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An incoming European law promises increased regulatory scrutiny and potential criminal liability for large firms when a failure to apply due diligence to their global supply chains leads to complicity in environmental damage or human rights abuses, while directors could soon see their pay linked to their action on climate.

Government delegates and MEPs reached a provisional agreement on a new Corporate Sustainability and Due Diligence Directive (CSDDD) in the early hours of Thursday (14 December), effectively finalising a hotly debated piece of legislation intended to replace voluntary schemes with concrete obligations for companies operating in the EU.

The law – subject to formal endorsement by the European Parliament and EU Council – obliges companies to examine potential adverse effects not only of their own operations, but also those of their subsidiaries, and their business partners along the supply chain.

It applies to EU firms with more than 500 employees and a net worldwide turnover of €150m, and firms headquartered outside the bloc whose European turnover exceeds €300m. Lower thresholds apply to companies operating in “high-risk” sectors, including textiles, forestry and mineral extraction.

Lara Wolters MEP (Netherlands/Socialists & Democrats) – who headed the parliamentary negotiating team – described the agreement as a “historic breakthrough”. Speaking to reporters after the marathon overnight talks, the Dutch lawmaker said companies would no longer be able to turn a blind eye to “irresponsible business practices” such as using child labour to mine cobalt or rainforest degradation linked to imported soy.

“If harm does occur, then this legislation makes it possible for victims to sue companies who failed to take their due diligence seriously,” Wolters said. Under the deal, persons affected will have five years to launch claims for damages. In addition to potential civil action, companies that are found to be in breach of the law risk fines of up to 5% of their annual turnover.

Justice Commissioner Didier Reynders said the EU executive’s proposal was intended to move from a voluntary to a mandatory approach, applying the same standard to all member states. “We have two systems to control the process: one is administrative control by the supervisory bodies in all the member states…but also the civil liability,” Reynders said, referring to the new opportunities for victims to seek redress through the courts.

Environmental NGOs criticised the fact that the due diligence requirements do not apply fully to the financial sector, however, although there is a review clause potentially allowing for its future inclusion.

Financial sector shielded from full impact of directive

“Despite the historic opportunity, the negotiators agreed that financiers must be allowed to freely violate human rights and worsen the already poor health of the ecosystems,” said Uku Lilleväli, a sustainable finance specialist at the WWF European policy office.

Wolters acknowledged that the financial sector was not covered to the extent demanded by the European Parliament. “Financial institutions are in as regards their own operations,” Wolters said, but acknowledged they were excluded “temporarily” from the scope of the directive in terms of taking responsibility for the activities of firms in which they might invest.

But all firms, financial included, will be obliged to “adopt and put into effect” a transition plan for climate change mitigation. A novel provision means that corporate pay should be linked to, as Wolters put it, “the efforts made by directors and others” to reduce their firm’s carbon footprint.

Oxfam said the political deal was a “significant milestone”, but the UK-based charity’s head of economic justice policy, Marc-Olivier Herman blamed a “regressive business lobby” and support from France, for having “shielded banks and investors” from the impact of the directive, and Germany, for seeking to limit victims’ access to legal redress.

Arianne Griffith, who works on corporate accountability at the NGO Global Witness, was more positive, greeting the legislation as “a groundbreaking new law that could finally curb the unchecked power” of big business, although she described the exemption for banks as “shocking”.