The EU-Corporate Sustainability Due Diligence Directive (EU-CSDDD) has been building since 2020 and could arguably be called a landmark element of the European Council’s efforts to advance corporate sustainability reporting, oversight, and accountability; but on February 28th, the proposed legislation was dealt a potentially fatal blow as it failed to achieve the qualified majority in the EUropean Parliament required to be ratified.
This failure was unexpected, although not entirely surprising. The legislation was pulled from an earlier vote in February when it seemed conditions were unfavourable to its ascension, however last minute negotiations were thought to have calmed the waters prior to being reintroduced for a vote on February 28th. This failed vote, in our opinion, is one of the more consequential ESG developments of late.
The CSDDD was an ambitious regulation aiming to set out obligations for companies to identify, assess, prevent, mitigate, and potentially redress impacts on people and the planet throughout their operations and across their supply chains, and carrying potential fines of up-to 5% of annual global revenue . Starting in 2027, it would apply to larger companies with over 500 employees in the EU region and with net worldwide revenue of 150 million euros or higher. Although European in origin, the regulation would also effectively apply to over 4,000 companies headquartered elsewhere (most prominently in the USA) yet with substantial operations or market activity within the EU.
With France and Germany pulling their support for the CSDDD, it is unclear if the legislation can be revived. This failure marks a turning-point in the EU march toward enhanced sustainability reporting, perhaps suggesting that the recent regulatory additions of the CSRD and SFDR were as much as markets were willing and able to handle. To be sure, corporate sustainability reporting and accountability have come a long way over the last four years, driven largely by EU leadership in this space, but perhaps we have entered a new period of regulatory detente.
Why we find this development so noteworthy is because the assumed ascension of the EU-CSDDD was already leading to material developments in corporate reporting across the globe. Over the last 12 months, the majority of small and medium-sized companies we work with have experienced greater requests for ESG-related data as part of the sales relationships into the supply chains of larger companies. A few of these larger companies were requesting such data from their current and potential suppliers because they had willingly committed to do so, however most were requesting this data as a step toward building the reporting infrastructure that would be needed to remain compliant with emergent regulations–and the EU-CSDDD in particular.
The EU-CSDDD, although not yet active, was already shaping up as a catalyst for enhanced ESG-related reporting and disclosure for companies that the legislation was not even directly applicable to. The ripple effects of the proposed EU-CSDDD were more prominent than any other ESG-related regulation of late, and now with its failure at the EU Parliament, it remains to be seen if these ripple effects can carry enough momentum to continue to catalyze enhanced reporting or not.
Should the EU-CSDDD regain life in the next congress–a tall hurdle to be sure–the race to comply will be back on, but for now, the pressure for ESG reporting by small and medium-sized companies is lower than at any time in the past year.
Key Implications:
- PE Firms: The EU-CSDDD did not directly apply to PE firms nor to their portfolio companies, as very few would meet the applicability criteria. The proposed legislation did however carry substantial indirect impacts. Now, much of the effort a PE firm was putting in place to assist portfolio companies in bringing their ESG-related disclosures and reporting up to the increasing demands of corporate clients for whom the EU-CSDDD did apply can be re-oriented toward advancing other ESG-related initiatives perhaps more directly aligned with value creation and protection.
- Portfolio Companies: We anticipate that larger corporate clients who are developing enhanced supply chain reporting and disclosures in-line with the EU-CSDDD will maintain what they have developed so far for the time being. As there is still a chance that the regulation could be revived in the coming year or two, few companies will be in a rush to dismantle what was so carefully being assembled. However, we do not expect companies to introduce novel data requests for their supply chain partners nor to meaningfully expand their data requests beyond the supply chain partners already affected. The failure to ratify the EU-CSDDD has brought a brief reprieve from time-sensitive data requests. This reprieve would be well used by all smaller and medium-size companies to develop a baseline ESG reporting capability–the shock demonstrated by the EU-CSDDD proponents upon its failure is a clear signal that this type of reporting will remain at the regulatory frontier for the near-future.
