A German Supply Chain Due Diligence Act ESG Reporting & Risk Explainer - Last Updated: January 2, 2024

What is the German Supply Chain Due Diligence Act (Lieferkettensorgfaltspflichtengesetz)?

In July 2021, the German federal government passed the German Supply Chain Due Diligence Act, known in German as Lieferkettensorgfaltspflichtengesetz (LkSG). This important ESG supply chain transparency act goes into effect on January 1, 2023 for organizations with over 3,000 employees currently doing business in Germany. Starting January 1, 2024, companies with over 1,000 employees will have to comply with LkSG too. Businesses with a smaller workforce may also be impacted by the law if they're part of a larger company’s supply chain.

The main goal of Germany's Supply Chain Due Diligence Act is to protect human rights and manage material environmental risks across supply chains. The law examines a company’s own business, as well as its direct (Tier 1) suppliers. Tier 1 suppliers are companies that directly provide goods and services to the primary company under the law.

The act's requirements are subject to some degree of interpretation, but the law mandates that companies only need to review their other, indirect (Tier 2+) suppliers if they have substantial knowledge that human rights or environmental violations are occurring elsewhere in their supply chain.

Who does the German Supply Chain Due Diligence Act (LkSG) apply to?

The German Supply Chain Due Diligence Act applies to companies with >1,000 employees doing business in Germany who meet one or more of the following requirements:

  1. Headquartered in Germany
  2. Have registered offices in Germany
  3. Are a foreign or international company with branch offices in Germany

In 2023, it’s projected around 700 companies were required to follow the Act. In 2024, this number will increase to aproximately 2,900 to 3,000 companies.

What ESG and human rights risk factors does the German Supply Chain Due Diligence Act (LkSG) focus on?

LkSG is, fundamentally, a risk management and human rights protection law designed to help companies and supply chains identify, prevent, and correct human rights and environmental abuses. Human rights risks cited under LkSG include but are not limited to:

  • Child labor
  • Forced labor
  • Modern slavery
  • Wage discrimination
  • Gender and ethnic discrimination and abuse
  • Unlawful eviction

Some environmental risks included under Germany's Supply Chain Due Diligence Act are:

  • Manufacturing, use, and handling of mercury products (according to the Minamata Convention)
  • Production and use of banned chemicals (according to article 2, paragraph 1 of the Stockholm Convention on Persistent Organic Pollutants)
  • Imports and exports of hazardous wastes (according to the Basel Convention)
  • Contamination of soil, water, and air, as well as excessive water consumption
  • Other significant forms of environmental pollution

LkSG ESG and human rights risk management and due diligence requirements

LkSG looks to reduce corporate human rights and environmental risks and violations by obligating companies to implement the due diligence and compliance procedures:

  1. Develop and put a supply chain environmental and human rights risk management plan in place
  2. Assign internal organizational responsibilities for compliance and due diligence activities
  3. Create a policy statement on the company’s human rights strategy
  4. Establish grievance mechanisms for workers
  5. Introduce and implement risk and violation prevention measures within a company's own business operations and in relation to its direct Tier 1 supplier relationships
  6. Take necessary remedial actions for violations within its business operations and with direct suppliers
  7. Release a public report that outlines the company's due diligence procedures, key risks, and actions on human rights and environmental issues in the supply chain
  8. Carry out regular, ongoing risk analyses

According to a report from the German government on business and human rights published in October 2021, 80% of mid-size and large companies in Germany today are not doing enough due diligence on their supply chains to be compliant with LkSG, so major investment and effort will be required by German and larger international companies to meet Germany's standards.

It’s expected under the act that companies will need to conduct a risk analysis of their organization, direct suppliers, and relevant indirect suppliers at least once a year, which must then be disclosed via a public report and shared with the German Federal Office for Economic Affairs and Export Control. The purpose of this analysis is to identify and prioritize risks in a company's supply chain and take adequate measures when necessary.

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Compliance costs and non-compliance penalties in Germany's Supply Chain Due Diligence Act (LkSG)

The German Federal Office for Economic Affairs and Export Control (BAFA) will be the responsible governing body for reviewing compliance under the Act. It’ll review the due diligence reports submitted by companies annually.

If BAFA finds violations under LkSG, it will fine companies up to €50,000. If a company has annual revenues of over €400 million, it may have to pay fines up to 2% of its annual revenue. Companies fined more than €175,000 may be excluded from public contracts in Germany for up to three years.

If someone’s rights were violated under the Act, nongovernmental agencies and trade unions can sue on their behalf. Violations under LkSG cannot give rise to civil liability.

How can your organization prepare for LkSG and ensure sufficient supply chain due diligence?

From Apple and Adidas to Siemens and Volkswagen, companies around the world are actively taking steps to engage their vendors and suppliers more closely on human rights, sustainability, and ESG risks. Issues like forced labor in Xinjiang and worsening climate change continue to elevate the importance of supply chain traceability, transparency, and sustainability in 2022.

If your organization is impacted by LkSG (or might be) and you haven't started mapping your supply chain and engaging suppliers in these areas, your compliance risk may be significant and now is the time to take action - immediately. Assess your Tier 1 supply chain relationships and risks, assign an internal team, committee, or individual to take responsibility for supply chain due diligence, and implement a clear, well-resourced LkSG compliance plan and management system within your overall sustainable procurement strategy.

Germany Supply Chain Due Diligence ESG Scorecard Risk

A supply chain mapping, supplier engagement, due diligence, and ESG risk assessment system provides important data, governance, and visibility layers around your compliance efforts with Germany's Supply Chain Due Diligence Act.

Your organization should also be mindful that if it meets eligibility under LkSG, your organization will also likely need to start complying with the EU-wide Corporate Sustainability Due Diligence Directive (CSDDD). While the LkSG and CSDDD embody several of the same principles and disclosure areas, the CSDDD also contains specific compliance requirements for larger companies that do not fall under LkSG. For more information, please refer to our Corporate Sustainability Due Diligence Directive (CSDDD) explainer here.

For more guidance on managing ESG performance and risk in your supply chain, we recommend reading our guides to sustainable procurement and improving ESG and sustainability across your supply chain.

Your Next Steps Managing Compliance with Germany's Supply Chain Due Diligence Act (LkSG)

German, European, and international, enterprise businesses face growing ESG compliance obligations doing business in Germany and the European Union (EU) overall. This includes not only the Supply Chain Due Diligence Act (LkSG), but also DNK (Deutscher Nachhaltigkeits Kodex, the German Sustainability Code), the EU Corporate Sustainability Reporting Directive (CSRD), and the European Sustainability Reporting Standard (ESRS).

As Germany and the EU standardize sustainability and ESG reporting for companies across Europe, most large European businesses need to take steps in the coming year to develop robust ESG implementation, management, and reporting practices to meet their obligations to regulators, investors, and customers.

For organizations in the early stages of their sustainability, ESG, and supply chain due diligence reporting roadmap, we have a few general recommendations, additional reading, and suggested next steps:

Materiality assessment - Before collecting data, engaging suppliers, or thinking about preparing your first report, you should conduct a "Materiality Assessment" and/or supply chain assessment to help determine what your top supply chain ESG and human rights issues and risks are. A materiality assessment is a project which determines and ranks the most material themes for your business based on market data, stakeholder interviews, and surveys. For example, a healthcare company might focus on healthcare access, affordability, innovation, and its sourcing operations. Pick and rank the right sustainability themes depending on your organization’s mission, sector, model, and ESG maturity.

ESG and supply chain data systems and process - While this might go without saying, in order to report your organization's supply chain risks and KPIs, you need to know what they are - with a high degree of accuracy. Your materiality process can help guide you toward the main ESG, sustainability, and human rights themes you may need to focus on and collect data around. Many organizations start their due diligence and reporting with relatively simple spreadsheets, surveys, and documents, but things can get complex fast - particularly for larger companies. If you're an organization with a medium-to-large or complex environmental footprint, you likely need dedicated sustainability reporting and data management software, like the kind we design here at Brightest to help organizations stay ESG compliant. Ongoing report archiving, version control, and governance are also important to think about, since you'll be reporting every year.