or other companies of the same industry. A discontinuation of the contractual relationship with the supplier shall be the last resort, and only if violations of human rights or relevant environmental standards cannot be otherwise resolved.
In principle, companies are not measured by the success of their actions but are required to make reasonable efforts. The exact type of measures and their intensity depend on various factors:
- the type and scope of business activities;
- the influence a company can exert on the violator of a protected legal position or environmental obligation;
- the severity of injury typically to be expected, the reversibility of the violation, the likelihood that a violation of a protected legal position or an environmental obligation materialises; and
- the degree by which actions or omissions have contributed to the risk.
If risks or violations are identified in a company's own business activities, they have to be eliminated. Companies that fall within the scope of the Supply Chain Act will have to publish reports annually in which they describe actual and potential negative implications that their business activities and those of their supply chain have, or may have, on human rights and relevant environmental standards. The report must be submitted to the supervisory authority not later than four months after the end of the company's fiscal year.
Immediate actions for companies following enforcement of Supply Chain Act
Companies that fall under the scope of the Supply Chain Act will have to introduce and effectively implement an appropriate risk management system. The risk management must be established in all critical internal business processes in order to detect risks, prevent risks, and stop or mitigate the violation of protected legal positions if and to the extent the company has caused or contributed to such risks within its own business activities or the business activities of a direct or sub-supplier.
The risk analysis must be performed at least once a year and, in addition, on an ad hoc basis. The results of the risk analysis must be reported internally to the relevant decision-makers, such as the board of directors or the procurement department. The Supply Chain Act also creates an obligation to implement without undue delay a whistleblowing system that allows the reporting of risks or violations in the field of human rights.
Companies will have to immediately choose a person within the company that is responsible for monitoring compliance with the due diligence requirements. The Supply Chain Act expressly mentions as an example the appointment of a human rights officer. The company's management shall regularly, and at least once a year, inform itself about the work of the responsible person or persons.
Companies must issue a policy statement on their human rights strategy, unless such a statement already exists. Such a policy statement should at least describe the process by which the company fulfils the due diligence requirements established by the Supply Chain Act, the risks identified as relevant for the company's business activities, and the human rights-related expectations that the company has towards its employees and suppliers.
The Supply Chain Act lists several recommended preventive measures to address human rights and environmental risks internally and externally. Besides implementing the company's human rights policy statement, developing and implementing adequate procurement processes and purchasing practices, implementing training measures and risk-based control mechanisms, the Supply Chain Act also recommends:
- the consideration of human rights aspects in the selection of contract partners;
- the provision of an obligation for contract partners to address identified human rights-related risks in their own business activities and along their supply chains; and
- the performance of required trainings and control measures.
The efficiency of measures and processes has to be evaluated annually. Companies have to create, and retain for seven years, documentation on how they comply with their due diligence requirements under the Supply Chain Act.
Consequences of non-compliance
Companies that do not comply with their obligations under the Supply Chain Act can be subject to administrative fines and penalty payments. The maximum amount for administrative fines is, depending on the violation, up to €800,000 or, for companies with an annual revenue of more than €400,000, up to 2% of the average annual revenue of the economic unit that the company belongs to of the last three fiscal years. Companies that have been subject to a high fine can be excluded from public tenders and public contracts for up to three years.
Compliance with the Supply Chain Act shall be monitored by the Federal Office of Economics and Export Control (BAFA). The Supply Chain Act gives BAFA various rights and powers to force companies to comply with the act.
Individuals claiming that they have suffered from a violation of human rights as a consequence of a company's failure to comply with the requirements set out in the Supply Chain Act can empower unions or other non-governmental organisations to take legal action, subject to certain conditions. However, the Supply Chain Act does not establish any new or more far-reaching basis for civil law liability of companies than those already existing. In particular, companies are not generally liable for human rights violations by subsidiaries or third-party suppliers.
Managers of German stock corporations and limited liability companies will have to review and likely modify their internal compliance management systems in accordance with section 91, paragraph 2 of the Stock Corporation Act or section 43, paragraph 1 of the Limited Liability Companies Act, respectively. Management board members and managing directors that do not comply with their obligations can be personally subject to significant administrative fines in accordance with section 130 of the Act on Regulatory Offences.
The Supply Chain Act establishes strict legal compliance standards for companies operating in national or global supply chains. Companies would be well advised to assess their existing supplier management systems as soon as possible and to start to identify areas for improvement. The threat of exclusion from public tender processes as well as the significant administrative fines for both companies and managers should be reasons to take supply chain monitoring seriously.
For further information on this topic please contact Hagen Köckeritz at Mayer Brown by telephone (+49 69 7941 0) or email ([email protected]). The Mayer Brown website can be accessed at www.mayerbrown.com.
An earlier version of this article was first published in Labor Law Magazine.