The supply chain law - consequences for manufacturers and retailers

In 2018, over 775,000 German entrepreneurs imported goods worldwide in international trade with a turnover of approximately 1.09 trillion euros. These goods are included in so-called global supply chains. Companies in Germany are dependent on inputs from other countries, especially in the textile industry (63 percent), electronics (45 percent), chemical and pharmaceutical industry (39 percent), food industry (37 percent), automotive industry (29 percent) and mechanical engineering (28 percent). Both manufacturers and every brand distributor who import certain goods and production tools from abroad into the EU are affected.

After the federal government completed the first draft of the so-called supply chain law and submitted it to the Bundestag for discussion and voting, its consequences are more serious than ever for manufacturers and retailers.

New compliance in the supply chain

The federal government decides that German companies should take more responsibility for moral grievances in production processes due to the numerous international connections in the EU and abroad. The European supply chain law arises from the idea of protecting the environment, human rights and children's rights. German companies are now obliged to check compliance with human rights and environmental standards when purchasing goods, components and services from abroad. In addition, they must take preventive action against global violations and violations.

However, the supply chain law is met with strong controversy among the people, especially since the Corona crisis in 2020 led to significant disruptions in global trade relations. Instead of focusing on global ethical issues, many German companies are of the opinion that they should first receive support to secure their existence.

The implementation of the supply chain law creates more bureaucracy and more work. Management’s compliance obligations also increase. The requirements of the Supply Chain Act, in particular information and monitoring obligations, should therefore be taken into account when purchasing and drafting the contract and passed on to the supplier. Your supply chain suppliers should support you in complying with the new due diligence requirements worldwide. We would be happy to support you with my specialist law firm for commercial and corporate law and international business law.

Who should the supply chain law apply to?

The planned supply chain law will initially apply to all companies and their global supply chains from January 1, 2023, regardless of their legal form. The law applies to your company if the following planned conditions apply:

• The location of your main administration, your main branch, your administrative headquarters or your statutory seat is in Germany.
• The number of employees is at least 3,000. From January 1, 2024, the Supply Chain Act will also apply to all entrepreneurs with more than 1,000 employees.
• The employees of all group companies must be taken into account within affiliated companies and company groups when calculating the number of employees. This also affects employees who work in foreign branches and subsidiaries.

However, companies in the MI industry are well advised to pay attention to legal practice regarding how exactly the number of employees is calculated.

The new due diligence obligations for entrepreneurs

The Supply Chain Act is understood as a due diligence law. It establishes human rights due diligence obligations for all entrepreneurs with the aim of improving the international human rights situation and compliance with environmental standards. These due diligence obligations concern the management of the entire supply chain.

The list of due diligence obligations sets out a general definition of what is identified as a human rights violation, in accordance with the UN Guiding Principles on Business and Human Rights. These obligations relate to the entire supply chain, from raw materials to the finished sales product. The Supply Chain Act prescribes the following due diligence obligations to the management of the company concerned:

1. the establishment of risk management,
2. determining internal responsibility for monitoring risk management, for example by appointing a human rights officer,
3. carrying out regular risk analyzes to determine the human rights and environmental risks in its own business area and its direct suppliers,
4. the adoption of a policy statement by the company's management on the company's human rights strategy,
5. the anchoring of prevention measures in the company's own business area and towards direct suppliers,
6. taking remedial action if a protected legal position or environmental duty is breached. Legal position means all global human rights, such as the ban on child labor, forced labor, slavery, violations of occupational safety, etc.
7. the establishment of a complaints procedure in which suppliers and those affected can report any information about possible violations of human rights and environmental standards along the supply chain,
8. the implementation of due diligence obligations to minimize risks for indirect suppliers, and
9. internal company documentation and reporting.

If these duties of care are violated, the law also provides for a catalog of penalties and fines with severe sanctions. Fines can be imposed and companies can be excluded from public tenders for up to three years. As a lawyer and specialist in international business law, I would be happy to advise you on the implementation of internal measures to comply with these due diligence obligations.

Ambiguities in the supply chain law

The Supply Chain Act will become a defining cornerstone of international commercial law. Without a doubt, it has an impact on the business strategy of German companies. In the future, legal departments, lawyers, German courts and the Federal Office of Economics will deal with export controls and the review of uniform standards.

According to the economic policy model of the social market economy, the government's intention is to enforce the protection of human rights at a global level with a European supply chain law. Violations of environmental standards should also be temporarily prevented. However, the legal framework of due diligence and its implementation is often considered controversial. Are the measures taken actually clear, proportionate, reasonable or effective?

According to the Supply Chain Act, an appropriate way of acting that satisfies the duty of care is determined

• the nature and scope of the company's business activities
• the entrepreneur's ability to influence the person directly responsible for the violation of a protected human rights position or an environmental obligation,
• the typically expected severity of the violation, the reversibility of the violation, and the likelihood of a violation of a protected human rights position or an environmental obligation and
• according to the type of causal contribution to the human rights or environmental risk.

It is not clear how the company management is supposed to comply with the due diligence requirements in supply chain management based on these extremely vague requirements. Terms such as “type and scope of business activities”, “influence”, “typically expected severity” or “type of causal contribution” are not self-explanatory. Without advice, especially from a specialist lawyer, they do not enable company management to make a legally sound assessment of whether the company has lived up to its responsibilities and complied with its due diligence obligations.

There are particular ambiguities regarding the general standard for the uniform review of due diligence obligations. For example, there is a risk of arbitrariness in the implementation of obligations and their review, depending on the level of care required. An unclear standard could certainly lead to misunderstandings or unwanted interpretive leeway.

The ability of entrepreneurs to influence

Uncertainty also arises when it comes to the question of when an entrepreneur can be sure that they have really fulfilled their due diligence obligations. The legal requirements are graded according to the company's ability to influence. They must ensure compliance with human rights and internationally recognized social standards in their own business areas and with direct suppliers. In the case of indirect suppliers, however, the due diligence obligations only apply on an “event-related” basis. According to the draft, companies only have to investigate and take action if they learn of human rights violations.

How do companies find out about human rights violations? By designing their complaints procedure accordingly. All persons who may be injured in a protected legal position by the economic activities of an indirect supplier, and all persons who are aware of a possible violation of a protected legal position or of an environmental obligation, must have the opportunity to point out such a violation. If such a notice is received, everyone involved in the supply chain must work to prevent the violation. This can represent a significant amount of work and go beyond the power of the respective company.

Compliance and practice notes

There is no serious doubt that compliance with human rights and environmental protection should be binding goals for the German economy. The due diligence obligations combat, among other things, exploitative and dangerous forms of child labor. The civil liability of companies is also unclear. In the Federal Government's opinion, the Supply Chain Act only creates an obligation to make efforts in the justification for the law, but neither an obligation to succeed nor a guarantee liability.

However, there is still no generally recognized standard supply chain law in Europe. The federal government even explicitly says that the supply chain law should be adapted to future European regulations with the aim of preventing competitive disadvantages for German companies. It is only questionable when such a regulation will actually exist in Europe.

Serious fines can be imposed for violations of the new due diligence requirements. Affected companies in the MI industry should therefore actually implement the above-mentioned due diligence obligations in order to protect themselves from fines. This is particularly true if you purchase goods or services from Africa, Asia and the Pacific region, because violations of human rights and environmental standards are more likely to occur in these regions.

Companies in the MI sector should also pay attention to publications on the supply chain law. The authorities are instructed to publish cross-industry or specific information, assistance and recommendations on compliance with this law. These publications can at some point provide legal certainty. Until then, companies must rely on their own assessment of their situation and the help of experts. As a lawyer and with the help of specialized lawyers, I will be happy to support you with any questions you may have regarding the Supply Chain Act.