Why ESG Frameworks Are Key for Third-Party Risk Management

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By James Kim

As a responsible, future-focused business, you know that environmental, social and governance (ESG) factors are vital for managing risk and creating value. With the growing threat of climate change and human rights abuses the world over, consumers, shareholders, and regulators are paying closer attention to global supply chains.

Organizations that source goods and services from overseas need to pay special attention to accurately measuring and reporting on their scope 3 greenhouse gas emissions (GHG). Once a scandal hits the headlines of major news outlets, the fallout often means that the brand suffers long-term damage to its financial performance. 

Both institutional investors and retail investors looking for responsible investments are more likely to invest in organizations that put corporate social responsibility (CSR) and ESG factors at the heart of their business practices.

So, as companies like yours strive to meet ever-growing sustainability goals and regulations, the business world is turning to ESG frameworks to help them navigate their third party risk management. But what is an ESG framework, which frameworks are most commonly used, and how can following them help your vendor lifecycle management processes? Let’s take a look.

How an ESG Framework Improves Your Risk Management

Put simply, an ESG framework is a set of guidelines that help businesses ensure they’re operating sustainably and responsibly. As a defined ESG reporting structure, it offers businesses a standardized approach to defining and implementing sustainability practices in their supply chain. Importantly, an ESG framework provides a straightforward way to monitor vendor performance.

An ESG framework can also help improve communication and collaboration between your organization and your vendors by supporting your risk management team’s efforts in carrying out due diligence on potential vendors, identifying risks, and making more informed decisions about vendor relationships. 

For a comprehensive and structured approach to assessing and managing risk, ESG frameworks include several sustainability criteria to benchmark your vendor against — these criteria are known as ESG ratings.

ESG Ratings

An ESG rating is a score that shows how thoughtfully and thoroughly your vendors approach sustainability, which, by extension, affects your supply chain. This score specifically looks at ESG metrics, like energy efficiency and emissions data, to measure how the company handles its ESG issues. 

Just like a “credit score”, a higher rating shows the vendor excels in sustainability and is likely to be a good fit for your company goals; while a lower rating means the vendor needs to improve in one or more areas. By incorporating ESG ratings into your vendor onboarding processes, you can get a more complete picture of your vendors’ ESG risks and opportunities. 

The Most Popular ESG Frameworks

While ESG reporting is voluntary ( it won’t always be), there are many ESG disclosure frameworks available, each with its own advantages and disadvantages. Although you can create your own bespoke framework, it’s usually easier to stick with an established framework as you integrate ESG reporting standards into your processes.

Some of the most commonly used ESG frameworks include: 

• The Global Reporting Initiative (GRI) Standards
• The Carbon Disclosure Project (CDP)
• The Sustainability Accounting Standards Board (SASB) Standards
• The Financial Stability Board’s Task Force on Climate-related Financial Disclosures (TCFD)
• The United Nations Global Compact’s (UNGC) 17 Sustainable Development Goals (SDGs)
• The Climate Disclosure Standards Board (CDSB) Framework

We’ll take a quick birds-eye view of each of these frameworks so you can come to understand which may make sense for your business.

The Global Reporting Initiative (GRI) Standards

Launched in 1997, the GRI is the most widely used ESG disclosure framework in the world. It uses the “triple bottom line” (TBL) approach to reporting, which focuses on people, profit, and planet. Following this approach gives organizations a holistic picture of their impact on society, the economy, and the surrounding environment.

The GRI framework comprises three sets of ESG standards that can be used together: Universal Standards, Topic Standards, and Sector Standards. 

The Carbon Disclosure Project (CDP)

Holding the world’s most comprehensive dataset on environmental reporting, the CDP only focuses on an organization’s environmental impact, helping businesses and cities report on their GHG emissions and the environmental risks of climate change and deforestation. 

The Sustainability Accounting Standards Board (SASB) Standards

Organizations across the globe use SASB Standards to look at the financials of sustainability for their industry. In other words, it looks at ESG metrics that are financially material to the business. For example, a consumer goods company could use this framework to measure how much of its packaging is made from renewable materials, or the amount of water used in its manufacturing processes.

As its disclosure reports are industry specific, these standards are efficient and cost-effective, especially as businesses can use them alongside other frameworks.

The Climate Disclosure Standards Board (CDSB) Framework

This was originally formed as an “international consortium” of a group of business and environmental NGOs. The CDSB (now part of the IFRS Foundation) created its Framework to encourage organizations to report “natural capital” with the same importance as financial capital by including environmental and climate information in their corporate annual reports. 

The consortium considers natural capital as a crucial component of an organization’s performance, as the impact of environmental issues and climate change can bring its own risks and opportunities to different industries.

Aside from its use for TDFC disclosure reporting (see below), the CDSB Framework is also used for regulatory compliance outside the U.S., where environmental reporting is a legal requirement.

The Financial Stability Board’s Task Force on Climate-related Financial Disclosures (TCFD)

During the COP21 Paris Climate Change Conference in 2015, the G20’s Financial Stability Board created the TCFD to help companies make better decisions on how they hold and spend money on climate risks. 

The TCFD framework provides four disclosure recommendations based on the following core business operational areas: “governance, strategy, risk management, and metrics and targets.”

The United Nations Sustainable Development Goals (SDGs)

Although the SDGs are a set of non-binding global goals set by the UNGC, touching topics like sustainability issues and social impact, businesses are increasingly using them to inform their internal ESG goals.

ESG Frameworks Are Crucial for Vendor Management

Choosing a suitable ESG framework will help your risk management team:

• Create and enforce sustainability requirements for all vendors
• Identify and mitigate potential risks in your supply chain
• Identify potential service providers who carry less risk

If you select vendors without first evaluating their ESG rating, you could end up with a supplier that puts your entire supply chain at risk. A vendor that doesn’t meet your sustainability requirements may not provide the quality products or services you need, or they could leave your business susceptible to reputational damage. 

How to Integrate Your ESG Frameworks Into Your Supply Chain

When you’re not sure where to start, implementing an ESG framework into your business strategy can be a challenge — but the benefits are absolutely worthwhile. ESG frameworks can provide a roadmap for your supply chain to operate more ethically and efficiently. 

As sustainability reporting becomes an increasingly important issue for companies, you need a system for tracking progress towards corporate sustainability goals. Vendor management software can help you understand your suppliers’ ESG performance. 

An all-in-one toolkit like Certa can give you the tools to set up your onboarding workflow to include ESG rating processes for new suppliers, while also automating annual reminders. This will help your risk team to keep track of your vendors’ sustainability progress with ease, as it’ll highlight any potential red flags before they develop.

Remember: Integrating an ESG framework is an ongoing process. It needs to be reviewed and updated regularly. Otherwise, your supply chain will show signs of strain.

Outside of the onboarding process, Certa can help your risk management team to:

• Select and generate the best ESG framework(s) for your organization
• Create rating scorecards with the right ESG metrics to evaluate potential suppliers
• Automate regular workflow checks to ensure that your suppliers are meeting your standards
• Keep track of key vendor data and communications