Supply Chain Compliance with Human Rights and Environmental Obligations
What Companies Need to Know to Protect Imports and Avoid Penalties in the United States, the European Union, and Germany
20 min read
The United States, the European Union, and Germany have recently adopted or proposed new rules requiring enhanced due diligence in supply chains, targeting human rights and environmental issues. This alert examines key differences among the regimes and highlights compliance considerations.
There is an accelerating movement around the world to hold companies responsible for activity across their supply chains, often down to the raw materials. Some rules are company-specific, meaning they regulate the supply chain on the basis of where the business is registered, while others apply to goods moving across borders regardless of the manufacturer's location. Similarly, some rules apply to anything in the supply chain regardless of whether the good ever enters the jurisdiction, while others are only triggered by import. The risks of non-compliance vary widely, from no enforcement, to penalties, civil actions, and the detainment of goods.
Among the rules and proposals examined herein are: (1) the United States' Uyghur Forced Labor Prevention Act ("UFLPA"), which took effect on 21 June 2022 and Withhold Release Orders ("WROs"); (2) the European Union's ("EU") proposed Corporate Sustainability Due Diligence Directive ("CSDDD"), and proposed Forced Labor Regulation; and (3) the German Act on Due Diligence in Supply Chains (Lieferkettensorgfaltspflichtengesetz, ("LkSG")), which took effect on 1 January 2023. Although this alert highlights developments in these three jurisdictions, the US, Germany, and the EU are not isolated in taking action in this area. Similar measures and proposals in the United Kingdom, France, Australia, the Netherlands, Canada, Norway, and others suggest many jurisdictions will soon follow suit.
US: UFLPA and WROs
The United States has, for almost a century, generally banned the importation of any products mined, produced, or manufactured wholly or in part by forced on indentured child labor pursuant to Section 307 of the Tariff Act of 1930 ("Section 307"), using a process known as WROs. In addition to this general prohibition, the recently enacted UFLPA has garnered significant attention – and anxiety among importers – given the substantial impact on global supply chains. We discuss both below. Please see our previous alerts on the UFLPA here, here, here, and here.
Overview of the UFLPA
On 21 June 2022, US Customs and Border Protection ("CBP") began to enforce the UFLPA, which prohibits the importation of goods produced wholly or in part in the Xinjiang Uygur Autonomous Region ("XUAR"), an autonomous region of the People's Republic of China, or by certain entities affiliated with the XUAR, absent "clear and convincing evidence" that such goods were not produced with forced labor. The UFLPA goes beyond the prohibition outlined in Section 307 by: (1) establishing a "rebuttable presumption" that goods produced wholly or in part in the XUAR or by certain identified entities are made with forced labor, and are therefore subject to the import prohibition; and (2) establishing a high burden of proof for importers to demonstrate otherwise. Importantly, the UFLPA contains no de minimis exception, which means that if any part of a product is produced in the XUAR or by identified entities, the final product is subject to the rebuttable presumption, regardless of the product's country of origin for purposes of duties, or the country from which it was imported. The UFLPA's entry into force significantly heightened the risk that CBP will detain, exclude, or seize imported goods with a nexus to the XUAR, and impose penalties. This risk is especially high for products that the US government has identified as high priority for UFLPA enforcement, such as polysilicon, textiles/apparel, and tomatoes. Recently, CBP has suggested that it may expand enforcement priorities to include dates, polyvinyl chloride, aluminium, and even other regions and entities. Additionally, there is a strong likelihood that CBP will pay especially close attention to imported critical minerals and products containing critical minerals.
Enforcement and compliance under the UFLPA
The US government has issued guidance documents detailing the types of information that importers may provide, and the actions they must take, to demonstrate: (1) that their goods are outside the UFLPA's scope, and therefore are not subject to the rebuttable presumption; or, alternatively (2) by clear and convincing evidence, that goods within the UFLPA's scope were not made with forced labor, that the importer's compliance program has implemented measures identified in the interagency Forced Labor Enforcement Task Force ("FLETF") Strategy, and that the importer has responded fully to CBP's requests for information. Satisfying these requirements is likely to prove difficult, given the nature and extent of the information required, the applicable legal standards, and the fact that supply chains often involve several layers of entities.
- Demonstrating that goods are outside the UFLPA's scope. Prior to or following an attempted entry of merchandise, an importer may argue that goods are outside the UFLPA's scope, because the goods and any of their inputs are sourced completely from outside the XUAR and have no connection to companies on the UFLPA "Entity List". CBP's Operational Guidance provides a non-exhaustive list of the types of information required to establish that an importation is outside the UFLPA's scope, including a detailed description of the supply chain of the imported merchandise and components thereof (covering all stages of mining, production, or manufacture); the roles of entities in the supply chain; a list of suppliers associated with each step of the production process; and affidavits from each company involved in the production process. If the importer succeeds in demonstrating that the goods are outside the scope of the UFLPA, CBP will release the shipments, provided they otherwise comply with US law.
- Overcoming the UFLPA's rebuttable presumption. If an importer acknowledges that its goods are within the scope of the UFLPA (or fails to demonstrate otherwise), it may seek to avoid seizure of the goods and penalties by rebutting the presumption that the goods were produced with forced labor. Importers seeking to do so face a high evidentiary burden, as the UFLPA requires "clear and convincing evidence" that the goods were not produced with forced labor. CBP's guidance indicates that, in addition to providing detailed information with respect to the due diligence an importer conducts to address forced labor risks and supply chain tracing information, importers need to provide information on their supply chain management practices (i.e., internal controls to prevent forced labor risk), as well as information on the workers at each entity involved in the production of the goods in China (i.e., wage payments and production output per worker, worker recruitment practices, and the results of "credible audits" to identify forced labor indicators). With reference to US and international standards, resources and tools (including the UN Guiding Principles on Business and Human Rights and the OECD Guidelines for Multinational Enterprises), FLETF provides more detailed guidance on the due diligence, supply chain tracing (and chain of custody), and supply chain management measures importers would be expected to implement to demonstrate compliance with the FLETF Strategy.
Enforcement and Compliance under WROs
Prior to the enactment of the UFLPA, CBP was already authorized under Section 307 to detain goods reasonably believed to be mined, manufactured or produced, wholly or in part, by forced labor, including convict labor, forced child labor and indentured labor. This detention occurs through the issuance of a WRO. CBP initially detains, rather than seizes, shipments subject to a WRO. Within three months after receiving a notice of detention, importers then need either to prove admissibility or to export or destroy the goods, which CBP excludes from admission into US commerce. Proof of admissibility, in this instance, means proof that the producer or its suppliers used no forced labor to manufacture the goods, from raw materials to final assembly.
CBP can also escalate the matter that the WRO began, publish a more formal Finding, and begin seizing imports. A seizure is a more severe consequence than a mere detention, because seizure can result in forfeiture. A WRO/Finding remains in effect until revoked, and CBP may revoke or modify it only if evidence showed the subject goods were not made with forced labor; were no longer being produced with forced labor; or were no longer being, or likely to be, imported into the United States.
EU: We highlight two pending EU legislative proposals addressing human rights and environmental issues in the supply chain: (1) the proposed CSDDD which would require due diligence on human rights and environmental issues throughout supply chains inside and outside of the EU and carries the potential for civil penalties; and (2) the proposal for a regulation prohibiting products made with forced labor from being introduced to the Union market, which would target and ban the import/export of any products made with forced labor.
EU: Proposal for a Corporate Sustainability Due Diligence Directive ("CSDDD")
In February 2022, the European Commission adopted a proposal for a CSDDD. The aim of its provisions is to support sustainability goals and human rights protection by ensuring that businesses themselves confirm their operations inside and outside the European Union do not violate enumerated environmental standards and obligations. The final text of the CSDDD is still under negotiation between the Council, the Commission, and the Parliament. Please see our previous alerts on the CSDDD here and here.
Obligations under the proposed CSDDD
The proposed CSDDD would introduce human rights and environmental corporate due diligence requirements, and could also change directors' duties for companies covered by the legislation. These due diligence obligations would extend to in-scope companies' worldwide value chains, regardless of whether the concerned products are sold in the EU or not. In-scope companies would be required to ensure that human rights and environmental standard violations covered by the CSDDD do not occur in their operations, nor in the operations of companies in their supply chains with which they have a certain relationship. Exactly what relationships will be covered is still under discussion.
(a) Human rights and environmental corporate due diligence duty
Due diligence requirements would apply to large EU as well as non-EU companies, if they are active in the region, regardless of industry. Lower thresholds on size apply to companies in sectors deemed to be "high risk". In-scope companies would be required to identify actual or potential adverse impact of their operations, in addition to the impact of their subsidiaries and other entities in their value chains. They would also have to address (rather than merely identify) actual adverse impacts, which are defined as violations of specific international human rights and environmental standards.
(b) Environmental plan
Under the Commission's proposal, certain large companies are required to develop a plan to ensure that their business strategy is compatible with limiting global warming to 1.5°C, in line with the Paris Agreement. This plan would have to include emission reduction objectives.
(c) Directors' duties
Directors of covered EU companies could also be subject to human rights and environmental duties, with potential effects on their remuneration. These duties could include establishing and monitoring the execution of the due diligence processes and integrating due diligence into the company's strategy. In addition, when acting in the best interest of the company, directors could have to consider the long-term consequences of their decisions on human rights and the environment. However, the Council has proposed the deletion of such duties and any variable linked to remuneration.
Compliance with the CSDDD would be enforced through the supervision of designated national authorities. In addition, the Commission's proposal introduces civil liability for damages resulting from failure to comply with the obligations in the CSDDD (the Council proposes to make liability conditional on fault).
Once the final text is negotiated, likely within the coming year, and the CSDDD enters into force, EU Member States will have to transpose its provisions into national legislation. To this end, the Council has proposed a phased implementation over a number of years.
EU: Proposal for a Regulation Prohibiting Products Made With Forced Labor
In September 2022, the European Commission published a proposal for a Regulation prohibiting the sale of products made with forced labor in the EU market (the "Proposed Regulation"). The Proposed Regulation would prohibit placing or making these products available in the EU market, as well as their export outside the EU.
The prohibition would apply to all products, including their components, regardless of geographic origin. We have previously discussed the Proposed Regulation here.
Competent authorities designated by EU Member States would ensure compliance with the rules established by the Proposed Regulation. The competent authorities would have the power to investigate and make enforcement decisions. The authorities would also be tasked with prioritizing investigations of economic operators active in stages of the supply chain in which forced labor is most likely. If potential violations are identified, the authorities would perform inspections both in the EU and in third countries.
In the case of a violation, the authorities would be able to issue decisions (i) prohibiting the product made with forced labor from being sold or made available in the EU market, or being exported from it; (ii) ordering that the product be withdrawn from the EU market; and (iii) requiring economic operators subject to the investigation to dispose of the product. If economic operators fail to comply with the authorities' decision, they would be subject to penalties.
In addition, customs authorities would have a specific role in controlling products entering or leaving the EU market. They would be able to request information from economic operators, such as detailed information about their supply chains, processing operations, and existing due diligence and monitoring practices.
The Proposed Regulation prohibiting products made with forced labor from entering the EU market will enter into force after the Council and the European Parliament jointly agree on, and individually approve, the final text.
Germany: Supply Chain Due Diligence Act (LkSG)
The LkSG, which took effect on 1 January 2023, imposes for the first time in Germany, a binding obligation on companies to establish, implement, and update due diligence procedures to improve compliance with specified human rights, including the prohibition of forced labor and slavery and, to a limited extent, environmental protection in supply chains. The obligations also apply outside of Germany where the company meets certain size and registration criteria. Moreover, certain companies based in Germany will also be subject to the EU measures discussed above. The LkSG defines "supply chain" as all products and services of a company. It includes all steps, both at home and abroad that are required to manufacture the products and provide the services, starting with raw material extraction and ending with delivery to the end customer. As part of the LkSG, companies must establish appropriate and effective risk management in relation to both their own business, as well as that of any direct suppliers. Indirect suppliers may also require risk analysis in specific cases. Please see our previous alerts on the LkSG here and here.
Environmental, Social, and Human Rights protected under the LkSG
The rights at issue are identified by reference to the human rights conventions and three selected environmental agreements listed in the Annex to the LkSG. The purpose of the LkSG's due diligence obligations is to improve compliance with certain prohibitions set out in these international agreements, such as prohibitions of child labor, forced labor and slavery, among several others.1 These obligations also promote the protection of worker safety and freedom of association at places of employment. In addition, companies must comply with certain key prohibitions stipulated by three international conventions (namely the Minamata Convention on Mercury, the Stockholm Convention on Persistent Organic Pollutants, and the Basel Convention on the Control of Transboundary Movements of Hazardous Wastes and their Disposal).
Obligations under the LkSG
Companies must introduce due diligence processes on the human rights and environmental protections specified by the LkSG. These processes include establishing an appropriate and effective risk management system; defining in-house responsibility (e.g., by appointing a "human rights officer") and regularly informing senior management (at least once a year); performing a regular risk analysis; implementing preventative actions; developing a corporate human rights strategy; adopting risk-based control measures to verify compliance with the human rights strategy; taking remedial actions; introducing a complaints procedure; and annual reporting.
The German Federal Office for Economic Affairs and Export Control ("BAFA") is the relevant authority for reviewing compliance with the LkSG. BAFA will monitor the due diligence obligations and respond to substantiated complaints. If BAFA determines that any violation of the LkSG has occurred, it may impose a penalty payment of up to EUR 50,000 or a fine of up to EUR 800,000. In the case of companies with average annual sales of more than EUR 400 million, BAFA may fix the fine for certain violations at an amount equal of up to two per cent. of the company's average annual sales. In addition, violations can result in exclusion from public procurement procedures for up to three years.
In addition to enforcement by BAFA, the LkSG allows domestic trade unions and non-governmental organizations to sue on another's behalf, allowing these entities to take legal action if a violation of an "eminently important legal position" is to be asserted in court. In addition to bringing a legal action, potential victims of the enumerated environmental, social, and human rights resulting from non-compliance due diligence requirements under the LkSG may file a complaint with BAFA.
While it was not intended for LkSG violations to establish a "new" basis for claims under tort law, general tort law (e.g., § 823 para. 1 German Civil Code) provides those affected by LkSG violations with the ability to bring legal action. In the event of due diligence violations under the LkSG, companies may therefore find themselves exposed to both administrative proceedings and claims brought in the civil courts.
The LkSG became effective 1 January 2023 and applies to companies (irrespective of their legal structure) that have their central administration, headquarters, or registered office in Germany, provided that the company has more than 3,000 employees in Germany. Employees posted abroad for a limited period are also taken into account in the total number of employees. In addition, the LkSG now includes in its scope foreign companies that have a branch office in Germany and, in general, at least 3,000 employees in Germany (not taking into account employees seconded to a foreign country). On 1 January 2024, the threshold of 3,000 employees will be reduced to 1,000 employees for both German and foreign companies.
|EU CSDDD||EU Regulation Banning Products Made With Forced Labor||DE LkSG||US UFLPA|
In force since 1 January 2023
|In force since 21 June 2022|
EU companies with 500+ employees and net EUR 150 million+ turnover worldwide OR 250+ employees and net EUR 40 million+ turnover worldwide, provided that at least 50% of this turnover was generated in high-impact sectors.
Non-EU companies active in the EU meeting the turnover thresholds set out for EU companies.
Economic operators (both natural and legal persons, including associations of persons) that sale or make products available in the EU, or which export products from the EU market.
Companies based in Germany with at least 3,000 employees in Germany. From 1 January 2024, the threshold will be reduced to 1,000 employees.
|All importers in the United States, regardless of size.|
Requirements for due diligence policies and processes
Identify and address adverse impacts of their operations to human rights and environment.
In its negotiating position, the Council proposes that when addressing all adverse impacts is impossible, companies prioritize based on severity and adverse impact likelihood.
No due diligence requirements, but competent authorities to take due diligence policies into account in the context of investigations.
Due diligence requirements, including the obligation to (i) regularly conduct an "appropriate risk assessment" to identify risks to protected human rights and environmental interests in their own field of business or at direct suppliers, (ii) implement preventive measures, (iii) take remedial action, (iv) implement a complaints procedure/grievance mechanism, and (v) allocate responsibility for compliance within the company; required for business activities carried out both in Germany and abroad, but with differing standards for differing risk spheres, i.e., the company's own field of business, direct suppliers, and indirect suppliers.
|The law itself does not impose any due diligence/governance requirements; however, when imports are detained under UFLPA, there is a high evidentiary threshold for overcoming the rebuttable presumption. Therefore, to ensure compliance importers should take comprehensive supply chain management measures and maintain detailed documentation.|
|Transparency/ reporting requirements||Companies must publish on their website an annual due diligence statement.||Competent authorities must inform the European Commission about the decisions taken. The Commission will make available such decisions on a dedicated website.||Companies are obliged to internally document their compliance with the due diligence/risk management obligations on an ongoing basis, with relevant documentation to be retained for at least seven years. They must also publish annual reports on their fulfilment of their statutory due diligence/risk management obligations on their website for seven years and submit the report to BAFA.||None.|
|Human rights areas covered||Civil rights, political rights, economic, social and cultural rights, child rights, persons with disabilities' rights, indigenous people's rights, national or ethnic, religious and linguistic minorities' rights, and labor rights.||Prohibition of forced labor.||Prohibitions of child labor, forced labor and slavery; unequal treatment on the grounds of national, social or ethnic origin, health status, disability, sexual orientation, age, gender, political opinion, religion or belief; the withholding of an appropriate wage and forced eviction or unlawful seizure of land; the prohibition of hiring or using private or public security forces involving torture or injury to life or limb; the protection of workers' safety and freedom of association at places of employment; and "the prohibition of an act or omission in breach of a duty to act that goes beyond the enumerated human rights, which is directly capable of impairing a protected legal interest in a particularly serious manner, and is evidently unlawful based on a reasonable assessment of all circumstances in question."||Prohibition of forced labor.|
|Environmental areas covered||Resource use, endangered species protection, activities involving modified living organisms, use and trade of certain chemicals and substances, and waste management.||N/A||Issue areas falling under three enumerated conventions: Minamata Convention on Mercury, Stockholm Convention on Persistent Organic Pollutants and Basel Convention on the Control of Transboundary Movements of Hazardous Wastes and their Disposal.||N/A|
|Enforcement mechanisms/ civil liability||
Supervising national authorities designated by EU Member States.
Civil liability to compensate victims of damages resulting from failures to comply with the obligations set by the CSDDD.
Competent authorities designated by Member States with power to investigate and adopt enforcement decisions.
Penalties applicable in line with national legislation.
BAFA has been given responsibility for reviewing compliance with and enforcement of the obligations arising from the LkSG.
BAFA is authorized to: (i) summon persons; (ii) order companies to submit a plan to remedy any deficiencies, including a clear timeline for its implementation; (iii) order companies to comply with obligations; and (iv) impose coercive fines of up to EUR 50,000 if necessary to enforce its orders.
Penalties for noncompliance may be up to EUR 100,000 or up to 2% of the average worldwide annual sales for large companies.
A violation of the obligations arising under the LkSG shall by themselves as such not give rise to civil liability, but any civil liability arising independently from the LkSG remains unaffected. Importantly, under international private law, German substantive law may not necessarily apply in case of infringements occurring outside Germany. However, the Law enables victims asserting to have suffered a violation of an eminently important legal interest to authorize German trade unions and NGOs to conduct civil proceedings in Germany on their behalf.
|CBP has the authority to detain, exclude, or seize goods with a nexus to the XUAR, and to impose civil penalties equivalent to the value of the merchandise involved.|
1 Other core prohibitions include the prohibitions against unequal treatment on the grounds of national, social or ethnic origin, health status, disability, sexual orientation, age, gender, political opinion, religion or belief, the withholding of an appropriate wage and forced eviction or unlawful seizure of land, and the prohibition of hiring or using private or public security forces involving torture or injury to life or limb.
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