Environmental, social, and governance (ESG) is now firmly established at the heart of how business and procurement are conducted. Sustainability is now of primary concern to the corporate world. As highlighted in our recent global survey of more than 300 chief procurement officers (CPOs), 80% are focused on realizing sustainability objectives. Prioritizing ESG not only enables CPOs to mitigate risk, enhance reputation and comply with regulation, but can also enable a company to capitalize on innovation, growth, and efficiency opportunities.
Conversely, businesses that fail to give sufficient focus to ESG face potential risks that can result in loss of customer trust or business opportunities. Missed ESG targets can also have regulatory consequences, while suppliers that fail to keep up with evolving standards can quickly find themselves out of step with the needs of their supply chain co-players. In sum, while non-compliance is no longer a valid option, ESG leadership can produce valuable business benefits.
As we mentioned earlier in this series, procurement has the potential to drive ESG throughout the company. A prior condition is that ESG should first be thoroughly integrated into procurement, starting with category management. Working closely with some of the most renowned CPOs, we have identified six levers that will ensure clear ESG focus in category management.
1. Start by defining the scope of your efforts
First define the purpose of your sustainability efforts and how this fits your company’s overall strategy. The scoping exercise should include a comprehensive analysis of all the major categories of spend, such as raw materials, transportation, energy, and services. The next step is to identify the key set of initial ESG goal and its focus. By this, procurement avoids to weaken its ESG impact. The set can be extended through the ESG journey.
Align procurement’s ESG endeavors with the organization‘s goals. This means locating procurement’s ESG ambition within the larger corporate context, evaluating the risks and opportunities associated with each procurement category.
2. Engage with core suppliers
Start by focusing on the handful of suppliers earlier identified as having the most impact on the ESG category goals. Concentrate initially on Tier 1 suppliers: A sustainability leader in the energy sector, for example, is focusing on 50 of their critical suppliers out of a total of 22,000 and monitors them closely for ESG measures. To ensure a realistic evaluation, the assessment of ESG practices should be performed through business specific and detailed framework and avoid ‘one-size-fits-all’ questionnaires that mainly touch the surface. This will help establish good practice that can later be extended and passed up the supply chain to the other tiers.
Based on your initial set of goals, define the ESG criteria that suppliers need to comply with in order to obtain their “license to operate”.
3. Consolidate the supplier base
Due to the potential complexities of ESG implementation, in many circumstances it is helpful to streamline your supplier base. The extent of this reduction will depend on your specific circumstances. For instance, a top player in the sports apparel industry chose to cut the number of its suppliers by half in specific categories. This enables the sustainability team to monitor ESG progress more closely and concentrate their efforts and resources on critical and promising suppliers. Additionally, consolidating spend on a relatively limited number of vendors will have positive effects on cost performance and process efficiency.
4. Develop clear guidelines for supplier panel selection
Once the “license to operate” is clear, lay out the ESG development path for your suppliers. ESG criteria can be used to rank suppliers on their ESG performance. This ensures that ESG becomes a fundamental building block in your relationship with your suppliers, providing both guidance to them and selection criteria for category managers.
Some of our clients have developed supplier rankings using a standardized set of KPIs that categorize suppliers’ levels of compliance in a variety of ways, such as “authorized”, “recommended” or “preferred” suppliers. Deviations from the chosen KPIs can flag when action needs to be taken with a supplier. The ranking can also serve as an initial screening tool, immediately eliminating suppliers that have failed to gain a “license to operate”. This ensures that the winners in the tender process are determined by a combination of criteria, including ESG.
5. Integrate ESG criteria into the tender process
Leading companies prioritize ESG in the tender process versus having a standard and low percentage allocated to the ESG criteria in the overall supplier ranking methodology. They consider ESG criteria in their decision making when awarding business. The weight given to ESG criteria will vary by case, guided by the initial scoping, and determined by the potential ESG impact, volume, and geography of the product. While some ESG specifications for the tender will be constant, others should be adjusted in line with the overall objectives. For instance, a global beverage producer requires at least 70% of packaging to come from recycled content, while a global plastic parts manufacturer puts Science Based Targets initiative (SBTi)-based targets in its tenders, such as a standard minimum threshold for the percentage of energy for production which comes from renewable sources.
6. Cooperate to spur innovation and growth
Cooperation with suppliers on critical aspects of ESG not only helps share the burden but can also yield competitive advantage for the companies that will succeed in the right partnering, providing a chance for both to grow. This can be particularly important when the supplier does not have sufficient resources of its own to fund the necessary innovation. For example, one surveyed company participates in joint CapEx programs with their suppliers. This included developing a joint power purchase agreement with a logistics supplier to source renewable energy.
This reduced energy costs for both parties while improving ESG outcomes. In another example, a leading cosmetics company developed a project that includes the training and development of local farmers in agricultural best practices. The program supports the environment while also helping improve the health of the supplier’s workers.
Companies should also support innovation by participating in global forums aimed at achieving industry-wide solutions. These forums are most effective in circumstances when industry cooperation produces mutual benefit but where the goals are unattainable individually. Such cooperation can prove particularly important when considering Scope 3 sustainability criteria. Current examples include those that set ESG standards and best practices for an entire industry, or that help ensure conformity to common ESG standards across the entire supply chain.
Leading the way in ESG
Companies can only reach long term ESG goals by putting it at the heart of the category strategy. It is a long-time effort but will eventually pay off. Therefore, the time to act is now.
