Supply chain due diligence is the dynamic process of identifying, assessing and mitigating potential risks across the entire footprint of an enterprise.[1] Supply chain due diligence is important for a number of reasons, one of which is Environmental – Social – Governance (“ESG”) compliance.
“ESG compliance refers to the understanding of the ESG guidelines mandated by countries, regulatory bodies and frameworks, and the act of implementing them in internal policies and practices.”[2] Equally, ESG compliance is becoming an increasingly important criteria for investors,[3] albeit there has been pushback.[4]
Of particular interest, Germany has taken the lead in supply chain ESG due diligence by requiring “…large companies to conduct supply chain due diligence activities. The law requires these companies to identify, prevent and address human rights and environmental abuses within their own and their direct suppliers’ operations.”[5]
This is just the beginning. All elements of a company’s supply chain will almost certainly have a significant impact on its ESG compliance.[6] For example, a company that sources raw materials from a supplier that engages in unethical practices can damage its reputation and cause it to fail to meet ESG compliance requirements. Conversely, a company that works closely with suppliers to ensure that they meet ESG criteria can enhance its reputation and protect itself against reputational damage. Issues related to environmental pollution, shortages of raw material and natural resources, workforce health and safety incidents, labor disputes, corruption and bribery, geopolitical considerations, etc., must be considered when seeking to improve technical quality, cost effectiveness, speed of delivery and reliability in a company’s supply chain.[7]
One of the key challenges in implementing ESG compliance across the supply chain is defining and measuring ESG performance.[8] Companies must identify relevant ESG criteria and establish metrics for measuring performance across the supply chain. Reporting and data gathering are key requirements along with communicating successful compliance to stakeholders. Sadly, a recent study found that more “…than 70% of executives surveyed across multiple industries and regions reported that they lack confidence in their organizations’ own ESG reporting, and nearly two thirds feel unprepared to meet ESG goals and disclosure requirements,”[9]
Such lack of confidence and unpreparedness for current ESG issues began to surface decades ago. In 1983, a journalist first defined “greenwashing” as “…dishonest practices used by businesses to represent themselves as more sustainable either by giving a false impression or providing misleading information as to the sustainability of a product/service.”[10] The fight against “greenwashing” has developed into very real regulatory,[11] financial[12] and reputational[13] risks for global enterprises.
Collaboration is crucial to ESG compliance and requires active involment of all stakeholders, including but not limited to, risk management consultants, accountants, lawyers, suppliers, customers, and regulatory bodies.[14]
One concrete example of such collaboration is the Responsible Minerals Initiative (the “RMI),[15] a global multi-stakeholder initiative that promotes responsible minerals sourcing practices and addresses key challenges in the supply chain. The RMI helps companies meet guidelines set forth by the Organisation for Economic Cooperation and Development and other regulatory bodies. Similarly, the UN Global Compact and World Business Council for Sustainable Development are important global initiatives that encourage companies to act as responsible corporate citizens.[16]
Conclusion
In conclusion, ESG compliance has become a critical element in global companies as evidenced by the creation of the position of “Chief ESG Officer”.[17] Enterprises seeking to compete successfully in domestic, regional, and global arenas must ensure their supply chains are compliant with ESG criteria. Supply chain due diligence is a key part of achieving ESG compliance, as well as promoting a sustainable business model. The benefits and risks are real. Failure to actively engage in supply chain due diligence ESG could be more than simply disruptive to a company’s business.[18]
[1] OECD, Due Diligence Guidance for Responsible Business Conduct, 9 February2017, http://mneguidelines.oecd.org/OECD-Due-Diligence-Guidance-Responsible-Business-Conduct.pdf. See also United Nations Global Compact, A Spotlight on Sustainable Supply Chain & Procurement, https://unglobalcompact.org/take-action/leadership/integrate-sustainability/roadmap/supply-chain. World Business Council for Sustainable Development, https://www.wbcsd.org/. Deloitte Touche Tohmatsu Limited, Supply chain ESG risk assessment – why is it important to cover the entire footprint of the organisation?, https://www2.deloitte.com/fi/fi/pages/strategy-operations/articles/Supply-chain-ESG-risk-assessment.html. Pinsent Masons LLP, EU supply chain legislation: member states call for gradual approach, 9 December 2022, https://www.pinsentmasons.com/out-law/news/eu-supply-chain-legislation-member-states-call-for-gradual-approach.
[2] Convene esg, ESG Compliance: What Does It Mean?, 30 November 2022, https://www.azeusconvene.com/esg/articles/esg-compliance-what-does-it-mean
[3] Investopedia, What Is Environmental, Social, and Governance (ESG) Investing?, 22 March 2023,https://www.investopedia.com/terms/e/environmental-social-and-governance-esg-criteria.asp#:~:text=Environmental%2C%20social%2C%20and%20governance%20(ESG)%20investing%20refers%20to,addressing%20climate%20change%2C%20for%20example. See also BlackRock, ESG Integration Statement, March 2023, https://www.blackrock.com/corporate/literature/publication/blk-esg-investment-statement-web.pdf. World Economic Forum, Private investors are crucial to the future of ESG. Here’s how they can find their voice, 5 January 2022, https://www.weforum.org/agenda/2022/01/private-investors-esg-investment/.
[4] The New York Times, The Pushback on E.S.G. Investing, 11 May 2022, https://www.nytimes.com/2022/05/11/business/dealbook/esg-investing-pushback.html.
[5] Sedex, Germany’s new Supply Chain Due Diligence Act: What you need to know, https://www.sedex.com/blog/germanys-new-supply-chain-due-diligence-act-what-you-need-to-know/#:~:text=The%20Supply%20Chain%20Due%20Diligence,and%20in%20their%20own%20operations.
[6] PwC, ESG in supply chains: Early integration can bolster your business, https://www.pwc.com/us/en/services/consulting/business-transformation/digital-supply-chain-2022-trends/esg-supply-chain.html.
[7] Allianz, Environmental, Social and Governance (ESG) risks in supply chain, March 2017 https://www.agcs.allianz.com/news-and-insights/expert-risk-articles/esg-risk-briefing-3-2017.html#:~:text=ESG%20risks%20in%20supply%20chains&text=Examples%20include%3A,Workforce%20health%20and%20safety%20incidents.
[8] Harvard Business Review, ESG Impact Is Hard to Measure — But It’s Not Impossible, 22 January 2021, https://hbr.org/2021/01/esg-impact-is-hard-to-measure-but-its-not-impossible.
[9] ESG Today, Survey: Over 70% of Execs Lack Confidence in Their Own ESG Data Reported to Stakeholders, 23 June 2022, https://www.esgtoday.com/survey-over-70-of-execs-lack-confidence-in-esg-data-reported-to-stakeholders/. See also ESG Today, Only 5% of FTSE 100 Companies Have Published Credible Decarbonization Plans: EY, 4 April 2023, https://www.esgtoday.com/only-5-of-ftse-100-companies-have-published-credible-decarbonization-plans-ey/.
[10] KPMG, ESG: Addressing greenwashing in financial services, https://kpmg.com/dp/en/home/insights/2022/05/esg-addressing-greenwashing-in-financial-services.html.
[11] Shearman & Sterling LLP, SEC Esg Fines Investment Adviser For Alleged Esg Misstatements In Esg Task Force’s First Enforcement Resolution, 2 June 2022, https://www.lit-wc.shearman.com/SEC-ESG-Fines-Investment-Adviser-For-Alleged-ESG-Misstatements-In-ESG-Task-Force.
[12] Baker McKenzie, Preparedness for Climate-Related Litigation in the Financial Sector, 17 October 2022, https://financialinstitutions.bakermckenzie.com/2022/10/17/preparedness-for-climate-related-litigation-in-the-financial-sector/.
[13] Eco-Business, 8 brands called out for greenwashing in 2020, 18 December 2020, https://www.eco-business.com/news/8-brands-called-out-for-greenwashing-in-2020/.
[14] Academy for Sustainable Innovation, The Power of a Collaborative Approach to ESG, 2 September 2022, https://sustainableinnovation.academy/power-collaborative-approach/. “Faced with the mounting impacts of the climate crisis, organizations are increasingly recognizing the need for powerful networks and collaborative efforts that advance progress on ambitious environmental, social, and governance (ESG) goals and help meet new disclosure requirements.”
[15] Responsible Minerals Initiative, https://www.responsiblemineralsinitiative.org/.
[16] See Footnote 1 above.
[17] Harvard Business Review, Does Your Company Need a Chief ESG Officer?, 17 February 2022, https://hbr.org/2022/02/does-your-company-need-a-chief-esg-officer.
[18] The Impact Investor, 12 Worst ESG Companies | Stocks to Avoid, 24 March 2022, https://theimpactinvestor.com/worst-esg-companies/.
