The EU Corporate Sustainability Due Diligence Directive as an ESG component with disproportionate effects
I. Introduction: Corporate Sustainability Due Diligence Directive , EU ESG regulations and the principle of proportionality
The draft of the EU Corporate Sustainability Due Diligence Directive (Corporate Sustainability Due Diligence Directiveve1 or draft CSDDD) has once again sparked a debate at political level following a vote in the trilogue between the Council, Commission and Parliament.2 And rightly so from a legal perspective: the draft CSDDD violates the principle of proportionality, which, according to the European Court of Justice (ECJ), also applies in EU law3 and takes precedence over the contrary consensus in the trilogue of the working levels. This is because, according to its draft, the CSDDD would significantly interfere with companies' fundamental rights, namely the freedom to conduct a business, freedom to choose an occupation, the right to work and the right to property (Art. 15 ff. EU Charter of Fundamental Rights; "CFR"). Theserights and freedoms of companies are by nature not absolute, but can be restricted. However, according to Art. 52 para. 1 CFR, such restrictions must be "provided for by law and respect the essence of those rights and freedoms. Subject to the principle of proportionality, restrictions may be imposed only if they are necessary and genuinely meet objectives of general interest recognized by the Union or the need to protect the rights and freedoms of others." In order to assess this, the effects of an intervention (in this case the CSDDD) must be taken into account. This does not only depend on the provisions of the relevant legislative act, but also on the effects that the relevant provisions have in conjunction with other EU provisions. Otherwise, the EU legislator could undermine the principle of propor-tionality by cunningly distributing the intervention requirements across different codifications. In order to measure the effects of the draft CSDDD, two things in particular must therefore be taken into account, namely (1) the integrated effect that the CSDDD would have with other ESG regulations, namely the Corporate Sustainability Reporting Directive4 (CSRD) and (2) the case law of the ECJ, which favors and expands the liability of compa-nies for violations of EU requirements5 . This is all the more true as the CSRD itself refers to the CSDDD in advance6 and includes the expansion of corporate and institutional responsibility among its explicit objectives. 7
If one considers the multiple but integrated effects of the EU's ESG regulations, the disproportionality of the CSDDD is indeed evident. This is all the more true as the Commission considers its effects to be disproportionate for the small and medium-sized enterprises exempted from the CSDDD, but disregards the fact that, according to its own factual research, the costs and burdens increase proportionally for larger companies, meaning that its own verdict of disproportionality should also apply to them.8
The author has already explained this in detail elsewhere.9 This article is intended to point out these legal anchor points once again in the current legal policy debate.
II. Multiple, integrated effects of a CSDDD according to the trilogue draft
- Burdensome, multiple encroachments
The draft CSDDD is, as it were, the EU's Supply Chain Act (LkSG). However, the draft goes beyond the German LkSG in several respects: it also covers the downstream stages of the value chain (sales, service, further processing, disposal), incorporates more international agreements in the areas of environmental protection and human rights, provides for explicit liability of companies and their bodies and, in addition to "appropriate, effective and dissuasive" sanctions in the event of violations, also requires the publication of sanctions imposed (ostracism).10 The planned CSDDD is a component of the EU's "Green Deal", which comprises numerous regulations under the headings of "Corporate SocialResponsibility" (CSR) and "Environment/Social/Governance" (ESG) in addition to the CSRD and the draft CSDDD.11 The ESG requirements have very different starting points: (1) The CSRD obliges the companies covered to report retrospectively and prospectively on ESG aspects ("sustainability aspects") in a new part of the management report, the sustainability report. (2) The draft CSDDD is an EU supply chain law, but goes significantly beyond the requirements of German law and explicitly provides for liability of companies and executive bodies in the event of violations. The draft CSDDD does not rely on companies to find appropriate ways and means of complying with the relevant requirements, but sets out organizational requirements (organizational obligation). (3) The CSRD in turn requires companies to report on how they have organized themselves to comply with the ESG requirements (including the future CSDDD) (organizational reporting). (4) The CSRD also requires companies to report on their sustainability measures and their success or failure. (5) According to the CSRD, companies must also report on the organization, responsibilities and expertise of their management and supervisory bodies. (6) Violations will lead to high fines, and in the case of the planned CSDDD also to their publication (ostracism). (7) Last but not least, the CSRD and draft CSDDD provide for internal company obligations, which may not only result in claims by companies against management and supervisory bodies via Section 43 GmbHG and Sections 93 and 116 AktG. Rather, sustainability reporting is intended to help "stakeholders" of all kinds (NGOs, affected parties, trade unions, etc.) to take legal action against companies in the event of a wide variety of breaches. The approaches described are therefore diverse, coordinated and mutually reinforcing.
2. Liability as an ESG target
The CSRD aims to "transition to a fully inclusive economic and financial system in line with the Green Deal and the United Nations Sustainable Development Goals".12 The aim is to enable "stakeholders" to assess the company not only in terms of its net assets, financial position and results of operations, but also in terms of its "sustainability". According to recital (9), "stakeholders" are not only investors, but also all "citizens", namely "civil society actors, including non-governmental organizations and social partners, who wish to hold companies more accountable for their impact on people and the environment."
The CSRD is therefore intended to enable third parties to hold companies "more accountable". However, Art. 2 No. 17 CSRD includes not only environmental and climate protection as well as human rights among the "sustainability aspects", but also "social" and "governance factors", including the obligations of the CSDDD (Art. 19 a para. 2 CSRD). This goes a long way. Suspiciously, the issuer of the directive also demands information on how the companies have collected the information and who is responsible for sustainability. This is where governance comes into play. According to Art. 19a para. 2 CSRD, detailed information should be provided on the role and competencies of the bodies. The last fact in particular may oblige a person to self-incriminate13 because it makes it easier (and is intended to make it easier) for third parties to assert claims.
3. Multiple liability consequences for companies
The legal acts described entail a variety of liability risks for companies, which complement and reinforce each other: (1) The rules provide for high fines for companies in the event of violations. (2) Furthermore, the draft CSDDD provides for civil liability for companies (compensation for damages and removal). (3) Even where no direct liability for damages is provided for, there is a risk of corporate liability: Firstly, the ECJ tends to affirm civil liability even where EU provisions do not provide for civil liability (arg. effet utile), and secondly, it tends to give EU ESG rules a third-party protective effect. All of this is embedded in a litigious environment. Shareholder organizations are also increasingly claiming to pay attention to sustainability criteria and to insist on them in companies. The high moral standards of ESG requirements give an additional boost to corresponding lawsuits.14
4. "Two-tier" liability
The numerous obligations and liability consequences complement and reinforce each other, each in a "two-tier" manner: At the "substantive level", ESG violations can result in fines, other sanctions and civil liability. There is also the "reporting level": If a violation was to be published from the outset or after its discovery (ad hoc or in the next regular report, e.g. also in connection with the information on the "success" of the company's sustainability efforts), but the company has viewed this, this may in turn constitute a further violation. Fines, sanctions and civil liability consequences are also possible at this second level. As the requirements of the CSRD are detailed, reporting is prone to errors.
5. Liability of directors and officers
However, the multidimensional nature of the increase in liability also applies to directors' and officers' liability: (1) Some of the ESG rules directly impose liability on the corporate bodies (external liability). (2) Wherever a company is liable, there is a risk that it will take recourse against the responsible bodies (internal liability). Whether this applies to fines has not yet been clarified. However, the risk of recourse exists for all cases of liability under civil law. (3) The ESG guidelines on structural and procedural organization assign areas of responsibility and thus facilitate the assertion of claims against board members in cases of external and internal liability. (4) This applies not only to management boards, but also to supervisory bodies.15
II. The principle of proportionality
According to the ECJ, a restriction of an individual's position is only lawful if it is (1) "ap-
propriate and necessary to achieve the objectives legitimately pursued by the legislation
in question" and (2) "proportionate".16 Furthermore, the conflicting interests must be weighed up against each other when assessing proportionality: Taking into account "all the circumstances of the individual case, it must be examined whether the right balance between these interests has been maintained"17 . The more important the public interest objective pursued, the stricter the restrictions may be.18 Conversely, significant disadvantages for the holder of the fundamental right require the pursuit of sufficiently important public interest objectives.19
III. Conclusions
The following limits to ESG obligations and liability arise from the principle of proportionality .20
(1) Although the explanatory memoranda of the two central legal acts, CSRD and draft CSDDD, refer to the principle of proportionality, they lack a substantive discussion. If the legislative bodies have not addressed the issue of proportionality objectively, i.e. have neither examined it nor based their decision on objective criteria, proportionality is lacking from the outset.21
(2) The interventions of the CSDDD-D in the company organization are serious and involve considerable costs; liability for violations is added to this. The explanatory memorandum to the CSDDD-D therefore considers the requirements for SMEs to be disproportionate, and Art. 2 (1) of the draft therefore excludes them from the scope of application (outside of risk sectors). For larger companies, however, the organizational costs and liability also increase, and according to the Commission's own research, probably proportionally. Accordingly, the verdict of disproportionality, which the explanatory memorandum of the CSDD-D imposes on regulations for SMEs, also applies to the regulations for large and high-risk sector companies.22
(3) Art. 7 para. 4, Art. 8 para. 3 lit. e, para. 5 draft CSDDD tightens this self-imposed obligation: According to this, the covered companies must provide "targeted and proportionate support to an SME [in the supply chain] in order to avoid potential negative impacts of breaches in the supply chain ... where compliance with the Code of Conduct or the Preventive Action Plan would jeopardize the sustainability of the SME". This means that covered companies may have to bear the costs of SMEs in the supply chain, often in cases where the burden is high. This increases the costs for the covered companies disproportionately compared to SMEs.
(4) Environmental concerns are already taken into account by a plethora of laws in terms of content and procedure. For their part, the relevant laws have been weighed up and enacted in democratic processes. These specialized laws must not be overtaken by excessive duties of care, procedural requirements and opportunities for legal action. However, it would be disproportionate (and a violation of the principle of trust under EU law) if, for example, a company could not rely on being able to operate its business in accordance with a permit that has been granted.
(5) Where ESG provisions are intended to improve "governance" (general compliance), they should not be weighed against the high objectives of "environment" and "human rights", but against the respective objects of protection. The objects regulated in Art. 29b para. 2 letters iii, iv and v CSRD go beyond this without justification, especially since "corporate ethics" and "corporate culture" (letter iii) are moral-philosophical terms without legal contours, "lobbying activities" of a company (letter iv) are activities protected by fundamental rights and "lobbying activities" of a company (letter iv) are activities protected by fundamental rights. iv) are constitutionally protected activities of the company in the democratic opinion-forming process and the "maintenance and quality of relationships with customers, suppliers and communities affected by the company's activities" (letter v) concern matters of the company's normal course of business, for which there is no apparent need for further due diligence and reporting obligations. Such over-shaping is also disproportionate for other matters outside the areas of "environment" and "human rights", and in any case requires justification. Wide areas of ESRS G1 and ESRS 2 are therefore disproportionate.
(6) The EFRS should provide for exemptions from reporting obligations where reporting may harm the company or its employees, in particular where it may result in fines or claims for damages. This applies all the more where it is neither a violation of human rights nor climate protection.
(7) Since compliance management systems (CMS) often fail empirically and it is therefore impossible to predict or reliably measure the effect of specific CMS measures, companies must be granted broad entrepreneurial discretion in fulfilling the duties of care imposed on them. The principle of trust is of central importance here, especially in companies that are characterized by a high degree of division of labour. The principle of trust means that the management can rely on the correct conduct of employees unless there are indications that this trust is not justified.
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1 Proposal for a Directive on due diligence obligations of companies with regard to sustainability and amending
Directive (EU) 2019/1937, COM/2022/71 final, document 52022PC0071, point 1 of the explanatory memoran-
dum.
2 E.g. Frankfurter Allgemeine Zeitung, 10.02.2024, p. 19; Resolution of the FDP Executive Committee of
15.01.2024, https://www.fdp.de/sites/default/files/2024-01/2024_01_15_praesidium_eu-lieferkettenrichtlinie-
stoppen-buerokratie-burnout-verhindern_1.pdf; accessed on 10.02.2024.
3 The principle of proportionality is not only enshrined in Art. 52(1) CFR, but also in the principles of case law on
the protection of fundamental rights established by the CJEU even before the adoption of the CFR and recog-
nized in Art. 6(3) TEU as part of the EU's primary law. Mayer in: Grabitz/Hilf/Nettesheim, Das Recht der Euro-
päischen Union, 73rd EL May 2021, under Art. 6 TEU, Fundamental rights protection and rule of law principles,
para. 395. More detailed Reuter, ESG and the principle of proportionality as a barrier to the multiple increase in
obligations and liability ZIP 2023, 1782, 1787.
4 Directive 2013/34/EU of 26.06.2013 in the version of Directive (EU) 2022/2464 of 14.12.2022 ("Directive on
sustainability reporting" or "Corporate Sustainability Reporting Directive [CSRD]")
5 See Reuter, ESG and the principle of proportionality as a barrier to the multiple increase in obligations and
liability ZIP 2023, 1782, 1786.
6 Art. 19a para. 2 CSRD; see Reuter, Pflichtvermehrung durch ESG - Die neuen Vorgaben der EU als multiple,
verbundene und haftungsträchtige Eingriffe, ZIP 2023, 1572, 1575.
7 Reuter, Pflichtvermehrung durch ESG - Die neuen Vorgaben der EU als multiple, verbundene und haftungs-
trächtige Eingriffe, ZIP 2023, 1572, 1573, 1582 f.; ibid., ESG und der Grundsatz der Verhältnismäßigkeit als
Schranke der multiplen Pflichten- und Haftungsvermehrung ZIP 2023, 1782, 1784.
8 Reuter, ESG and the principle of proportionality as a barrier to the multiple multiplication of obligations and
liability ZIP 2023, 1782, 1788 f.
9 Cf. footnote 7
10 In more detail, Reuter, Pflichtvermehrung durch ESG - Die neuen Vorgaben der EU als multiple, verbundene
und haftungsträchtige Eingriffe, ZIP 2023, 1572 et seq.
11 In more detail, Reuter, Pflichtvermehrung durch ESG - Die neuen Vorgaben der EU als multiple, verbundene
und haftungsträchtige Eingriffe, ZIP 2023, 1572-1583; ibid, ESG und der Grundsatz der Verhältnismäßigkeit als
Schranke der multiplen Pflichten- und Haftungsvermehrung ZIP 2023, 1782-1793; good overview in Kuntz, ESG
and the Weakening Business Judgment Rule, in: Thilo Kuntz (ed.), Research Handbook on Environmental,
Social, and Corporate Governance, Edward Elgar, 2023 (forthcoming), under II, open access:
https://ssrn.com/abstract=4395003, p. 7 et seq.; see also Paefgen, Corporate Social Responsibility (CSR) als
aktienrechtliche Legalitätspflicht und Geschäftsleitungsermessen, Festschrift K. Schmidt, 2019, vol. 1, p. 105 et
seq.
12 CSRD proposal, explanatory memorandum, COM(2021) 189 p. 4; very critical AKBR (Arbeitskreis Bilanzrecht
Hochschullehrer Rechtswissenschaft), Stellungnahme zum CSRD-Vorschlag der EU-Kommission DB 2021,
2301, 2303, and Ekkenga, ZHR 187 (2023), 228, 242 ff., 246. 13 Likewise Ekkenga, ZHR 187 (2023), 228, 245. C. Dannecker, ZStW 2015, 370, 375 ff., DOI 10.1515/zstw-2015-
0014, on the validity of the prohibition of self-incrimination (nemo tenetur principle) for companies in detail.
14 In more detail Reuter, ESG and the principle of proportionality as a barrier to the multiple increase in obligations
and liability ZIP 2023, 1782, 1784 et seq.
15 In more detail Reuter, ESG and the principle of proportionality as a barrier to the multiple increase in obligations
and liability ZIP 2023, 1782 et seq.
16 ECJ, 13.11.1990, Case C-331/88 - "Fedesa", para. 13, for "the prohibition of an economic activity"; however,
the principle is generally applicable, see Mayer in: Grabitz/Hilf/Nettesheim, Das Recht der Europäischen Union,
73rd EL May 2021, under Art. 6 TEU, Fundamental rights protection and rule of law principles, para. 404.
17 ECJ , 12.06.2003, Case C-112/00 - "Schmidberger", para. 81; see also ECJ, 13.11.1990, Case C-331/88 -
"Fedesa", para. 17; Wollenschläger in: von der Groeben/Schwarze/Hatje, Europäisches Unionsrecht, 7. 2015,
GRCh, Art. 15, para. 39; ECJ, 17.07.1997, C-183/95 - "Affish/Rijksdienst voor de keuring van Vee en Vlees",
para. 42/43; ECJ, 13.11.2000, Case C-317/00 P(R) - "Invest", para. 60; Blanke in: Stern/Sachs, European Char-
ter of Fundamental Rights, 2016, Art. 15, para. 44.
18 ECJ, 13.11.2000, Case C-317/00 P(R) - "Invest", para. 60; Jarass, Charter of Fundamental Rights of the EU,
4th ed. 2021, Art. 16, para. 26.
19 Jarass, Charter of Fundamental Rights of the EU, 4th ed. 2021, Art. 17, para. 37; Wollenschläger in: von der
Groeben/Schwarze/Hatje, Europäisches Unionsrecht, 7th ed. 2015, GRCh, Art. 15, para. 39.
20 In more detail Reuter, ESG and the principle of proportionality as a barrier to the multiple increase in obligations
and liability ZIP 2023, 1782, 1791 et seq.
21 Cf. ECJ, 17.10.2013, C-101/12 - Schaible, para. 49.
22 Reuter, ESG and the principle of proportionality as a barrier to the multiple increase in obligations and liability,
ZIP 2023, 1782, 1791, 1789.
