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New compliance requirements

for business partners

New compliance requirements

The coronavirus pandemic has made many companies and consumers more aware of sustainable and ethical business practices. To fend off global competition for markets and investors, companies would be well advised to optimise their entire value chain in line with ‘environmental, social and governance aspects’ (ESG).

The global economic order that developed before the coronavirus pandemic has been under scrutiny for the last year. Global supply chains initially came under a hefty amount of criticism when it became apparent that Europe lacked industrial capacity and was dependent on supplies from China. It is the ‘rebooting’ of the Chinese economy, of all things, that is now stimulating growth at European companies. The discussions currently underway are benefiting from the fact that increased reporting requirements for listed companies around the globe have been in place for some time. Many stock exchanges now require a more in-depth presentation of corporate engagement in the areas of environment, sustainability and governance (known as ESG criteria), in the interest of transparency. 

In the EU, the directive on the disclosure of non-financial information for public interest entities applies as well. Transferred into law in Austria in December 2016 by the Sustainability and Diversity Improvement Act, public interest entities must report on environmental, social and labour issues, respect for human rights and the fight against corruption and bribery. 

These reporting obligations, which were originally intended to generate transparency on the stock exchanges and spark investment decisions, have since developed into an instrument by which companies enter into dialogue with the public and consumers. However, the population’s increased awareness of these issues, due to the coronavirus pandemic, leads to risks in this regard, leaving companies keen to make conflict-prone situations manageable. In turn, this changes the compliance function at the company, especially with regard to third-party due diligence, i.e. the risk assessment of third parties with whom a company enters into collaboration abroad. 

Violations & Sanctions 

With a large proportion of the problematic situations at hand, the phrases ‘ethical sourcing’ and ‘sustainable supply chains’ come into play. The range of typical violations starts with sexual harassment, retaliation by superiors and dangerous conditions at work and extends to exploitation and slavery. Depending on the case, violations can result in criminal sanctions under national law, but often legislators in the states concerned are inactive. For example, the ban on the economic exploitation of children in Article 32 of the UN Convention on the Rights of the Child has only been implemented to a very poor extent. 

From a local, company-focused perspective, it is possible to argue that serious violations of this nature ‘only’ occur with lower-tier suppliers located in countries where these kinds of regulations do not exist, are lax or are not enforced at all. And typically, these suppliers are not even aware that there are specific sustainability requirements that must be met. However, behaviour of this kind can also cause difficulties for other suppliers along the chain. If suppliers start working for large, international and well-known companies, this leads to increased standards in terms of sustainability requirements – but regulatory and media attention will increase, too. It is in precisely these situations that the abuses described above are more likely to be discovered. 

As a further consequence, as soon as problems of this kind become public knowledge and are covered by the media, the companies in question are left facing the risk of reputational damage off the back of this. For investors, this is relevant insofar as the reputational damage also entails a reduction in a company’s value (at least in the short term), which can have a direct impact on the investments held by individual investors. This is also illustrated by the numerous scandals that have dogged large companies from the textile industry in 2020 especially (in this regard, the British fashion companies Boohoo and PrettyLittleThing, among others, were confronted with allegations of serious violations of labour laws and modern slavery provisions in their supply chains). 

Third-Party Due Diligence 

Traditional third-party due diligence, as conducted within the framework of compliance management systems, is primarily focused on the risk of breaches of rules, often in relation to national law or extraterritorial requirements, e.g. through the FCPA, the UK Bribery Act, the Loi Sapin II and others in the field of anti-corruption. Violations can have serious consequences and cost companies a lot of money. This is especially true if the relevant practices are tolerated at high corporate levels. Nevertheless, investors are probably also aware that corruption risks posed by suppliers and other third-party companies, especially in the highly corrupt environment of certain nations, often cannot be ruled out. In this case, simply being able to show how much effort has been made to identify ‘black sheep’ is enough to protect the company’s reputation and avoid fines. 

People’s greater awareness of ESG criteria has changed the risk requirements that companies need to meet. Faced with a public more alert to the issues, it is often not enough for companies to merely document their efforts and insist on compliance with national law. For example, Volkswagen’s promise not to profit from the forced labour of Uyghurs in its car production plant in Xinjiang only caused headshaking. In light of increased ethical requirements, certain business practices are fundamentally unacceptable: they cannot be countered by appropriate operational precautions. Attempts to explain the issue often only make the problem worse and show how unaware some companies still are. 

Given that sustainability considerations have become increasingly important in recent years, across every area of economic life (including in the investment sector), companies need to know their business partners and their business practices in detail before entering into a cooperation with them. This means that they can uncover any problems, namely those of relevance under criminal law and, in any case, under human rights law, before they become an issue, thereby protecting themselves from the negative consequences associated with this. 


AUTHORS:

Mag. Andreea Muresan, Associate at LANSKY, GANZGER + partner
Prof. DDr. Thomas Krüssmann, Senior Expert Counsel at LANSKY, GANZGER + partner

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