New EU Deforestation Regulation: Overview and Key Considerations for Companies
The European Union has adopted the new EU Deforestation Regulation, whereby applicable companies must implement a rigorous due diligence process to ensure that certain products and commodities sold in or out of the EU are not the result of, or have led to, deforestation or forest degradation. The commodities subject to the Regulation are cattle, cocoa, coffee, palm-oil, soya and wood, as well as any products that contain, have been fed with or made using these commodities (e.g., leather, chocolate and beef). Once it enters into force, large companies will have 18 months to comply, while small and medium-sized companies will have 24 months. Failure to do so may result in a fine of at least 4% of total annual EU-wide turnover or the seizing revenue made from the sale of the commodities or products.
Companies should review whether (and how) they are caught by the new law and review existing processes, governance frameworks and supply chain risks to ensure that new obligations (e.g., with respect to due diligence) are adhered to.
On May 16, 2023, the European Council formally adopted the EU Deforestation Regulation with the aim of reducing the EU’s contribution to global deforestation. The Regulation essentially prohibits the sale of “Relevant Commodities” and “Relevant Products” (defined below) in or out of the EU unless the company and its supplier of the product can verify that the product does not come from, or has led to, deforestation or forest degradation.
The “Relevant Commodities” covered by the Regulation are cattle, cocoa, coffee, palm-oil, soya and wood as well as the “Relevant Products” detailed in Annex 1 of the Regulation which are products that contain, have been fed with or made using these commodities, such as leather, chocolate and beef. The Regulation will be applicable to:
- “operators” – a natural or legal person who, in the course of a commercial activity, places relevant commodities and products on, or exports them from, the EU market; and
- “traders” – a natural or legal person in the supply chain other than the operator who, in the course of a commercial activity, makes relevant commodities and products available on, or exports them from, the EU.
While the Regulation creates a special sub-category for small and medium-sized enterprises (SMEs) which are granted certain exemptions, applicable companies that wish to sell their Relevant Product in or out of the EU will only be able to do so if the following conditions are met:
- the Relevant Product and its Relevant Commodities does not come from deforested land, or led to forest degradation, after 31 December 2020;
- the Relevant Product (i) is produced in accordance with the law of the country of production; (ii) abides by the international law on human rights; and (iii) protects the rights of affected indigenous people; and
- a due diligence statement has been submitted to the relevant competent authority appointed by EU Member States which confirms that the necessary due diligence has been conducted and that no (or only a negligible) risk was found.
Furthermore, as part of the due diligence procedure, applicable companies will have to collate specific information (e.g., geolocation coordinates and suppliers’ contact details) and then, based on this information, conduct a risk assessment to determine whether there is a risk that the Relevant Commodities and Relevant Products fail to comply with the Regulation. Should the risk assessment determine that there is a risk (which is not a negligible risk), applicable companies are expected to implement the necessary risk mitigation measures under article 10a of the Regulation in order to achieve no or negligible risk, which includes requesting additional information or conducting independent audits/surveys. The procedure, and the level of information to be collected, will depend on the risk rating of the country given by the European Commission within 18 months of the Regulation’s enforcement, which will either be “low,” “standard” or “high”; those with a “low” risk rating will be subject to a simplified due diligence procedure.
The Regulation is expected to be published in the EU Official Journal in mid-2023 and, following this, the Regulation will enter into force 20 days later. There will then be a grace period of 18 months for large companies and 24 months for SMEs to comply.
Those found to be in violation of the Regulation face “effective, proportionate and dissuasive” penalties which include:
- fines (the maximum fine must be at least 4% of the operator’s or trader’s total annual EU-wide turnover in the financial year preceding the fining decision);
- seizing the operator’s or trader’s revenue made from the sale of the Relevant Commodities or Relevant Products, as well as the commodities and products themselves; and
- temporary exclusion (up to 12 months) from public procurement processes.
The Regulation sets out a detailed and complex process for which applicable companies must comply and this will involve companies conducting an in-depth review of existing processes and supply chain risks to ensure the relevant changes are made and the necessary expertise is in place to handle the upcoming due diligence obligations. The European Commission is expected to release supporting guidelines in the lead up to its enforcement.