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4 reasons to put an ESG lens on your supply chain now

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Greg Distelhorst

In the past, company headquarters and their supply chains could be thought of as distinct entities, with the environmental, social and governance (ESG) impacts tracked (and often not tracked) separately.

Greg Distelhorst, associate professor at the University of Toronto, says this is no longer the case, with the playbook about how organizations manage risks in the supply chain changing greatly in recent years. 

“Some of the biggest environmental and social impacts that a company has are in its global supply chains,” he says. “One of the reasons you’re hearing the term ESG more and more often is that investors and lenders have come to appreciate the role that these risks play. In corporate finance and equity markets, they increasingly demand that companies report on environmental and social risk and on governance risks, so this is becoming an important part of these markets.”

With new regulations and rules being introduced globally, and PwC noting US$18 trillion was invested into firms that follow ESG principles in 2021 (with estimates soaring to US$33.9 trillion by 2023), the regulatory and financial impacts of ignoring these evolving standards and rules are far too great, and may ultimately be bad for business. 

  1. ESG reporting, including in supply chains, is shifting from voluntary to mandatory

Existing and upcoming standards and regulatory requirements provide a strong reason for business leaders to educate themselves around and rethink their approach to supply chain management, says Distelhorst.

“In prior years we used to face a range of corporate sustainability or responsibility reports – some disclosing the social impact on the supply chain, some disclosing the environmental risks,” Distelhorst says. “But what has happened in the last few years is that many of those reports have consolidated and merged into international organizations that set global accounting standards.”

Regulations, like those being developed at a government level in places like the US or the European Union’s Non-Financial Reporting Directive, will require ESG sustainability reporting for large companies.

In addition to government-level regulations, there is also increased standardization coming to business reporting, which will incorporate ESG into an organization’s results in a similar way to how the financial figures are now presented.

  1. The supply chain is where the biggest impact of ESG often lies

Companies that want to demonstrate the biggest ESG impacts need to look beyond in-house operations and focus on the supply chain.  According to McKinsey, 90 per cent of consumer companies’ emissions and environmental impact are in the supply chain. Distelhorst agrees, noting there are outsized implications that come from the supply chain.

“To take one example: the number of people physically manufacturing Nike products is many times larger than Nike’s direct employee footprint,” he says. According to figures from 2015, Nike employed 62,600, while just one of its manufacturers, Yue Yuen Industrial Holdings, employed 411,000 people – nearly seven times Nike’s employee base.

It’s a big consideration for ESG and carbon footprint reporting. Organizations can look sustainable and socially sound when just looking at operations under their own roofs. But when you broaden to include suppliers in the chain, strong ESG records can be tarnished by suppliers’ weak environmental records, poor treatment of workers, or impacts of resource extraction, says Distelhorst.

  1. Supply chains are now more transparent than ever

It might seem tempting for companies to hide their supply chains’ poor ESG records, but trends in transparency, social media, and information disclosure make deception increasingly untenable.

We need only look to repeated revelations of slave labor, environmental degradation, and human rights abuses emerging from all corners of global supply networks, ranging from high-tech electronics manufacturing to basic agricultural commodities like the palm oil that is omnipresent in consumer goods.

“The pace of revelations about what’s happening in a supply chain is faster than it’s ever been,” says Distelhorst. “If a business said it doesn’t care about the supply chain because [the average consumer] doesn’t see what happens in the supply chain, I would suggest they think again. If you have any kind of public profile such that it would be embarrassing or scandalous to have an adverse environmental or social impact because of something in the supply chain, there is probably someone out there who will find that out.”

  1. Sustainable and socially responsible supply chains can be a branding opportunity 

If organizations aren’t swayed by other arguments towards improving the ESG of their supply chains, Distelhorst notes that for some companies there is a purely monetary one: Creating a more socially responsible and sustainable business can help sell more products.

He points to Generation Z consumers, who more closely tie personal status to the values of the brands they purchase. According to one report, three-quarters of those born between 1995 and 2010 prefer to buy sustainably. “Younger consumers also care more about buying socially responsible brands and feel status loss if they are using a brand that is connected adversely with bad supply chain processes,” Distelhorst says. “That means improving ESG could also boost the bottom line.”     

Want to learn more tips and tricks for supply chain sustainability? Rotman's new ESG designation program equips professionals with a thorough understanding of how to align business models with responsible practices to unlock innovation opportunities, mitigate risk, meet rising standards for accountability and transparency, and to ensure long-term organizational performance. Register now.

Gregory Distelhorst is an associate professor at U of T’s Centre for Industrial Relations and Human Resources, who is also cross appointed to the Rotman School’s strategic management area.