Sanctions for non-compliance with ESG rules

In recent years, ESG (Environmental, Social, Governance) has ceased to be a voluntary commitment for companies and has become a key factor in their success. Those who ignore ESG rules can face severe consequences - from heavy fines to lawsuits to irreversible reputational damage. What penalties do companies face and why is ESG worth taking seriously? Let's take a closer look.

Authors of the article: ARROWS (JUDr. Pavel Staněk, MBA, Mgr. Vendula Korčáková, office@arws.cz, +420 245 007 740)

Regulatory framework and obligations

The Non-Financial Reporting Directive 2014/95/EU (NFRD) and the Corporate Sustainability Reporting Directive 2022/2464 (CSRD), require companies to disclose how their activities affect the environment and society. It's no longer just a voluntary commitment - companies that don't play by ESG rules could face serious consequences.

Another key measure is the EU's 2020/852 Sustainable Investment Taxonomy Regulation, which strictly defines what can officially be considered an environmentally sustainable activity. This regulation affects not only companies' access to investment and financing, but also their overall competitiveness.

And what happens when companies ignore ESG rules? Penalties vary from one Member State to another, but can range from fines of millions of euros to exclusion from public procurement to restrictions on access to bank loans. In other words, ESG is no longer just a question of reputation, but of survival in the marketplace.

Each sector faces different challenges. Financial institutions must transparently disclose ESG risks and integrate them into their investment strategies. Industrial companies, on the other hand, are focusing on reducing their carbon footprint and complying with strict environmental limits. ESG is becoming a key factor in determining the future of companies in Europe. Those who fail to adapt risk more than just fines

Types of sanctions and how they are imposed

Companies that do not comply with ESG rules may face several types of sanctions:

1. Financial penalties - Regulators, such as the European Commission, national supervisory authorities or individual EU Member States, impose fines ranging from tens of thousands to millions of euros on companies for violating ESG obligations. In Germany, for example, a breach of supply chain rules can result in a penalty of up to 2% of annual turnover. In the Czech Republic, failure to comply with ESG reporting can result in a fine of up to 4% of annual turnover.
2. Legal action and legal liability - False ESG claims or overlooking social and environmental impacts can lead to lawsuits from investors, consumers or NGOs. Companies facing allegations of greenwashing, labour rights violations or environmental damage risk not only lawsuits but also a loss of market confidence. For example, an oil company faced a lawsuit for failing to meet its climate commitments, which had a major impact on its valuation by investors.
3. Restrictions on access to finance - Increasingly, banks and investors are considering ESG factors as a key criterion for providing capital. Companies with poor ESG profiles may have limited access to bank loans and investments, which has a major impact on their growth and financial stability.
4. Reputational damage - Negative publicity associated with environmental or social scandals can lead to loss of customers, investors and business partners. For example, fashion brands that have blown the whistle on the exploitation of factory workers have faced not only lawsuits but also boycotts and massive drops in sales
5. Exclusion from public procurement - Companies that do not meet ESG requirements can be excluded from tenders for government contracts or international projects. This means not only the loss of lucrative contracts, but also a weakening of their long-term competitiveness.

Specific examples of sanctions and impacts

• Greenwashing: In 2021, a major oil company faced accusations that it had misled investors about its alleged efforts to reduce emissions. The result was hefty fines, lost market confidence, and billions of euros in share value.
• Environmental pollution: a chemical company faced hundreds of millions of euros in penalties for contaminating water and soil with toxic substances. In addition to the fines, it had to spend additional funds to repair the damage and restore ecosystems.
• Violations of working conditions: Large textile companies have been caught exploiting workers in developing countries. While the fines were high, the biggest loss was the destroyed trust of customers and partners, leading to a decline in sales and brand value.

How to avoid sanctions?

For companies to avoid penalties, it is important to:

1. Keep an eye on ESG regulations - Regularly monitor legislative changes and adapt strategies.
2. Transparently report ESG activities - Information should be substantiated and truthful. Companies that disclose false information put themselves at risk of greenwashing and legal sanctions.
3. Integrate ESG into corporate strategy - Sustainability should be a firm part of decision-making processes.
4. Educate employees- Every team member should be aware of ESG rules. Training and clear internal policies will help prevent risks.
5. Vet suppliers- Companies should ensure that their partners also comply with ESG standards to avoid legal liability.

Conclusion

Sanctions for non-compliance with ESG rules are no longer the exception, but a reality that is impacting more and more companies. It's not just heavy fines and lawsuits - damaged reputations can have long-term consequences, from loss of investors to customer churn. Conversely, companies that actively incorporate ESG into their strategy not only protect themselves from penalties, but also gain a key competitive advantage. Responsible investors and customers increasingly favour companies that rely on sustainability. ESG is therefore not just a regulation to be complied with - it is an investment in the future that determines who succeeds and who is left behind.

If you're unsure what obligations apply to you and how best to set up your ESG strategy, contact our ESG specialists today!