ESG liability and litigation risks with a focus on Germany: Greenwashing

The European Commission ("Commission") is relentless in its fight against Greenwashing and the misrepresentation of sustainability impacts or benefits of a company’s products or actions. Following the global ESG trend and the rise in awareness of the environmental and social impact of the activities of companies in all sectors and branches across the industries, the EU-legislator is very eager to regulate all aspects of ESG, including Greenwashing. Companies are increasingly constrained by the influx of EU laws and regulations, and are facing immense challenges in implementing – if not already in monitoring – the new legal and regulatory requirements.

At the same time, companies are jumping on the ESG trend by promoting and advertising their "green" credentials in order to raise their profitability, reputation and competitiveness in the market. As a clash of these conflicting interests seems quite predictable, the litigation risk for Greenwashing claims rises at all levels of a company (including the corporate, investment and product levels).

While Greenwashing is already the basis of lawsuits in Germany (in particular, with a focus on investment products) and poses a concern in the US (please refer to our Insight on ESG in US M&A¹), with the already applicable EU rules and regulations being expanded by adopted laws recently coming into force and the Commission readily pushing new proposals – as recently as 23 March 2023 – Greenwashing litigation will gain further momentum in all industry fields, in particular in the retail and consumer sector.

Last but not least, a further push will come from the EU Representative Action Directive, which allows consumer protection organizations to bring collective redress actions in the field of Greenwashing, which in turn can be a major risk to a company’s finances and its reputation with consumers.

In this Client Alert, we highlight the relevant EU-Greenwashing regulations and the potential liability and litigation risks posed by Greenwashing on a corporate level (in business’ public images), on an investment level (prospectus liability) and on a product level (misleading advertisements), with a special focus on Germany.

1. Corporate Level: Business' public image

One main focus of the EU legislator in the area of Greenwashing, so far, has been companies presenting their public image as "greener" than they are. The most recent EU legislation in this area is the Corporate Sustainability Reporting Directive ("CSRD"), which entered into force on 5 January 2023.² Please refer to our previous client alert for details on the scope of application, as well as an overview on the required reporting.³

Prior to the CSRD, the Non-Financial Reporting Directive ("NFRD")⁴ required large companies that were "public-interest entities" (meaning "admitted to trading on a regulated market of an EU member state", Art. 2 (1)(a) of the "Accounting Directive"⁵) to include a non-financial statement of sustainability information in their management report.

The "Taxonomy Regulation"⁶ increased the transparency of undertakings in the financial services sector by adding to the pre-contractual sustainability disclosure information already required by the Sustainable Finance Disclosure Regulation ("SFDR").⁷ Art. 8 of the Taxonomy Regulation also expanded the amount of information that is to be included in the non-financial statements under the NFRD. Non-financial reporting requirements have already been implemented in Germany by introduction of sec. 289b and c of the German Commercial Code ("HGB"); and non-conformity poses a liability under sec. 331 HGB, which in theory can also be enforced by individuals through sec. 823 para. 2 of the German Civil Code ("BGB").

The CSRD now extends, even further, to both the affected companies (Art. 1 para. 1-3 of the CSRD) and the amount of sustainability-related information to be reported (Art. 1 para. 4 of the CSRD). As a result, the sustainability reporting requirements will apply to large EU public interest entities, large EU enterprises, EU parent companies of large groups and EU small and medium-sized enterprises ("SMEs") listed on EU regulated markets as well as non-EU parent companies; provided that further requirements (employee number, balance sheet totals and/or net turnover) are met.

The CSRD also extends its sustainability reporting requirements to issuers with debt or equity securities listed on an EU regulated market, including undertakings domiciled outside the EU, by amending sections of Directive 2004/109/EC.

Additionally, the CSRD increases the exposure of non-financial statements, which are now included in the mandatory audit reports since auditors should express an opinion on the compliance of sustainability reporting with Union requirements (Art. 1 para. 13 of the CSRD).

As such, the non-financial statements can be subject to an Enforcement-Procedure of the German Federal Financial Supervisory Authority, one of the potential results of which can be that an error in the annual accounts is determined. This could – in a worst case scenario – pave the way for an action of nullity of the financial statements. Further consequences can be regulatory offences and penalties.

The main practical challenge, however, arises from the fact that a widely accepted standard for the collection and reporting of sustainability data has not yet been used. The CSRD provides for delegated acts to be adopted, in order to comply with European Sustainability Reporting Standards ("ESRS"), and with the introduction of Art. 29b and 29c in the Accounting Directive, which is to be introduced by 30 June 2023 following previous advice from the European Financial Reporting Advisory Group ("EFRAG"), and to be assessed at least every three years after its introduction. However, the implication will likely be challenging.

While the CSRD does not, essentially, pose a new kind of litigation/liability risk, it drastically widens existing liability risks by equating non-financial reporting, including ESG-related sustainability reporting, with financial reporting and adding regulatory authorities to the enforcement.

2. Investment Level: Green Claims about Investment Products / Prospectus Liability

Greenwashing can also take the form of claims made by companies about investment products. As such, Greenwashing may play a role in prospectus liability litigation. With regard to non-financial disclosures, prospectus liability seems evident in theory. However, while the SFDR and Taxonomy Regulation both aim to establish a system of classification, an agreed upon standard for wider sustainability disclosure has not been established. This will make it hard to determine if or when information in a prospectus actually is false or incomplete. However, the introduction of ESRS could simplify the assessment of prospectus liability and the question of whether a prospectus is incorrect or incomplete, thus allowing prospectus liability claims based on Greenwashing to emerge.

Additionally, the recommendation and selling of "sustainable" investment products bears its own liability risks. As with any other claim about investment products, sellers are required to check or verify the investment products’ sustainability claims before recommending them to investors. Here, too, EU legislation will help streamline the standards underlying the sustainability claims – most notably through the Taxonomy Regulation and the ESRS. However, one has to bear in mind that the risk of liability due to false sustainability claims depends heavily on whether the investment decision itself relied on the sustainability claim, which in turn can depend on whether the sustainability of an investment product affects its suitability for the investor.⁸

3. Product Level: Misleading Promotion / Advertisements and Consumer Protection

Currently, most claims brought before German courts arise from green claims made by companies towards consumers. They are based on laws related to Unfair Commercial Practices and Consumer Protection, which have also been the target of recent Commission proposals.

3.1 Current Greenwashing Cases

With competition law ("Wettbewerbsrecht") being the predominant basis for claims, so far, Verbraucherzentrale as a qualified entity under sec. 8 para. 3 no. 3 of the Act against Unfair Competition ("UWG") has brought cases against financial institutions that rest on misleading advertisements under sec. 3, 5, 5a UWG.⁹

Additionally, the German environmental NGO, Deutsche Umwelthilfe ("DUH"), has brought a total of 15 cases against various companies, including supermarkets, Energy companies and retailers. According to a press release from DUH, the regional court of Düsseldorf ruled in their favor on 5 April 2023, in a case against TotalEnergies. In this case, DUH claimed that TotalEnergies’ advertisement of its Thermoplus heating oil was misleading. The CO2 compensation schemes in India and Peru, promoted in the advertisement, were supposedly implausible. Apparently, the court agreed that the CO2 compensation under these schemes was unclear and that the projects lacked transparency. However, as the judgment has not been published yet, the parties’ and the court’s arguments are not fully available. While we do know that the claims brought by DUH are made on the basis of sec. 5a UWG,¹⁰ the repercussions for the remaining 14 cases, as well as potential new claims can as of now not yet be ascertained.

More UWG claims are to be expected with the increased exposure of Greenwashing.

3.2 Proposal for a Directive on empowering consumers for the green transition through better protection against unfair practices and better information

In addition to the laws on sustainability reporting highlighted above, the Commission has already set its sights on the introduction of new EU rules and regulations to fight Greenwashing in the context of consumer protection. As such, it published its Proposal for a Directive, "Empowering the Consumer for the Green Transition", in March 2022.¹¹ This directive is set to amend the Directives 2005/29/EC ("Unfair Commercial Practices Directive")¹² and 2011/83/EU ("Consumer Rights Directive").¹³

The amendment of the Unfair Commercial Practices Directive – in its current form – would see misinformation on ecological and social effects of products included within the scope of misleading actions (Art. 6 of the Unfair Commercial Practices Directive). Furthermore, the Commission plans to add new practices to the list of prohibited unfair commercial practices (a so called ‘black-list’). At the current stage, such practices are to include (among others):

• "Making generic, vague environmental claims where the excellent environmental performance of the product or trader cannot be demonstrated", • "Making an environmental claim about the entire product, when it really concerns only a certain aspect of the product"; and • "Displaying a voluntary sustainability label which was not based on a third-party verification scheme or established by public authorities".¹⁴

Both changes would see an amendment of the UWG (most likely to sec. 5 seq. UWG and the Annex), thus increasing the scope of the basis of current competition law ("Wettbewerbsrecht") cases.

Such increased scope of unfair commercial practices could also lead to a bigger emphasis on sec. 9 UWG. This section, recently amended due to the transposition of Directive (EU) 2019/2161,¹⁵ which introduced Art. 11a to the Unfair Commercial Practices Directive, now allows individual consumers affected by unfair commercial practices to sue for damages suffered, which increases the risk of individual litigation.

Furthermore, the context of consumer protection, as well as the amendment of Directives 2005/29/EC and 2011/8/EU, will open the gates for collective redress actions in the area of Greenwashing. The Commission has already expressly stated that the new "provisions will be able to rely on the full spectrum of enforcement mechanisms in existing EU consumer law",¹⁶ including the Representative Actions Directive.¹⁷ As such, representative actions will be a medium to enforce Greenwashing rules. As this Directive has not yet been transposed into German law (please refer to our previous Client Alerts¹⁸), there is still a small element of uncertainty as to the extent of litigation stemming from representative actions. However, the individual compensation in sec. 9 UWG is expressly part of the Representative Actions Directive, as the Unfair Commercial Practices Directive is listed in Annex I of the former.

3.3 Proposal for a Green Claims Directive

On 22 March 2023, the Commission announced yet another proposal. This time, it envisages a directive on substantiation and communication of explicit environmental claims.¹⁹ Please refer to our previous Client Alert for detailed information on the requirements and public enforcement.²⁰

This proposal is meant to act as a "safety net for all sectors where environmental claims or labels are unregulated at EU level".²¹ The proposed Art. 1 para 2 of the Green Claims Directive expressly excludes the Accounting Directive (non-financial reporting) and the Taxonomy Regulation, both highlighted above, from its scope. As such, it will – in its current form – not apply to environmental labelling schemes or explicit environmental claims that are already regulated by existing laws. As a result, the recent changes made by the CSRD will remain.

However, the proposal will fill the gap left by the existing frameworks, especially where undertakings make direct claims towards consumers in order to influence purchasing decisions by focusing heavily on consumer protection from misleading claims and the role of consumers in the "ecological transition".²² The proposal aims to establish "common criteria against greenwashing and environmental claims" to ensure that consumers are equipped with reliable information necessary to make sustainable and environmentally friendly purchasing decisions.²³ To achieve this, the proposal includes specific standards that companies are required to meet with regard to evidence used to substantiate their environmental claims.²⁴ Additionally, it sets forth requirements for green labels,²⁵ only allows new public labelling schemes when developed at the EU level and restricts private labelling schemes.²⁶ To ensure that companies actually comply with these requirements, the proposal also provides for scientific and independent verification processes for green claims made by companies, as well as the labelling schemes. Additionally, the proposal obliges companies to provide consumers with further information on the substantiation of the green claim – either in physical form or through a weblink, a QR code or an equivalent.²⁷

The exact interrelation between sustainability reporting, on the one hand, and green claims on the other hand, still depends on the further development of the proposal, but most importantly on the transposition of the Green Claims Directive into national law. This could even lead to diverging standards in different member states.

What is already clear, however, is the fact that the Green Claims Directive will be closely linked to the changes made to the Unfair Commercial Practices Directive by the Directive to Empower Consumers for the Green Transition with the Commission even envisaging a joint transposition.²⁸ As such, Art. 24 of the Green Claims Directive subjects the directive to the scope of the Representative Actions Directive, meaning that consumers who will (under national law) be entitled to remedies in the event of violations against the Green Claims Directive, are protected through collective redress procedures.²⁹ While, at this point, the implementation of the Green Claims directive is still unclear, it is predictable that consumer protection organizations will use Greenwashing to bring representative actions.

As a result, the Green Claims Directive does not only pose a great risk of penalties for non-compliance (Art. 17 of the Green Claims Directive), but further increases the risk of representative actions highlighted above.

4. Greenwashing Litigation and Tort Law

In addition to the liability risks highlighted above, the European Court of Justice ("ECJ") may well have opened the door for Greenwashing in tort law claims based on a violation of a law intended to protect others (sec. 823 para. 2 BGB).

In its recent Diesel case decision, dated 21 March 2023, the ECJ decided that the EU regulatory framework for the approval of motor vehicles, including both regulations as well as directives, protected the specific interests of individual consumers when seen in conjunction with the certificate of conformity provided by car manufacturers. This decision is in line with a tendency in favor of consumer protection developed by the court. While the rules and regulations on Greenwashing do not provide for a certificate of conformity similar to the one provided by car manufacturers, the EU legislation against Greenwashing, including the sustainable reporting framework, is in part intended to provide better information to individual investors and consumers. As such, the ECJ’s decision in the Diesel case as part of the ECJ’s tendency to favor consumer protection could allow the overarching and much-discussed question of whether applicable regulations (Taxonomy Regulation, SFDR) or even directives (CSRD, NFRD and the recent proposals) qualify as laws intended to protect others ("Schutzgesetz")³⁰ to be answered in the affirmative.

Qualifying the applicable EU legislation as protecting such interests would once again increase the risk of potential litigation.

5. Conclusion

The developments in EU legislation will further increase liability and litigation risks across the areas of business public image, claims about investment products and misleading advertisements – both for individual and collective actions in the field of Greenwashing. It is foreseeable that the interface between an increased focus on ESG and consumer protection leads to Greenwashing being at the forefront of these developments. Additionally, the nearing possibility of representative actions and well-connected consumer associations will also further the litigation impact of Greenwashing. As a result, companies affected by these new rules are well advised to mitigate the risks by ensuring that sustainability claims are only made on a factual basis and can be backed up with concrete data. While the collection of said data will pose practical difficulties, the recent developments, such as the European Sustainability Reporting Standards and the proposed Green Claims Directive, could actually serve as a useful guide – even before their implementation.