In EU’s sustainability law, a new challenge for Indian exporters

The Corporate Sustainability Due Diligence Directive (CSDDD), the draft European Union (EU) regulation aims to foster sustainable & responsible corporate behaviour and restrain corporate abuses. Even as India is still discussing the Carbon Border Adjustment Mechanism (CBAM) and EU Deforestation Regulation (EUDR) in FTA talks with the EU, the due diligence proposal has raised more concerns for the industry. 

• India’s exports to the EU include engineering goods, textiles, leather, agricultural produce, mineral fuels, and gems and jewellery.
• The proposed Corporate Sustainability Due Diligence Directive (CSDDD) will apply to large EU companies as well as non-EU firms. It is expected to come into force by 2024.
• CSDDD is especially targeting “high impact” sectors like textiles, agriculture, and mining.
• India’s exporters and MSMEs may be affected by the proposed legislation since CSDDD would be covering the entire value chain. 

The European Parliament has recently approved a draft law that mandates businesses to identify and eliminate the negative effects of their activities across the entire value chain. The Corporate Sustainability Due Diligence Directive (CSDDD) will apply to large European Union (EU) companies as well as to non-EU firms. 

The CSDDD legislation makes it mandatory for large companies to inspect whether their suppliers are involved in using child labour or damaging the environment. It also requires large companies to come out with plans as to how they will transition to a net-zero economy by reducing carbon emissions.

The proposed legislation has sparked unease in India, given its potential to raise compliance costs and disrupt small businesses.

How CSDDD would affect India’s interests?

The EU is one of India’s largest trading partners. In 2022-23, it accounted for 16.6% (i.e. US$ 74.83 billion) of India’s total exports. The country exports a wide variety of products to the EU, including engineering goods, textiles, leather, agricultural produce, mineral fuels, and gems and jewellery. 

CSDDD is in particularly targeting “high impact” sectors like textiles, agriculture, and mining. This could have serious implications for Indian exporters and MSME suppliers from these sectors. For instance, they may not be able to submit all the requisite information as desired by the EU importers to complete their ‘due diligence’ process for possible human rights abuse, including the use of child labour and contribution to environmental degradation. The proposed regulation would cover the entire value chain.

With the enforcement of CSDDD, many Indian exporters to the EU might lose business if in case the importers are not satisfied with the response to the information that they ask for. The burden of proof lies on EU importers, who may face penalties in case there is a breach in obligations from their suppliers’ side. India is studying the possible impacts of the proposed EU legislation and ways to mitigate the negative impacts thereof.

Understanding the CSDDD legislation

Under the Corporate Sustainability Due Diligence Directive (CSDDD), large companies from across the world selling products in the EU would have to comply with CSDDD guidelines. It would necessitate checks on suppliers and initiation of mitigating action when abuses are exposed, or else suppliers may face sanctions. 

For instance, retailers would be required to check whether the fruit and vegetables they sell in the EU were not picked by people working under insanitary conditions or using child labour. Big businesses would therefore need to:

• Develop and implement ‘prevention action plans’
• Obtain contractual assurances from their direct business partners that they will comply with the plans, and 
• Verify compliance

High-impact sectors as defined by the European Commission are manufacturing textiles, agricultural activities, and extraction of mineral resources. Here it is important to note that turnover generated within the EU by non-EU companies would also include turnover generated by third-party companies with whom the company and/or its subsidiaries has entered into a vertical agreement in the EU ‘in return for royalties’.

Large companies employing more than 1,000 employees will be required to have a remuneration policy in order to ensure that the varying remuneration of directors is linked to the achievement of the transition plan’s objectives (which isaimed at restricting global warming).

Considering the EU’s transition towards a more climate-neutral and green economy, the CSDDD mandates that companies will have the obligation to adopt a transition plan in accordance with Article 19a of the Corporate Sustainability Reporting Directive (CSRD), aimed at restricting global warming to 1.5°C in accordance with the Paris Climate agreement. Companies that identify climate change as “a principal risk for, or a principal impact of,” their operations would have to include emissions reduction objectives in their business plans.

Although small and medium-sized enterprises (SMEs) are not directly captured in the CSDDD ambit, they are likely to be affected ‘in their capacity as contractors or subcontractors’ to any of the group of companies, mentioned above. Additionally, the CSDDD also provides for a civil law instrument. The provision of civil law would hold companies accountable and liable for environmental degradation and human rights abuses, both within the European Union region and beyond.  

With respect to human rights due diligence, the CSDDD would coordinate with the existing international standards. These include the UN’s Guiding Principles on Business and Human Rights, the OECD Guidelines for Multinational Enterprises, and the OECD Due Diligence Guidance for Responsible Business Conduct.

Upcoming challenges for companies

The foremost challenge is that of mapping a company’s value chain comprising a large number of suppliers. 

Other upcoming challenges include investment in technology that would become imperative for revamping data collection, managing supplier compliance, and effectively tracking emissions reductions. These modified technological solutions will enable companies to reshape their governance structures to account for environmental, social, and governance (ESG) risks. 

Emission reduction targets are to become a focal point for accomplishing the climate transition plans. Businesses would need to align their financial strategies with their sustainability objectives and incorporate emission reduction goals into their budgetary planning.

Further modifications in procurement and supply chain operating models may be required to ensure compliance with the directive and to effectively address the associated risks. 

The EU CSDDD legislation could also possibly raise compliance costs and may disrupt small businesses. While India is still discussing the Carbon Border Adjustment Mechanism (CBAM) and EU Deforestation Regulation (EUDR) in FTA talks with the EU, the due diligence proposal has raised more concerns for the industry.