Supply Chain Act FAQ

The German Supply Chain Due Diligence Act (LkSG) was passed by the Bundestag in June 2021. Depending on their size, companies have different amounts of time to implement its requirements.

On 23 February 2022, the European Commission presented a draft directive for an EU supply chain law. It is intended to require European companies to ensure that human rights and environmental standards are respected throughout their international supply chains. In many respects, the proposal from Brussels goes considerably further than the German Supply Chain Act, meaning that many companies will face obligations from 1 January 2023.

Implementation of and compliance with the Supply Chain Act apply to companies based in Germany according to their number of employees. If you are thinking, “That does not affect my company”, please bear in mind that your business may still be affected. This may be the case if you are a direct or indirect supplier to a large company, or, for example, a branch of a foreign company with more than 1,000 or 3,000 employees worldwide. In particular, the following so-called high-risk sectors are affected by the mandatory implementation of the EU directive:

• Textiles, clothing and leather;
• Agriculture, forestry and fisheries, including aquaculture;
• Food production;
• Wholesale trade in agricultural raw materials, live animals, timber, food and beverages;
• Extraction of mineral resources;
• Manufacture of metal products, other non-metallic mineral products and metal products; and
• Wholesale trade in mineral resources, basic mineral materials and intermediate products, including metals and metal ores, construction materials, fuels, chemicals and other intermediate products.

The purpose of the Supply Chain Act is to counter human rights violations and environmental damage associated with production and trade. To achieve this, companies are required to fulfil their corporate responsibilities.

Purchasing departments in particular will have more work to do in applying and meeting the requirements of the Supply Chain Act throughout their own supply chains. In an article, OXFAM described the impact on competitiveness very aptly:

“Until now, companies that act responsibly have been at an economic disadvantage. They face higher costs than unscrupulous competitors, for example because they pay a living wage or avoid environmental damage. A legal framework prevents this competitive disadvantage. The Supply Chain Act requires all companies of a certain size to respect human rights and environmental standards.
Some studies even show that companies actively committed to human rights and environmental protection in their supply chains gain economic advantages: they can often attract investors or recruit qualified employees more easily. Investors and employees increasingly prefer responsible, sustainable companies. Such commitment also builds consumer trust and prevents a company’s reputation from being damaged by potential scandals.
For this reason, a number of companies have actively supported statutory regulation in recent years, including Vaude, Daimler, Tchibo and BMW.”
Source: Supply Chain Act: Human rights in business (oxfam.de)

Alongside the familiar issues of child labour, freedom of association, protection from torture, protection of life and health, and environmental protection rules, the Supply Chain Act also includes the following requirements:

• Establishing a risk management system (section 4(1));
• Defining internal responsibility (section 4(3));
• Carrying out regular risk analyses (section 5);
• Adopting a policy statement (section 6(2));
• Establishing preventive measures within the company’s own business operations (section 6(1) and (3));
• And in relation to direct suppliers (section 6(4));
• Taking remedial action (section 7(1) to (3));
• Establishing a complaints procedure (section 8);
• Implementing due diligence obligations concerning risks at indirect suppliers (section 9); and
• Documentation (section 10(1)) and reporting (section 10(2)).

As almost every company forms part of a supply chain in some way, sooner or later your company will also need to address compliance with the LkSG.

The measures needed to implement the Supply Chain Act are extensive. They range from risk analysis and contract amendments to obligations for your suppliers, such as supplier codes of conduct and supplier compliance, including obtaining supporting evidence. The number of measures required to fulfil the Act’s due diligence obligations depends on how well your company’s compliance management and supporting documentation are already established. SMEs in particular often lack the infrastructure needed to meet the requirements. Our experienced consultants can help you quickly and effectively.

The Federal Office for Economic Affairs and Export Control (BAFA) monitors compliance with the Act and imposes sanctions for breaches. Companies should therefore familiarise themselves with the Supply Chain Act and its provisions. Contract terms are also important, as a major customer may reserve a special right to terminate the contract. Such clauses, combined with a BAFA fine, could threaten the existence of any company. Fines for a medium-sized supplier can quickly reach €800,000.

You need to be aware that you may be held liable not only for your own company’s failings, but also for harm along your supply chain. For example, if one of your largest suppliers repeatedly breaches the requirements of the Supply Chain Act and you knowingly accept this, you may also be held liable. Contrary to popular belief, liability does not rest solely with the managing directors or executive board: depending on their involvement, employees down to the third management level or even beyond may also be liable.

Section 8 of the Supply Chain Act requires the implementation of a complaints management system. Its requirements are almost identical to those of the EU Whistleblowing Directive. As the EU has only recently issued a warning to the German government for failing to transpose the directive into national law, the pressure on companies to act is also increasing in this area. A complaints management or whistleblowing system cannot be implemented overnight, as a number of requirements must be met.

The Federal Office for Economic Affairs and Export Control is responsible for enforcing the Act. Violations may result in coercive penalties, fines, or civil or criminal consequences. For example, serious breaches can lead to exclusion from public procurement procedures for up to three years. Do not underestimate the fact that BAFA will receive information about potential violations and investigate it.

Our short check uses a few questions to provide an initial, basic assessment. Please contact us: our experienced consultants will be happy to answer your questions and help you implement the necessary measures. We do not offer standard solutions. We develop our advice, due diligence obligations and associated measures individually for each company. Ask us for a non-binding quotation, because doing nothing will cost far more in the long term than making a one-off investment in implementing the Act.