ESG and Supply Chain Transparency

A report released this week demonstrates the challenges ahead as large companies try to stand up ESG programs that include their often vast supply chains, since many small suppliers are still struggling to stand up their own ESG efforts that you larger players can rely upon.

The report comes from ISN, which acts as a clearinghouse to help large businesses match up with small suppliers around the world. On Tuesday the company released its 2021 Environmental, Social & Governance White Paper, which crunched data from 11,000 suppliers in ISN’s network on the breadth and maturity of ESG programs that those suppliers have. 

Among the highlights:

• A large portion of suppliers do at least have policies in place to address ESG issues. For example, more than 90 percent have an anti-discrimination policy, 70 percent have a waste management policy, and 52 percent have a human rights policy.
• Mismatches exist, however, between having a policy for an ESG issue and having actual processes in place to enforce it. For example, 60 percent of suppliers had an environmental management system in place, but only 7 percent were tracking environmental performance metrics. Meanwhile, 47 percent of companies had a policy about diversity and inclusion, but slightly more (49 percent) offered training on diversity and inclusion.
• An ESG maturity gap exists: larger suppliers were more likely to have ESG policies and procedures in place, across almost every issue, than smaller ones. That’s no surprise, but the gap is pronounced.
• Attention to ESG issues still seems driven by the threat of regulatory enforcement. That is, more suppliers had policies and procedures for ESG issues where a history of enforcement exists (anti-corruption or equal pay laws, for example), compared to ESG issues that haven’t seen any enforcement (use of renewable energy or disclosure of greenhouse gas emissions). 

There is a lot to unpack in the ISN report, and the implications are important to consider since discussion of ESG issues and supply chain management has never been louder. So let’s take a look.

Size Matters for ESG Maturity

The report provides a granular look at which companies have what sort of ESG policies and procedures in place. You can pore over charts that slice the data by ESG issue, size of company, and specific industry.

One conclusion that is pretty glaring, but shouldn’t surprise anybody, is that large businesses have more mature ESG programs. Figure 1, below, tells the tale. It shows that lots of businesses have an approved environmental management system (EMS) in place, but only larger businesses have actually developed EMS performance metrics and put those metrics to work.

That dynamic — the smaller the firm, the less mature its ESG program — emerges across lots of data in the ISN report. 

The good news is that the dynamic seems to be changing. For example, 41 percent of suppliers that self-reported ESG data to ISN had fewer than 25 employees, “indicating that addressing third-party ESG risk is growing into an accepted industry norm regardless of company size,” as the ISN paper phrased it.

The bad news is that lots of small suppliers still have a long way to go. That has implications for large corporate organizations trying to gain ESG transparency into your supply chain. You might need to be more clear with suppliers about the data you want them to provide. You might need to prepare to cut ties with suppliers that can’t meet your standards — and you’ll need to tread carefully on that point, so you don’t cut off a supplier that turns out to be a provider of crucial materials or services. 

You might also tilt toward larger suppliers, who are going to be cheaper anyway; but fewer, larger suppliers can also bring other procurement risks. For example, if you don’t have a diverse pipeline of many suppliers, you’re more beholden to disruptions from a large supplier whose goods are suddenly unavailable.

There are a lot of variables in this equation, balancing ESG concerns on one side and supply chain management on the other. It’s going to be tough to solve.

Enforcement Matters for ESG Maturity Too

Another conclusion that shone through in the data: ESG programs are driven more by the threat of regulatory enforcement than the purity of our ESG-driven hearts.

For example, just about all suppliers (regardless of size) have policies for anti-discrimination in hiring, pay, and promotion. Well, why wouldn’t they? Federal and state regulators have enforced against those types of abuses for years. Of course businesses would learn that lesson.

Likewise, most suppliers in the ISN survey have respectably robust anti-corruption programs. Again, why wouldn’t they? Those firms have either experienced vigorous FCPA enforcement themselves, or the large corporations facing FCPA enforcement have hammered that message down the supply chain. Hence we end up with numbers like we see in Figure 2, below.

But if we pivot toward issues more closely related to climate change — where regulatory enforcement isn’t vigorous — the maturity of ESG programs drops off quite a bit.

For example, only 19 percent had plans to reduce greenhouse gas emissions, and only 10 percent had one for shifting their energy consumption to more renewable sources. Perhaps there are multiple reasons for that inaction, but the plain truth is that nobody is pressuring companies to adopt such policies. There’s no regulatory enforcement, and not much investor pressure. So is it really a surprise that companies aren’t rushing to do it voluntarily?

Then again, businesses will face more pressure on climate-friendly policies and actions under the Biden Administration’s plans for a greener economy — especially as Biden leverages the banking system to consider green issues in financing arrangements. I’ll be curious to see how regulatory pressures on climate change do evolve in years to come, and whether that might change some of the numbers we see in this ISN report today.