On 17 November 2021, in the wake of the Glasgow Climate Change Conference (COP26), the European Commission (“Commission”) presented its Proposal for a Regulation that aims to curb deforestation and forest degradation driven by European Union (“EU”) consumption and production (“Proposed Regulation”). The wider goal of the rule is to reduce greenhouse gas (“GHG”) emissions and global diversity loss, by minimising the consumption of products from supply chains associated with deforestation or forest degradation.
Already announced in 2019, the Proposed Regulation fits in the wider context of the European Green Deal, the Commission’s flagship initiative to transform the EU from a high- to a low-carbon economy. It follows similar initiatives in the United States (“U.S.”) and United Kingdom (“UK”), as discussed in more detail here.
The Proposed Regulation complements and expands on existing EU legislation, such as the EU Timber Regulation (“EUTR”) and the Forest law Enforcement, Governance and Trade Regulation (“FLEGT Regulation”), and would be complementary to the Commission’s legislative initiative on Sustainable Corporate Governance (“SCG”). Of note, it would integrate and improve the framework created by the EUTR, which would be repealed by the adoption of the Proposed Regulation.
The Proposed Regulation covers six commodities, namely cattle, cocoa, coffee, oil palm, soya, and wood (“relevant commodities”), as well as products that contain, or have been fed or made with relevant commodities (“relevant products”). The relevant products are exhaustively listed in Annex I to the Proposed Regulation, and include products such as palm oil, soya-bean oil, leather, chocolate, and furniture. Only products produced after the entry into force of the Proposed Regulation would be covered. The Proposed Regulation applies to relevant commodities and products irrespective of whether they originate in third countries or in the EU.
Within two years of the entry into force of the Proposed Regulation, the Commission would review the need and feasibility of extending the scope to further commodities. Similarly, within the same timeframe, and thereafter at regular intervals, the Commission would review the list of relevant products in order to assess whether it would be appropriate to amend or extend this list.
Prohibition on products driving deforestation and forest degradation
The Proposed Regulation prohibits the placing or making available on the EU market, or the export therefrom, of relevant commodities and products unless they are:
- produced in accordance with the relevant legislation of the country of production; and
- covered by a due diligence statement.
These conditions are cumulative. A key element of the Proposed Regulation is thus that it is not sufficient for relevant commodities and products to have been produced in accordance with the relevant legislation of the country of production. This also means that products that are legally produced and not affected by illegal deforestation are prohibited in case they are not considered to be “deforestation-free”. Relevant products or commodities are considered to be deforestation-free if they are produced on land that has not been subject to deforestation after 31 December 2020.
Another key element is that the Proposed Regulation not only covers deforestation, but also forest degradation. Specifically for wood, deforestation-free also means that the wood must not have been harvested from forests without inducing forest degradation, which has been imprecisely defined. Also here the cut-off date is 31 December 2020. The inclusion and definition of forest degradation has been subject to debate and controversy.
The obligation to comply with the prohibition and due diligence requirements that would be imposed by the Proposed Regulation rests on operators. These are defined as any natural or legal person who, in the course of a commercial activity, places relevant commodities and products on the EU market or exports them from the EU.
Traders are also subject to the Proposed Regulation, but the requirements differ depending on whether they are SMEs or not. Traders are defined as any natural or legal person in the supply chain other than the operator who, in the course of a commercial activity, makes available on the Union market relevant commodities and products. Traders that are not SMEs are considered operators, whereas traders that are SMEs are subject to less stringent requirements.
Operators would have to perform due diligence for all relevant commodities and products so as to ensure that they would not be prohibited pursuant to the Proposed Regulation. These due diligence obligations build on and tighten the requirements that already exist for timber products under the EUTR.
When an operator has concluded that the relevant commodity or product is not prohibited, it must then submit a due diligence statement confirming this. It is only then that the commodity or product can be placed on the EU market or exported. In case the operator cannot complete the due diligence procedure, or where the due diligence has revealed a non-negligible risk of non-compliance, the operator is prohibited from placing the relevant commodities and products on the EU market or exporting them. In case new information comes to light after the conclusion of the due diligence procedure and the relevant commodities or products have been placed on the EU market or exported, the operator must inform the competent EU Member State authorities.
The due diligence procedure is extensive and consists of three separate steps:
- First, an information collection requirement pursuant to which an operator would have to collect a wide variety of information, including (but not limited to) information regarding the relevant commodities and products, geo-location coordinates of all plots of land where these were produced, information that the production took place in accordance with relevant legislation of the country of production, and information that they are deforestation-free.
- Second, a detailed risk assessment requirement whereby operators would have to verify and analyse the information collected in the context of the first step, and on this basis carry out a risk assessment pursuant to specific criteria so as to determine whether there is a non-negligible risk that the relevant commodities and products are non-compliant, in which case they cannot be placed on the EU market or exported without taking risk mitigation measures to reach no or a non-negligible risk of non-compliance.
- Third, a requirement to perform risk mitigation measures in case there is a non-negligible risk of non-compliance identified pursuant to the second step. This would include requesting additional information, performing independent survey or audits, or other measures. The purpose would be to reach a stage where there is no or a negligible risk that the relevant commodities and products would be non-compliant. If this is not possible, they cannot be placed on the EU market or exported at all.
The risk assessments would have to be documented and reviewed at least on an annual basis. Operators would have to put in place a compliance policy, and an independent audit function to check the compliance policy for operators that are not SMEs.
Traders that are SMEs would not be subject to the same stringent requirements. They would only be required to collect a limited set of information, and would not be subject to the second or third step of the due diligence procedure.
The due diligence obligations are combined with a country benchmarking system that would categorise countries based on a country’s initiatives to tackle deforestation and forest degradation, as well as specific elements linked to the commodities in question. This list would be drawn up by the Commission following an analysis of the countries in question, pursuant to which a country would be categorised as low, standard, or high risk. At the outset, until the Commission has completed its analysis, all countries would be categorised as standard risk.
Countries categorised as low risk would result in simplified due diligence obligations on operators, whereby only the first step of the due diligence procedure would apply, while the second and third steps would not. Countries categorised as high risk would result in increased scrutiny by EU Member State authorities.
Penalties for non-compliance
Penalties for non-compliance would be laid down at EU Member State level, but would have to be effective, proportionate, and dissuasive, and should at a minimum include:
- fines with a maximum amount of at least 4% of the operator’s or trader’s annual turnover in the EU Member State or Member States concerned;
- confiscation of the relevant commodities and products concerned;
- confiscation of relevant revenues gained; and
- temporary exclusion from public procurement processes.
While the substantive legislation would be imposed at EU level, it would be the authorities of the EU Member States that would be tasked with the enforcement of the Proposed Regulation, in cooperation with the EU Member State customs authorities. The competent EU Member State authorities would have to carry out comprehensive checks to establish compliance by operators, pursuant to detailed criteria and risk analyses. EU Member States would have to ensure that these annual checks cover at least 5% of the relevant operators as well as 5% of the quantity of each of the relevant commodities placed or made available on or exported from their market. For countries categorised as high-risk, enhanced scrutiny would be required, whereby at least 15% of relevant operators and 15% of relevant commodities would have to be checked.
In case of a finding of non-compliance, the competent EU Member Authorities would be authorised to recover the costs of their checks from the non-compliant operators. At the time of import or export, checks would also be performed by the relevant EU Member State customs authorities. Finally, there are also detailed provisions on cooperation and exchange of information between competent EU Member State authorities and the Commission.
The Proposed Regulation also provides for a complaints mechanism whereby natural and legal persons (“complainants”) would be entitled to submit substantiated concerns to competent EU Member State authorities when they have evidence that an operator or trader is not in compliance with the Proposed Regulation. Complainants would have the right to be informed of the competent EU Member State authority’s decision whether or not to take action, and would also have the right to challenge such decisions.
The Proposed Regulation also provides for cooperation and engagement between the Commission and producer countries so as to develop partnerships to jointly address deforestation and forest degradation.
Elements not (yet) covered
The Proposed Regulation is also notable for what it does not cover.
For instance, even though the Commission faced significant pressure from NGOs and the European Parliament, rubber and rubber products are not covered by the Proposed Regulation. Similarly, it only covers forests, and not other ecosystems such as land with high carbon stocks and land with high biodiversity value, such as grasslands, peatlands, or wetlands. However, within two years of the entry into force of the Proposed Regulation, the Commission would review the need and feasibility of extending the scope to further commodities or other ecosystems, meaning that in the not so distant future the scope of the Proposed Regulation could expand significantly.
In addition, it does not target the financial sector or investments, again despite lobbying from NGOs and the European Parliament. The Commission considers that existing initiatives in this area are sufficient.
The road ahead
Now that the Commission has made its proposal, the Proposed Regulation is subject to the EU’s ordinary legislative procedure, whereby the European Parliament and the EU Member States (through the Council of the EU) would have to agree on the text and formally adopt it. The timeframe for adoption is difficult to predict, and will depend on how fast the European Parliament and the Governments of the EU Member States can agree on the adoption of the Proposed Regulation. From the documents accompanying the proposal, it seems that the Commission hopes that it can be adopted by 2023.
Through this legislative process, the European Parliament and the EU Member States can put forward amendments to the text. It is therefore not at all certain that the Regulation that would eventually be adopted will look the same as the Proposed Regulation. Intense lobbying can be expected from various parties, including from NGOs, businesses, and the EU’s trading partners.
In the light of past pressure from the European Parliament, it could try to bring rubber and rubber products, or other ecosystems, within the scope of the Regulation. However, since the Proposed Regulation contains mandatory review mechanisms, whereby the need for inclusion of other products or ecosystems will be considered, this might (eventually) be acceptable to the European Parliament as a compromise solution. Similarly, due to stringent obligations on EU operators, some EU Member States could try to water down some of the requirements. Finally, the EU’s trading partners that would be most affected by the Proposed Regulation are likely to lobby to reduce the scope of the prohibition, in particular with respect to products produced in compliance with local laws. In this respect, it is noteworthy that the text accompanying the Proposed Regulation specifically highlights that the political visibility and sensitivity of the Proposed Regulation will be considerable since it would affect sectors that are essential for the economies of particular countries. In this context, the Commission expressly refers to cocoa in Ivory Coast and Ghana, palm oil in Indonesia and Malaysia, and soy and cattle in Brazil and Argentina. Similarly, the Commission’s own trade department raised concerns on this, as well as a number of other aspects of the Proposed Regulation.
Other elements that could be subject to political pressure are the cut-off date for relevant commodities and products to be considered as deforestation free, or the definition of a forest. Indeed, there have been calls for the cut-off date for land that has not been subject to deforestation to be earlier than 31 December 2020, with the European Parliament having called for 2015 as the cut-off date. On the other hand, there have been observations that the Proposed Regulation’s definition of “forest”, with for instance a canopy cover of more than 10%, is too stringent, with several countries only considering a canopy cover of 30% or more as a forest. This could result in several products being considered as deforestation free in the country of production but still prohibited in the EU, causing further trade tensions.
It has been suggested that the Proposed Regulation also raises concerns in terms of consistency with the rules of the World Trade Organization. Such arguments could also be relied on in the framework of the aforementioned lobbying efforts.
As an EU Regulation, once it enters into force it would set direct requirements for all operators, and would not have to rely on implementing legislation of EU Member States for its obligations to apply.
As currently proposed, the Regulation would apply from the date of its entry into force, but there would be a 12-month grace period for larger companies to comply with the substantive requirements, and a 24-month grace period for microenterprises, so as to give them time to adapt.
The Proposed Regulation was drawn up following an unprecedented response to the Commission’s Open Public Consultation (“OPC”) on the topic, which received close to 1.2 million replies. The OPC showed that there was strong support for legislative action, with the vast majority of stakeholders, including from the corporate and non-profit worlds, supporting mandatory due diligence requirements. With strong calls for action coming from the European Parliament and EU Member States, there is no doubt that the Proposed Regulation will be adopted in some form. The only unknown is whether its scope and requirements will be expanded or watered down.
The adoption of the Proposed Regulation, especially in its current form, would have wide implications on EU operators, as well as their suppliers in third countries. The strict due diligence requirements that would apply to EU operators are broad and detailed, and are likely to be cumbersome and increase costs. The impact on suppliers in third countries is also likely to be significant. They would have to supply their customers with all the requested information and documentation, also increasing costs on their side. Several suppliers, even those in compliance with the requirements of the Proposed Regulation, could lose business because of customers switching to suppliers that have lower compliance costs. For instance, the Commission itself states that operators, in particular SMEs, could reduce compliance costs by opting to source from countries categorised as low-risk. This would negatively affect suppliers in standard or high-risk countries that are making efforts to have a deforestation and forest degradation free supply chain.
The Proposed Regulation is certainly ambitious and tackles an issue that is widely considered to be in dire need of action. The key questions remain, however, regarding its impact on the EU’s trading partners, the potential for significant costs for EU operators, and whether it will achieve its goal, namely to curb deforestation and forest degradation driven by EU consumption and production, in an equitable manner.