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Lieferkettengesetz: How to prepare for the Supply Chain Act

On January 1^st 2023, businesses across Germany must comply with Lieferkettengesetz, a new German law mandating proper due diligence in the supply chain. From environmental degradation to modern slavery, Lieferkettengesetz takes aim at a whole host of pressing issues through operational and reporting obligations underpinned by hefty fines and the threat of civil claims. Companies can no longer turn a blind eye to the behaviour of their suppliers.

But what exactly is Lieferkettengesetz, who does it affect, and what must a company do to comply?

In this article we discuss the purpose, practicalities and implications of the German due diligence law, and offer a three-point plan to improve transparency in your supply chain and stay on the right side of the law.

What is Lieferkettengesetz?

In 2021, a study by the German government revealed that only 13-17% of German companies perform adequate supply chain due diligence with respect to human rights. Among growing calls for corporate Germany to shoulder more environmental and humanitarian responsibility, in June of the same year, the Bundestag passed the Act on Corporate Due Diligence in Supply Chains, or, as it is more commonly termed, ‘Lieferkettengesetz’.

Based on the UN’s Guiding Principles on Business and Human Rights, the act targets a number of human rights transgressions in the supply chain, including: child labour, forced labour and slavery; the denial of workers’ rights, such as occupational health and trade union rights; discrimination and unequal treatment; and the failure to comply with environmental standards and environmental rights in the context of human health and suffering.

The Lieferkettengesetz will prohibit all of these behaviours in the supply chain through mandating a number of reporting and risk management solutions. These include:

The adoption of a policy statement that describes the procedures the company will implement to comply with the Supply Chain Act
The establishment of a risk management system and the introduction of regular risk analyses
The implementation of prevention measures within the organisation and the supply chain
Regular and transparent documentation and reporting

If a company fails to meet its obligations, it faces heavy fines: up to 800,000 EUR for smaller companies, and up to 2% of annual worldwide turnover for companies with a turnover of over 400 million EUR. Not only that, under the terms of the act, victims of human rights abuses will be able to file civil claims with the German courts, while trade unions and NGOs will be able to file claims on the victims’ behalf. This could lead to potentially exorbitant legal costs and settlements.

Who does Lieferkettengesetz affect?

Lieferkettengesetz applies to any companies who have their head office, a branch office, their administrative headquarters or a registered office in Germany. This includes multinationals with operations in Germany. The act will be implemented in phases. From January 1^st 2023, companies with over 3,000 employees must comply – that’s an estimated 600 German companies – and from January 1^st 2024, the act will be expanded to companies with over 1,000 employees. For multinationals, the total number of employees is calculated as the number of employees working in Germany.

Tier 1 suppliers are the primary focus of the Supply Chain Act, whereby the human rights obligations must be contractually agreed. The Supply Chain Act is lighter touch for tier 2 suppliers, who are to undergo ‘passive monitoring’ with respect to human rights.

All this does not mean smaller companies are off the hook. Firstly, the size brackets will probably be widened in the future. In 2026, the German government will undertake a review of Lieferkettengesetz with expansion of the act likely in mind, while further supply chain regulations have been mooted at a European level, which could lower the company size thresholds and broaden the obligations.

Secondly, the Supply Chain Act will affect more than those directly under its jurisdiction. In order to mitigate exposure, the larger companies will inevitably mandate greater due diligence throughout their own supply chains, with indemnities running all the way down. The ripples of Lieferkettengesetz will be felt throughout the economy, from multinationals to SMEs.

In short, regardless of the size of the company, it will feel the impact of Lieferkettengesetz. It’s important for all companies to implement the appropriate controls now – from a legal standpoint, and, needless to say, a moral standpoint too. And don’t forget, with greater societal focus on responsibility and sustainability, a loss in the court of public opinion could be far more costly than a fine.

How to prepare for Lieferkettengesetz

Simply put, the best way to comply with the Supply Chain Act is to improve transparency in your supply chain. But what does this mean and how can it be achieved?

Before we start with the practicalities, let’s discuss mindset, because complying with the Lieferkettengesetz should not be seen as a cost – but as an opportunity.

At OCM, we believe a sustainable and responsible supply chain is not only a moral and soon-to-be legal obligation, but an economic force for improving performance. For example, ensuring that workers throughout the supply chain are treated fairly and paid properly promotes an inclusive working environment which in turn enhances the quality of the end product or service, while approaching the local environment with respect can, for instance, maintain or even increase future crop yields.

We encourage companies to truly embed a sustainable and responsible mindset in their operations, and to use Lieferkettengesetz as one of several levers to ensure this happens at every level, from the board room to the factory floor and out into the supply chain.

So, with this in mind, here is our three-point plan to prepare for Lieferkettengesetz:

1. Supply Chain Risk Assessment and Remedial Action

Left to their own devices, supply chains grow organically, branching off into regions and industries that weren’t necessarily the company’s first intention. Often is the case that the supply chain department does not fully understand or have visibility of its own supply chain. To that end, the first step towards a transparent and responsible supply chain is to perform a comprehensive audit and risk assessment.

This should be performed on a supplier-by-supplier basis in conjunction with the suppliers themselves. When performing the audit, the following questions must be answered:

Which country does the supplier operate in? Does this country have a reputation for human rights and environmental abuse? Does the country have the appropriate laws and controls to prohibit environmental degradation and human rights abuse and are the laws properly enforced?
What type of work is the supplier performing? Is the work largely manual? If so, who is performing the work and under what conditions?
What controls and policies does the supplier already have in place to prevent human rights abuse and environmental damage? How is their supply chain structured? When interviewing the suppliers, how receptive are they to change?

Once these questions are answered, the team can quickly build up a risk profile of their suppliers. Any suppliers identified as high-risk must be addressed immediately, either by working with the supplier or by conducting a procurement exercise to find a new partner. In cases where the supplier is deemed high-risk but there is a high dependency and little room for maneuver, an entirely new supply chain strategy may be required, such as changing the region of operation or restructuring the supplier tiering.

2. Process and Organisational Transformation

The Supply Chain Act does not only require that companies bring their supply chains in line as a one-off exercise, it mandates proper processes and due diligence for the future. In this respect, the exercise is as much an organisational transformation as it is a supply chain transformation.

To begin with, the company must adopt a policy statement describing how it will comply with the supply chain act. The policy statement will be publicly available and should be agreed between the executive and the department heads in conjunction with legal advice.

Following the adoption of this policy statement comes the hard work – the company must practice what it preaches.

The major changes are highlighted below:

Appointing a Supply Chain Act Lead in Germany: This could be through the expansion of an existing role or, in industries where exposure to risk is high, through the introduction of an entirely new role in and of itself.
Embedding new decision-making processes and risk analyses: Any supply chain decisions must take into account the potential for human rights transgressions. From including checkpoints in internal decision-making committees to altering requirements in tender documentation and assessments, the decision-making process must include effective due-diligence and risk analyses. These risk analyses will be similar to those performed in the initial supply chain audit and risk assessment. Continue to ask the right questions and challenge the wrong behaviours.
Reporting and documentation: Transparent documentation and reporting is required on two levels. Firstly, the supplier must report on its activities and efforts to comply with the supply chain act. This can be added to any current supplier performance reporting processes, underpinned, as always, by measurable and enforceable KPIs. Secondly, the company itself must produce transparent reporting and documentation in order to comply with the supply chain act, to demonstrate to the authorities – and the general public – that it is taking all necessary measures to keep its supply chain responsible.
Implementing complaint procedures: As part of the Supply Chain Act, companies must put in place processes that allow for human rights complaints and whistle-blowing. The processes should, as far as possible, encourage such complaints by, for example, being anonymous. Needless to say, when such complaints are received, they should be acted upon without delay. To that end, the appropriate remedial processes should also be in place. All of this will fall under the responsibilities of the Supply Chain Act Lead.
Training employees: The policy statement should be disseminated throughout the company in order to spread awareness of the Supply Chain Act. For those more directly affected by the act, such as the supply chain and procurement departments, a number of training sessions, directed by the Supply Chain Act Lead, should take place, informing the employees of the new processes and controls.

3. Review and Adjust

As mentioned earlier, the German Supply Chain Act may be expanded to incorporate smaller companies, or actions at an EU level may impose new rules. Whatever is the case, the act is unlikely to become more lenient. The act is turning the screw on human rights abuses, and rightly so.

Even less certain is the state of affairs around the world. Climate change, economic downturn, conflict – hardship is often a precursor to human rights abuses.

To that end, it is important to regularly review the supply chain in the context of global events, and to head off at the pass any developing risks and issues.

Of course, much of this will be caught by the processes installed in the previous phase, but it also pays to review the processes themselves to ensure they are working as designed. Maintaining transparency requires constant effort.

When should preparation for Lieferkettengesetz begin?

To be blunt, preparation for the German Supply Chain Act should have started yesterday.

Firstly, the changes required are long and complex. To screen and select the right personnel; to design, implement and embed process changes; to train the supply chain department and associated departments; and to ensure that all is working smoothly before the start date of January 1^st 2023 – all of this takes time and effort, and there’s no room for getting it wrong.

And that’s not to forget that in some cases, companies may have to extricate themselves from incompliant supplier relationships. At best, this could mean a moderate number of tender processes; at worse, the restructuring of the entire supply chain. Such activities can take months, or longer.

Secondly, as previously alluded to, a sustainable, responsible supply chain will not only fulfill moral and legal obligations, it will improve performance too. To that end, a move towards a sustainable supply chain should not only adhere to a legal deadline, it should be happening now, and at speed, to enhance prospects in the immediate and long term.

How OCM can help with the preparations for Lieferkettengesetz

Either your house is in order. You already have the appropriate controls in place and are looking towards the January 1^st 2023 deadline with little apprehension or stress. Not much will change as the new year rolls in...

Or more likely, you are beginning to realise the scale and complexity of the changes required to comply with the Supply Chain Act. Either the transformation hasn’t started yet, or it isn’t progressing quickly enough to meet the deadline. You are bogged down in ineffective meetings, without the proper expertise to make impactful decisions. Your employees are stretched too thin, trying to juggle day-to-day responsibilities with a project that, if not carried out properly, will have heavily punitive, even existential, consequences.

Whether you’re one of the 600 companies affected by the first wave of the German supply chain act, or one of the thousands that will come under its jurisdiction in 2024, or a tier 1 supplier under contractual obligations to comply with Lieferkettengesetz, the challenges you are facing are not unique – and help is at hand.

At OCM, we have years of experience in enacting complex supply chain transformations governed by stringent legal obligations, and our ethos regarding the sustainable supply chain means our changes are built to last. We can provide the resources, expertise, and drive to bring your company in line with the German Supply Chain Act.

Interested in finding out more about our modules and services or would you like to talk to us about how we can help? Please don’t hesitate to get in touch, we would love to hear from you.

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