Published: April 30, 2024
Supply chain due diligence guidelines and rules are becoming more common around the world, adding regulatory pressure on companies to more closely monitor the potential for environmental, social and governance (ESG) risks in their supply chains.
Supplier codes of conduct, supplier screening approaches and development programs are not widely disclosed, even among companies that view supply chain management as a top material issue, according to data from the 2023 S&P Global Corporate Sustainability Assessment.
Among companies that disclose supplier codes of conduct, most focus on labor and human rights issues while less than half of companies include environmental issues.
The data shows that companies can do more to identify sustainability issues in their supply chains that could generate reputational or regulatory risk.
Companies around the world are coming under increased pressure from regulators, consumers and investors to ensure their supply chains are sustainable and to disclose their strategies for reducing exposure to environmental, social and governance (ESG) risks in their supply chains.
Many companies are still in the early stages of adopting policies and programs that could reduce their supplier-related reputational and regulatory risks, an analysis by S&P Global Sustainable1 finds. Only 17.2% of companies assessed in the 2023 S&P Global Corporate Sustainability Assessment (CSA) have public processes for screening new suppliers for sustainability-related risks. Fewer than half of assessed companies (44.5%) have a publicly available supplier code of conduct.
These figures indicate that many of the world’s companies can take additional steps to encourage or require more sustainable practices throughout their supply chains. Doing so could help mitigate a range of potential reputational or regulatory risks at a time when investors, consumers and policymakers are placing more scrutiny on the suppliers companies choose to work with.
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The 2023 CSA includes a supply chain management criterion that assesses companies’ disclosure and performance on supply chain management. Companies are asked if they have a publicly disclosed supplier code of conduct, and which topics the code addresses, such as pollution or labor rights. They are asked if and how they screen suppliers for risks and assess suppliers deemed to be significant to the supply chain. These assessments can be desk-based or on-site, and the expectation is that suppliers receive development support from the company to mitigate related risks and improve sustainability performance. To read the full text of CSA criteria and questions, click here. |
In addition to surveying the broad landscape for supply chain management, this analysis will focus on several industry groups that identified supply chain management as a top material issue and that face the challenge of managing sustainability risk across highly complex value chains.
Supply chains often span the globe, and a single large company may count on hundreds or even thousands of suppliers. That can make managing risk at every level of the supply chain a significant challenge.
The COVID-19 pandemic put supply chain risks in the spotlight and prompted a rise in the number of supply chain due diligence regulations, with a particular focus on protecting and respecting workers’ rights as well as minimizing or mitigating environmental impacts. Recent regulations that relate to supply chain management include Germany's Act on Corporate Due Diligence Obligations in Supply Chains, the UK Modern Slavery Act and California's Transparency in Supply Chains Act.
In addition, the European Parliament on April 24 approved the EU Corporate Sustainability Due Diligence Directive (CSDDD). The directive sets out a due diligence duty for companies to prevent, end or mitigate their adverse impact on human rights and the environment across their upstream and downstream “chain of activities,” including supply, production and distribution, according to the Parliament. The directive still awaits formal endorsement by the Council of the EU.
Companies must also answer to their investors on both performance and risk management. Investors represent the largest source of pressure on companies to increase the sustainability of their supply chains, according to the State of Supply Chain Sustainability 2023 report from the MIT Center for Transportation and Logistics. And consumers are increasingly basing their purchase decisions on whether those products align with their environmental or social values.
How are companies addressing this pressure? To start with, supply chain management is not widely considered a top material issue, according to data from the 2023 CSA. Of the 12,490 companies assessed, only 6.5% chose supply chain management as a top material issue.
In this part of the CSA, companies can select up to three internal material issues (issues that were material to enterprise value creation) and up to two external material issues (issues that were material in terms of impacting external stakeholders).
There are some companies focusing on this issue, however. A relatively high percentage of companies in seven industry groups chose supply chain management as a top material issue: Food, Beverage & Tobacco (22.1%), Consumer Staples Distribution & Retail (21.5%), Consumer Discretionary Distribution & Retail (16.4%), Consumer Durables & Apparel (16.2%), Household & Personal Products (15.4%), Technology Hardware & Equipment (14.0%), and Semiconductors & Semiconductor Equipment (14.0%).
Analysis of these industry groups shows they face many ESG supply chain risks. For example, agricultural companies in the Food, Beverage & Tobacco industry group rely on suppliers that produce commodities such as palm oil, soy, cocoa, sugar, coffee, aquaculture, cattle, dairy, and fish. The potential risks range from high greenhouse gas (GHG) emissions and biodiversity impacts — especially with soy, palm oil and cattle production — to pollution and waste management to occupational safety and working conditions. The Russia-Ukraine conflict has also put a strain on food and beverage supply chains worldwide.
Companies in the Consumer Staples Distribution & Retail Industry group face similar risks, as these companies sell and distribute food products and other consumer staples. The Consumer Discretionary Distribution & Retail and Consumer Durables & Apparel industry groups also manage extensive supply chains for manufactured consumer goods such as household appliances and apparel, which have the potential for significant supply chain labor risks in textile mills and other production facilities.
Semiconductor companies require huge amounts of energy and water and generate large amounts wastewater to manufacture the chips society needs for everything from smartphones to electric vehicles. Environmental issues as well as human rights concerns can also arise at the stage in these companies’ supply chains when key minerals are mined.
Companies have several tools at their disposal for reducing sustainability-related risks in their supply chains. They can establish a supplier code of conduct; screen new suppliers for potential ESG risks; create a plan to take corrective action to resolve problems that do arise; and offer development programs such as technical support and training.
Data from the 2023 CSA shows that most companies are in the early stages of adopting and implementing these strategies. Less than half (44.5%) of 9,688 assessed companies publicly disclose a supplier code of conduct. A supplier code of conduct describes the commitments a company requires from its suppliers in terms of values, standards or rules of behavior that respect the rights of stakeholders affected by the supplier’s operations, according to the CSA. A code of conduct usually covers at least three components: human rights and labor, the environment and business ethics.
These codes of conduct are not often publicly disclosed even among the seven industry groups that view supply chain management as a top material issue. For example, less than half (49.4%) of companies in the Food, Beverage & Tobacco industry group disclose a supplier code of conduct.
Taking a regional view, companies in Europe (60.1%) are ahead of other regions on publicly disclosing their supplier codes of conduct, followed by North America (53.0%) and Latin America (50.5%). Policymakers in different parts of Europe have required more robust supply chain due diligence reporting in recent years, a trend that could be strengthened further by CSDDD.
CSA data shows that the companies that do publicly disclose a supplier code of conduct tend to focus on human rights and labor issues, followed by business ethics. Environmental issues are less present in supplier codes of conduct.
Creating and publishing a supplier code of conduct is often the first step a company can take on its path to better supply chain management. Setting clear principles, values, standards, and rules of behavior that guide a company’s decisions, procedures, and relations with suppliers can create a common understanding of the expectations a company has of suppliers across sustainability issues such as labor rights, environmental impacts and business ethics.
The vast majority of supplier codes of conduct address the labor and human rights issues of occupational health and safety (91.4%), child labor (89.8%), forced labor (86.6%) and working conditions (80.7%).
The most common environmental topic included in supplier codes of conduct is resource efficiency, but this topic still only appears in a minority of cases (46.2%). Pollution and waste management (40.6%), GHG emissions and energy consumption (38.8%) and biodiversity (20.8%) are less common, despite the significant harm to the environment and local ecosystems that can occur in supply chains.
Environmental issues do appear more often in the supplier codes of conduct for certain industry groups.
For example, the topics of pollution and waste management and GHG emissions and energy consumption appear in the supplier codes of conduct for a majority of Semiconductors & Semiconductor Equipment companies and Technology Hardware & Equipment companies. And biodiversity is included in 47.5% of the codes of conduct for Household & Personal Products companies — an industry group that covers paper products and relies on forestry in its supply chain — and in 36.9% of the supplier codes of conduct of Food, Beverage & Tobacco companies. The supply chains of both industry groups have high land use requirements, making biodiversity impact a significant concern.
Publishing a supplier code of conduct is an important commitment to sustainability, but addressing possible ESG risks means taking action, too. A systematic screening approach can help a company identify which suppliers are significant in terms of business relevance and potential exposure to ESG risks. It can also help a company identify whether the ESG risk in its supply chain is concentrated in certain suppliers, and where it should direct any development programs. Once a company has identified significant suppliers, it can focus supplier monitoring and development efforts on those suppliers with the highest risk for negative impacts and greatest business relevance.
According to CSA data, only 17.2% of companies across industry groups conduct a supplier screening process that they have described publicly, which could indicate a significant gap in supply chain management or a potential lack of transparency in how companies manage their suppliers. The use of a supplier screening process appears to be uncommon even for the seven industry groups that view supply chain management as a top material issue, although five of these industry groups are higher than the average.
Three industry groups in particular publicly describe their supplier screening methods more often than the rest: Food, Beverage & Tobacco (26.6%), Household & Personal Products (26.0%) and Semiconductors & Semiconductor Equipment (23.8%).
Of the companies that do screen suppliers for sustainability risks and publicly disclose their screening approach, about three-quarters focus on social issues and environmental issues — but only 42.2% screen for governance risks. Less than half of companies note that they screen based on business relevance, based on public disclosure of screening approaches. This echoes the heavy focus on labor and human rights found in most supplier codes of conduct. The methodology for supplier screening can also cover risk based on the country a supplier operates in, what commodities it works with or its sector. About one-third of companies that screen suppliers look for political, social, environmental or regulatory risks related to the country where a supplier is based. About one-quarter of companies screening suppliers look for commodity-related aspects such as land use, resource intensity and potential for pollution.
Data from the 2023 CSA shows that 15.6% of assessed companies conduct a supplier development program, which can range from offering suppliers basic training on the company’s ESG programs and requirements to in-depth, comprehensive technical support programs.
Almost three-quarters of these companies with supplier development programs provide them with some form of ESG training or information. But only 28.0% provide in-depth capacity building and technical support, which is a more advanced and customized method of supplier development.
These technical support programs usually take at least six months to implement and are sustained over the long term, with the aim of improving ESG performance rather than solely implementing action plans. For example, a company that relies on an environmentally demanding agricultural commodity could provide technical support for farmers at the base of its supply chain to adopt sustainable agricultural practices and continue them over the long term.
ESG training programs and technical support are focused on preventing supplier sustainability risks from arising. Once issues do arise, however, only 42.9% of companies give on-site or remote support to suppliers that need corrective action. For companies with a large pool of suppliers, it may be more cost effective to replace a problematic supplier. For significant suppliers or those that provide a niche input to a supply chain, however, companies may not have that option.
Data from the 2023 CSA suggests that supply chain sustainability is not yet a widespread priority for companies. Industry groups that consider the topic important from a materiality perspective show somewhat better results than the global average on some aspects of supply chain management, such as publicly disclosing a supplier code of conduct and their approach to screening suppliers. Yet the rate of adopting these basic components of supply chain management remains low.
Increased pressure from investors and consumers is raising the stakes for companies to more closely monitor and improve the sustainability performance of their suppliers. In parts of the world where supply chain due diligence rules are coming into effect, measuring exposure to ESG risks in the supply chain may evolve from an optional exercise to a regulatory requirement. Companies with complex supply chains may have a long road ahead toward building practices that improve their supply chain management, though the tools to do so — from committing to sustainability values in a code of conduct to developing the sustainability credentials of chosen suppliers — are available. These can pave the way for collaborative supplier partnerships with defined sustainability goals.
