The role of due diligence in tackling social washing

Consumers and investors are increasingly socially conscious. Strong social credentials in relation to human rights, working conditions, employee rights and health and safety are, for an increasing number of consumers, critical factors in purchasing decisions. Consumers essentially vote for their values with their wallet and are willing to bear the higher price tag for products reflecting these values. As such, many companies are eager to showcase their products as contributors to a better world.

However, businesses that wish to leverage their social credentials must take steps to ensure they avoid the risk of "social washing". A perceived gap between marketing communications and genuine action can lead to divestments from investors. For instance, Dutch investor ASN Impact Investors recently withdrew from several fashion giants due to perceived insufficient progress on sustainability. Additionally, this gap can result in legal actions. Italy's competition authority, Autorità Garante della Concorrenza e del Mercato, launched an investigation into luxury brands Armani and Dior over allegations of worker exploitation. Court cases against these companies had previously found that they misled consumers, in breach of the Italian Consumer Code, by emphasizing the excellent craftmanship of their products whilst allegedly relying on suppliers whose employees were paid inadequate wages, worked excessive overtime and faced conditions that violated health and safety standards.

The Armani and Dior cases underscore the importance for businesses to understand their social impacts and conducting thorough due diligence to help minimise the risk of social washing and associated risks. Those that fail to understand their impacts, and thereby oversell or mislead impact-oriented investors and consumers, could face heightened scrutiny from regulators, and real financial and reputational harm. Even if most existing due diligence frameworks and standards are voluntary, the Armani and Dior cases demonstrate that, even in countries without mandatory due diligence instruments, failing to identify social impacts can lead to infringements of existing laws applied to sustainability issues.

This briefing describes the concept of social washing and its link to inadequate supply chain due diligence, the content and take-aways from the Armani and Dior rulings and provides a short overview of existing voluntary and mandatory due diligence frameworks, and how they impact businesses.

What is social washing?

Many businesses have heard of "greenwashing", but what is "social washing"? Social washing is the practice of making misleading, exaggerated, or unsubstantiated claims about social issues or social impacts, such as diversity and equality, labour standards, human rights, product safety or data privacy. 

Social washing is often a consequence of a gap (whether intentional or inadvertent) between what a business says it is doing in relation to social issues and what it is actually doing, a 'say-do gap'. For example, promoting gender equality via equal pay, whilst having no or low female representation at management and board-level.

Social washing can therefore be linked to inadequate supply chain due diligence. If a company is not carrying out sufficient due diligence throughout its supply chain, to identify, mitigate and prevent any actual or potential adverse impacts, such a 'say-do gap' may arise. Failure to ensure that a company's practices and those of its suppliers are in accordance with the claims it makes about relevant social issues leads to social washing.

Key findings from the Armani and Dior proceedings

On 3 April 2024, the Court of Milan (Tribunale di Milano) issued a judgment against Giorgio Armani Operations (Armani Operations), a subsidiary of the Armani Group, over its subcontracting of manufacturing to two firms that in turn subcontracted work to four Chinese companies with workshops near Milan. The judgment followed an investigation by public prosecutors along with the labor inspectorate unit of the Italian police which found that these companies paid migrant workers €2-3 per hour to work 10 hours per day on average, in some cases for seven days a week. The court found that Armani had a flawed internal audit system and had been negligent by culpably failing to verify the production chain and remaining inactive despite being aware of the outsourcing of production by the supplying companies (i.e. by failing to take initiatives such as formally requesting verification of the subcontracting chain, authorization for subcontracting, or terminating commercial ties) thereby facilitating individuals from committing a criminal act (the crime of illegal intermediation and labour exploitation under Article 603bis of the Italian Penal Code) and placed Armani Operations under judicial administration for one year. The Court decided that, having regard to the factual circumstances, in application of the principle of proportionality, the judicial administration which would be implemented would provide the Court control over the managing bodies – for example, control to replace the governance and control body members and to adjust the internal control measures – but would leave the normal business operations to the corporate administrative bodies.

Just a few months later, in July 2024, Dior’s productive subsidiary in Italy, Manufactures Dior Srl, found itself in a similar situation. Following a comparable investigation, numerous irregularities were uncovered in the workplaces of several entities linked to its supplier network. While Dior was also not held criminally responsible itself, it was found negligent for failing to take appropriate measures to check actual working conditions or technical capabilities of contracting companies.

Shareholders of Armani and Dior have since requested more transparency on supplier audits and internal purchasing practices, including increased public evidence of the companies' efforts to ensure workers in its supply chain are paid fairly.

In addition, the judgments and growing controversy that had begun to stir among the public as a result, prompted Italy's competition authority to launch at the end of July 2024 a formal investigation aimed at determining whether both Armani and Dior had engaged in various unfair commercial practices, constituting breaches of consumer law.

The Italian competition authority intends to investigate whether these companies have been making false ethical and social responsibility claims, especially concerning working conditions and legal compliance by their suppliers, in violation of the Italian Consumer Code. This underscores the importance of minimizing the risk of social washing in the supply chain. To achieve this, companies should:

1. adopt and implement an effective due diligence policy which identifies any actual or potential adverse impacts throughout the value chain of the business, including the labour practices of subcontractors;
2. include clauses in their supplier contracts that explicitly prohibit labour exploitation, including child and forced labour; and
3. require suppliers and business partners to implement and adhere to relevant policies and procedures and report actual or potential adverse impacts to the company. Companies should consider getting their policies and procedures and how these are implemented in practice verified by independent third-party verifiers, including through recognised regional or global due diligence schemes, which may vary by sector.

Business' due diligence obligations

The investigations into Dior and Armani highlight the necessity for robust due diligence policies. Now, more than ever, businesses are expected to conduct thorough due diligence on their supply chains. Due diligence policies and processes are increasingly under scrutiny from regulators and wider stakeholders.

Voluntary global frameworks

Regulators’ expectations have in the past largely been informed by voluntary due diligence frameworks and standards. The most influential of these voluntary due diligence frameworks are:

1. The UN Guiding Principles on Business and Human Rights (the "UNGPs"), which were published in 2011 and operationalise the UN Protect, Respect and Remedy Framework for business and human rights, which was agreed in 2008. The UNGPs set out a general set of principles which businesses should adhere to with respect to the impacts of their operations on the human rights of stakeholders, including local communities, their employees and employees throughout their value chain. In particular, the UNGPs require businesses to:
   1. seek to prevent or mitigate any adverse impacts related to their operations, products or services, even if these impacts have been carried out by suppliers or business partners;
   2. implement policies and processes relating to human rights due diligence and remediation mechanisms in respect of any identified infringements; and
   3. integrate the findings of the due diligence processes into their operations and communicate their efforts to address any identified impacts.
2. The OECD Guidelines for Multinational Enterprises on Responsible Business Conduct (the "OECD Guidelines"), which were recently updated in June 2023 (see our blog here). The OECD Guidelines align with the UNGPs and are intended to assist businesses in their implementation of the principles set out therein by setting out recommended policies, practices and procedures which businesses may adopt.
3. The OECD Due Diligence Guidance for Responsible Business Conduct (the “OECD Due Diligence Guidance”), adopted in May 2018, which is intended to support businesses in their implementation of the recommendations set out in the OECD Guidelines on the conduct of due diligence with respect to human rights and associated issues.
4. Various industry specific due diligence standards issued by the OECD ("OECD Sectoral Standards") relating to industries such as the garment and footwear sector, agricultural supply chains and the extractives sector.

Mandatory due diligence instruments

Increasingly, jurisdictions worldwide are introducing mandatory sustainability due diligence obligations. An overview of the mandatory due diligence instruments in place in Europe is set out below.

European Union

At a European level, the Corporate Sustainability Due Diligence Directive (“CS3D”) has been introduced, which entered into force on 25 July 2024 (our most recent blogs on the CS3D are available here and here). The CS3D imposes a corporate due diligence duty on in-scope companies and requires them to identify, assess and (where necessary) prevent and mitigate potential and actual adverse impacts on human rights and the environment. The CS3D is explicitly intended to promote implementation of the UNGPs by businesses  and refers to the OECD Guidelines, OECD Due Diligence Guidance and OECD Sectoral Standards as frameworks companies may wish to refer to in complying with their obligations under the CS3D. 

Elements of the OECD framework are also referred to in the EU Conflict Minerals Regulation, which aims to stop conflict minerals and metals from being imported into the EU, the proposed Forced Labour Regulation (“FLR”), which is expected to enter into force this year and will introduce a prohibition from exporting from, or placing onto the EU market products made using forced labour (more detail on the FLR is set out in our recent blog here) and the EU Deforestation-free Products Regulation ("EUDR"),  which imposes strict mandatory due diligence obligations on specified commodities and their derived products, before they may be placed on, or exported from, the EU market​ (more detail on the EUDR is set out in our recent blog here).

France

France has been the first mover in terms of more stringent due diligence obligations. The French Law on the Corporate Duty of Vigilance (introduced in March 2017) requires companies to set up a ‘vigilance plan,’ implement it effectively, and report annually on its implementation. Pursuant to this law, large companies must take steps to identify risks and prevent severe impacts on human rights and fundamental freedoms, health and safety of persons, and the environment.

This law, and the other domestic laws of EU Member States set out in this section, will each need to be updated in order to align with CS3D requirements, as a part of the transposition of CS3D into the national law of the EU Member States.

Germany

The German Supply Chain Act, effective since 1 January 2023, mandates human rights and limited environmental due diligence and measures to prevent or eliminate forced labor, with penalties including fines up to 2% of total annual global sales and exclusion from government contracts for up to three years.

Norway

Norway enacted its Transparency Act in 2022. The Act requires companies to carry out due diligence, report on due diligence processes and respond to requests from the public on how they address actual and potential adverse impacts on fundamental human rights and decent working conditions.

Switzerland

Switzerland has also introduced due diligence obligations as part of its Ordinance on Due Diligence and Transparency in relation to Minerals and Metals from Conflict-Affected Areas and Child Labour, which entered into force on 1 January 2023. Under the rules, in-scope companies must conduct – and report upon – due diligence in their supply chain where they are importing or processing conflict minerals, or offering products or services that carry the risk of child labour. The mandatory due diligence requirements include putting in place a supply chain policy, a traceability system, a grievance mechanism, and a risk management system.

How Does This Impact Businesses?

Businesses must act now to understand and comply with their due diligence obligations.

Key considerations include:

Extra-Territorial Effect: Some mandatory laws have extra-territorial reach, applying to businesses from third countries operating within the relevant jurisdiction. For example, CS3D applies to non-EU companies that meet certain turnover thresholds within the EU. Businesses need to map out their operations and understand the scope of relevant laws.

Patchwork of Obligations: International businesses operating globally may face a complex patchwork of obligations. Some of these may overlap, while others may diverge. Implementing due diligence policies and processes will help ensure businesses meet all obligations consistently.

Preventing Adverse Impacts: As outlined by the UNGPs and the OECD framework, businesses should actively seek to prevent or mitigate any adverse human rights impacts related to their operations, products, or services, including adverse impacts which may be caused by suppliers or business partners. While these expectations are codified in the CS3D and binding on companies subject to it, they reflect best practices that prudent businesses should follow regardless of legal obligations. Failing to do so risks regulatory scrutiny and reputational damage, as illustrated by the cases of Armani and Dior.

Compliant due diligence processes will help businesses understand their risks and impacts throughout their operations and supply chains, ensuring their claims and commitments are accurate and achievable.

Conclusion

In conclusion, the cases of Armani and Dior illustrate that regulators, competitors, and consumers are increasingly scrutinizing businesses’ social claims. The fact that existing legislation, not originally intended to address social claims or inadequate due diligence, is being invoked in these cases indicates a widespread acceptance that voluntary standards have evolved into binding customary practices. This shift underscores the importance for businesses to align their operations with these de facto standards and their public claims to avoid legal and reputational risks, rather than assuming they are safe until mandatory frameworks become effective in their jurisdiction.

Businesses must act now to understand and comply with their due diligence obligations, particularly considering the extra-territorial reach of some laws and the complex patchwork of global obligations. Implementing thorough due diligence processes will help businesses prevent adverse impacts, ensure accurate social claims, and avoid regulatory scrutiny and reputational damage. By doing so, they can contribute meaningfully to a more ethical and sustainable global market.

A version of the article first appeared in Law.com.