Update on German Compliance Legislation: Supply Chain Due Diligence Act is Adopted, Corporate Sanctioning Act Fails

At the end of the legislative period, important decisions on central compliance legislative proposals of the German Federal Government were made:

• On June 11, 2021, the German Federal Parliament (Bundestag) adopted the “Act on Corporate Due Diligence in Supply Chains” (Gesetz über unternehmerische Sorgfaltspflichten in Lieferketten) (Supply Chain Due Diligence Act (Lieferkettensorgfaltspflichtengesetz; “LkSG”)). The Federal Council (Bundesrat) endorsed the Acton June 25, 2021. The Supply Chain Due Diligence Act will enter into force on January 1, 2023. It requires German companies with 3,000 employees (from 2024: 1,000) to implement human rights‑related and environmental related due diligence standards (risk management, risk analysis, preventive measures, remedial measures and grievance procedure) along their international supply chains (see our Client Alert of March 29, 2021). It will considerably increase the due diligence obligations of many companies and have far-reaching effects on their risk management and compliance systems. Through a change in the legislative procedure, the scope of application concerning foreign groups of companies was extended significantly and will now also include branch offices of foreign companies with more than 3,000 (and from 2024 on: 1,000) employees.
  

  Further impetus, especially with regard to the civil and criminal liability of companies, can be expected from the European Union in the future. The EU Commission works on a European Supply Chain Directive.

• Another compliance legislative proposal, however, failed. The parties of the government coalition could not resolve the last outstanding issues with regard to the Corporate Sanctioning Act (Verbandssanktionengesetz) (“VerSanG”; see Client Alert of April 30, 2020, and Client Alert of September 25, 2020). The VerSanG was meant to introduce in Germany for the first time a quasi‑criminal sanctioning of companies, and, among other things, define statutory requirements for internal investigations. It can be expected that after the federal elections in fall 2021, the attempt will again be made to create an Act focused on the sanctioning of companies.

SUPPLY CHAIN DUE DILIGENCE ACT

Review

Already on March 3, 2021, the Federal Cabinet had adopted what was then still called the Due Diligence Act, or the Supply Chain Act (“Government Draft”) (see our Client Alert of March 29, 2021). Following a controversial political debate, the government factions of the CDU/CSU and SPD in the Bundestag agreed on numerous changes to the Government Draft. The Bundestag has adopted the Supply Chain Due Diligence Act with those changes.

Changes in the Legislative Procedure

The most important changes relate to the following aspects of the Supply Chain Due Diligence Act:

• Scope of application: The scope of application of the Act was expanded. While the Government Draft only covered domestic companies with more than 3,000 (from January 1, 2024: 1,000) employees, now also domestic branch offices of foreign companies are included that typically employ more than 3,000 (from January 1, 2024: 1,000) employees (Sec. 1 (1) LkSG). When calculating the number of employees, for domestic companies, employees seconded to foreign countries must also be taken into account (Sec. 1 (1) LkSG).
  

  By extending the scope of application of the LkSG to branch offices of foreign companies, a demand from German business associations was addressed, which feared competitive disadvantages and demanded a ‘level playing field’. One question left open in the legislative procedure concerns whether and how, not only the domestic subsidiaries or branch offices, but also the foreign parent company must observe the obligations arising from the LkSG.

• Protected legal positions (geschützte Rechtspositionen): The list of environment-related obligations was extended and now includes the import and export of hazardous waste as well as trading in waste (Sec. 2 (3) LkSG). In this way, violations of the Basel Convention on the Control of Transboundary Movements of Hazardous Wastes and Their Disposal are covered by the LkSG.
• Own business area: According to the LkSG, when a violation of protected legal positions or environment-related obligations has occurred or is imminent, companies must, in principle, take remedial measures in their own business areas that end the violation (Sec. 7 (1) LkSG). The definition of the own business area of a company was expanded to cover group-related matters. While the Government Draft limited the company’s own business area to the legal entity of the company, the LkSG now stipulates that in group-related matters, the business area of the parent company shall also include the activities of subsidiaries, if the parent company exerts a “determinative influence” (bestimmender Einfluss) on the subsidiary (Sec. 2 (6) LkSG). The LkSG’s concept concerning group‑related matters is not aligned with the concept and legal standard (controlling influence (beherrschender Einfluss) under German Stock Corporation Act (Aktiengesetz) and defines independent criteria for the assessment under LkSG.

According to the recommended resolution and the report of the Bundestag Committee for Employment and Social Affairs (Bundestagsausschuss für Arbeit und Soziales), ”determinative influence” must be ascertained according to the circumstances of the individual case. It requires that exerting influence is legally possible. Moreover, economic, personnel, organizational, and other legal aspects must be taken in account. As examples for a “determinative influence,” it names: (1) large majority shareholdings in subsidiaries, (2) a group‑wide compliance system, (3) assumption of responsibility for process management in subsidiaries (for example, supply chain management), (4) overlapping of personnel in the management, or (5) delineation of a business area similar between parent company and subsidiary. This could become particularly relevant, among things, for parent companies with a matrix organization.

• Civil liability: The LkSG states explicitly that a violation of the due diligence obligations defined in the Act does not establish a stand-alone civil law liability of the company (Sec. 3 (3) LkSG). According to the recommended resolution and the report of the Bundestag Committee for Employment and Social Affairs (Bundestagsausschuss für Arbeit und Soziales), the Act cannot be interpreted as so‑called protective law (Schutzgesetz), the violation of which could result in claims for damages according to Sec. 823 (2) German Civil Code (Bürgerliches Gesetzbuch – BGB). The Bundestag Committee for Employment and Social Affairs underlined in its recommended resolution and its report that the LkSG should primarily be enforced through administrative proceedings and regulatory offence procedures. However, according to Sec. 3 (3) LkSG, civil law liability that already existed under applicable law before the LkSG entered into force shall remain unaffected. Whether, and under what circumstances, such civil law liability exists is legally highly controversial and very much depends on the individual case.
• Due diligence obligations and risk analysis: The Bundestag Committee for Employment and Social Affairs emphasized in its recommended resolution and its report that, according to Sec. 3 (1) LkSG, companies are indeed obliged to conduct due diligence, but they must not guarantee that protected legal positions are not violated. It underlined in its recommended resolution and its report that only measures “within the scope of what is actually feasible and appropriate” must be taken. The complete prevention of all human rights risks is not required under the LkSG. Companies must do neither that which is legally nor factually impossible (for example, in the case of untraceability of commodities when buying at commodity exchanges). A further relief relates to Sec. 5 (1) LkSG, according to which companies must analyze and identify the human rights and environmental risks in their own business area and at direct suppliers. According to the final version of Sec. 5 (3) LkSG, the results of the risk analysis do need to be communicated to the relevant decision-makers in the company. However, unlike the Government Draft, the LkSG does not establish a separate obligation of relevant decision-makers to take into account the results of the risk analysis when making decisions.
• Remedial measures: The remedies measures to be taken in the case of violations are set out in more concrete terms.
  • The Government Draft of the LkSG already required that remedial measures in the company’s own business area in Germany must end the violation of positions protected under the LkSG. In addition, now the obligation is established that the remedial measures in the own business area in group-related matters (that is, specifically, in subsidiaries or at legally non‑independent locations) and abroad must end the violation “as a rule” (Sec. 7 (1) LkSG). This is supposed to take into account the circumstance that abroad, the actual and legal, or, respectively, statutory framework conditions are not always given to end the violation. In these cases, it should remain possible for the company to pursue business activities abroad despite the violation of legal positions protected under the LkSG. Nevertheless, remedial measures must be taken in order to minimize the violation.
  • The LkSG specifies that, in principle, a business relationship with a direct supplier must not be terminated because the State in which the direct supplier is located has not ratified or implemented into national law the contracts under international law covered in the LkSG (Sec. 7 (3) LkSG), and that the direct supplier is therefore not subject to any statutory obligations in this respect. This circumstance must, however, be included in the risk analysis by the companies, and must be addressed through other appropriate preventive and, as the case may be, remedial measures.
• Indirect suppliers: The LkSG now defines more precisely when companies must fulfill due diligence obligations with respect to indirect suppliers on an ad hoc basis. Such ad hoc due diligence obligations must be fulfilled when the company gains substantiated knowledge, i.e., when factual indications exist, that make it appear likely that there is a violation of human rights or an infringement of an environmental obligation at indirect suppliers (Sec. 9 (3) LkSG). Furthermore, the term appropriate preventive measures is more precisely defined with respect to the indirect causer of the violation. Such appropriate preventive measures include the implementation of control measures, support in the prevention and avoidance of a risk, and the implementation of branch-specific or cross‑industry initiatives that the company has become part of.

Preview

For an efficient implementation within a company, the new regulations of the LkSG should be compared with corresponding requirements of other legal systems (e.g., the French “loi de vigilance” from the year 2017, the “Child Labor Due Diligence Law” of the Netherlands from the year 2019, as well as the British “Modern Slavery Act” from the year 2015) and the common features and the differences identified. The management should take precautionary measures to constantly monitor the internal risk management and to adjust it to the new requirements accordingly. Whether the Federal Office for Economic Affairs and Export Control (Bundesamt für Wirtschaft und Ausfuhrkontrolle), the authority responsible for enforcement and monitoring, will make use of the opportunity to publish practical cross-sector or industry-specific handouts, remains to be seen.

CORPORATE SANCTIONING ACT (VERBANDSSANKTIONENGESETZ)

For the time being, there will still be no Corporate Sanctioning Act in Germany. The relevant regulatory framework continues to be defined through the Administrative Offences Act (Ordnungswidrigkeitengesetz – OWiG), which already enables a sanctioning of companies in the case of company-related crimes and administrative offences.

Although there was consensus at the level of the Federal Cabinet with respect to the draft of the Corporate Sanctioning Act, in the end the concerns of the parliamentarians could not be totally eliminated.

In view of the international tendency (among others, at the level of the OECD (Organization for Economic Co‑operation and Development)) towards more stringent criminal responsibility for companies, it is to be expected that the next federal government will again put a variant of the Corporate Sanctioning Act on its agenda.

The authors would like to thank Mr. ass. iur. Martin Scheuermann for his assistance in the preparation of this contribution.