Article 1
Supply chain: The intersection of ESG and the new customer
With the increased focus on environment, social and governance (ESG) in supply chains by customers, investors, employees and the growing number of laws, supply chain leaders are forced to adapt or die. According to a recent report released by Ernst & Young LLP based on a survey of 525 senior supply chain executives, 80% of firms are increasing their focus on ESG initiatives; however, many still lack the business case, end-to-end supply chain visibility and technology to realize their sustainable supply chain objectives.
No company can meet its ESG goals on its own. You need the cooperation of your suppliers and partners to provide transparency and reliable data. Supply chain leaders that adapt and thrive in the new landscape can go beyond risk mitigation to bring their organization a competitive advantage.
In this four-part series, we will analyze trends and provide guidance on how the supply chain function can utilize and leverage your position, influence, and data to help your company achieve a competitive advantage. The series, based on extensive discussions with over 30 multi-national companies spanning numerous industries, will share insights on the following topics:
• The intersection of ESG and the new customer
• The hub for creating constellations of value (June 29)
• Strategic data sharing for ESG progress and reporting (July 6)
• From risk mitigation to competitive advantage (July 13)
Companies in every industry are under increasing pressure to understand and mitigate often conflicting risks in their supply chain to increase resiliency, meet the needs of the new customer and operate a responsible supply chain regarding ESG that meets the growing number of regulations. As supply chain leaders know all too well, no company is an island. Across the broad spectrum of ESG topics, every company in your supply chain, from logistics providers to raw material sources, are part of the solution in meeting your ESG goals – and almost always part of the problem when there is an incident.
In every aspect of ESG – environmental impact, labor conditions, data privacy, corruption – your company is liable to some extent for the actions of companies in all levels of your supply chain. The supply chain function is critical in managing this liability and establishing an acceptable and consistent risk tolerance across your organization. Environmental impacts, data security, and labor practices must be integrated into your corporate strategy and enterprise risk management process at the highest level. It is imperative that supply chain leaders examine their organization’s current strategy and assess risks, ensuring that ESG and the new customer needs are accounted for and that your reputation, integrity, and stakeholder expectations are factored into the equation. The task is made much more challenging because the specific relevant risks within the broad E, S and G pillars can vary dramatically from company to company in different markets and industries.
Companies are adjusting their due diligence practices to account for the growing focus on ESG. Forward thinking companies and supply chain leaders realize that two significant trends are intersecting in a way that will define the leaders and laggards:
• First, there is a move toward new business models as companies seek to meet the needs of the new customer and create more happy and loyal customers.
• Second, there are increasing regulations and a growing stakeholder focus on how companies manage their ESG responsibilities.
The supply chain function in organizations plays a critical role in both areas. Supply chain leaders need to understand the intersection as well as their role in shaping how their company capitalizes to improve business performance.
The new customer
In the past five years, there has been a significant shift in customer expectations across industries and geographies. Customers now demand real-time information and more control over their supply chain experience. Based on a 2022 survey of 1,370 people in 12 countries conducted by the Digital Supply Chain, the new customer seeks personalized products and services, transparent pricing, and adherence to social values. The emergence of the “new customer” requires companies to adapt their supply chains to meet these new demands, or else face potential risks.
Business models are rapidly changing to meet the expectations of the new customer. Brands are supplementing their traditional wholesale channels by going direct-to-customer in categories ranging from liquor to razor blades. Platform businesses are expanding from ridesharing and vacation rentals to at-home food delivery. Even traditional market leaders in product segments such as eyewear are under pressure from innovative brands, forcing them to explore direct-to-customer (DTC) sales channels.
Technology is driving the change in two distinct and interconnected ways. Most important, individuals now expect technology to deliver a frictionless purchasing experience. They also expect visibility into where their product is and when it will be delivered. Many individuals go one step further and want to know where a product is made, the related working conditions and its impact on the environment. They are consciously beginning to integrate ESG considerations into their purchasing decisions. They expect a high level of visibility and transparency from the companies they do business with.
Second, these new customers are also “new employees” in the sense that they bring their personal expectations and, in many cases, their socially conscious selves into the workplace. They want to work for companies that have a high level of visibility and transparency, and they want their company to require this from their suppliers.
The intersection with ESG
Meeting the needs of the new customer is blurring the lines between B2B and B2C. Just as consumers expect more transparency, companies are demanding the same from their suppliers. What are the labor conditions in your factory? What are you doing to reduce your carbon-emissions? How mature are your controls for managing business and ESG risks?
Companies are seeking to develop a lasting and more intimate relationship with customers through the collection and analysis of data about their choices and preferences. The goal is to go beyond simply satisfying customers to developing and retaining “happy and loyal customers.” The direct-to-customer business model shift is one of the primary ways to do this. A happy customer is willing to pay the same or more for your product and then shares their positive experience with others. A loyal customer always comes to you first for what they have been buying and looks to you first for any related product or service.
For a growing number of consumers and business customers, ESG is now one of the brand attributes that influences their purchasing decision, therefore creating happy and loyal customers requires the integration of ESG into the supply chain function. For companies buying from companies, it is now abundantly clear that no one company can meet their ESG goals without the collaboration of their suppliers and logistics providers. In more and more industries ESG criteria are part of the B2B supplier selection process.
Supply chain leadership is at the center of this powerful convergence. Savvy supply chain leaders will work to capitalize on the intersection of the new customer and ESG by becoming the hub of new flexible supply chain models and new data sharing strategies. The result will be creating a long-term competitive advantage for your company.
The next articles in this series will provide practical guidance on actions supply chains leaders can take now.
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Article 2
The supply chain is the hub for creating new Constellations of Value
New digitally integrated and transparent business models will require new types of internal collaboration in the organization. Companies will need to break down operational silos and create cross-functional workflows specifically aimed at creating more happy and loyal customers and in meeting increasingly important ESG goals.
Globalization over the past 30 years has been focused on outsourcing and offshoring to achieve lower costs. The supply chain function supported this strategy by finding lower cost sources and creating more efficient logistics. However, with the emergence of the higher expectations of the new customer, the supply chain function must join marketing, product development and ESG to become more customer-facing. In our research and conversations with the Digital Supply Chain Institute (DSCI) member companies, we have a shorthand term for the transformation of the supply chain to customer facing. We call it the “Frontside Flip” – with supply chain shifting from back-office fulfillment to being integral in meeting customer expectations. As supply chain transforms into a collaborative customer-facing group it will require attracting, developing, and retaining new talent.
Today, an essential element of the Frontside Flip includes better integration of ESG into strategy and operations. The supply chain function is the hub of this ESG integration because so much of the data and ability to meet ESG goals lies with the end-to-end operations, and the companies in your supply chain.
Companies need to think about ESG as a sustainability issue, reputational issue, legal issue, and an operational issue. This requires effective cross-functional collaboration. With the growing number of regulations related to everything from data privacy to environmental practices to human rights, we see that each regulation has similar overall requirements, with some specific variations. They all require you to be aware of, and take some responsibility for, your suppliers’ actions. It is critical for supply chain leadership to also be present alongside legal departments in evaluating new regulations so new goals and the related policies and procedures are practical to implement.
One of the ways to gain the support of the legal function and the business units is to work with them to come to a common understanding of what level of risk is acceptable and to set ESG goals that are aligned with business performance goals. Another key reason for building cross-functional support is to operationalize the idea that ESG issues need to be considered at every step of the product lifecycle, from development through recycling or disposal. This circular approach is critical to making the shift from being reactive to more preventative and proactive.
The importance of cross-functional collaboration comes into play again as you consider ESG and your third parties. Suppliers are one of the highest risk areas for topics ranging from corruption to data privacy to environmental practices to labor violations. Since the supply chain function often owns or co-owns these relationships, you must play a central role in using your leverage and control to gain suppliers’ support and to access the data you need to meet your reporting requirements.
ESG-driven supply chain leadership imperative: Creating Constellations of Value
In addition to required internal transformations, ESG-integrated business models require the development of new, secure external relationships.
Instead of thinking in traditional terms of rigid supply and sales channels, companies need to think about forming flexible supply and sales constellations. Supply chain leaders are now the chief builders and managers of these Constellations of Value. The need to integrate ESG considerations into operations requires a new lens in why and how companies are brought into your supply chains. A company could be your competitor in one constellation but your partner in another constellation.
The need to integrate ESG into operations means that every company in your value-chain needs to be considered from a business and ESG performance perspective. The need for cross-functional decision making is clear as companies seek to balance competing pressures. Here are examples of decisions companies will need to make:
• Shifting production to a new low-cost factory may reduce short-term product costs but greatly increase labor and environmental compliance risks.
• Adding a back-up supplier may improve resiliency but create enormous new intellectual property (IP) protection and cybersecurity risks.
• Using a new shipping company may improve on-time performance, but dramatically hurt your ability to meet carbon reduction goals.
• Hiring a local “consulting” firm may help win a government contract but increase corruption exposure.
Every business is on a tightrope between business and ESG performance. Making decisions that maintain your balance on the tight rope is only possible with rigorous internal collaboration and flexible, trusted suppliers in your constellation. Business growth by creating and retaining more happy and loyal customers is at the end of the tightrope.
As companies shift to new business models, they must design new approaches to business continuity and supply chain resiliency from the start. The last three years have fundamentally changed how companies need to build and operate their supply chains. Several “unexpected” events – the COVID pandemic induced shortages, the ship blocking the Suez Canal, and the war in Ukraine – caused enormous disruptions in supply chains. Meanwhile, the rapidly increasing number of cyberattacks on software and physical goods supply chains adds to the unpredictability and increases the need for companies to develop trusted constellations that provide a level of security in addition to flexibility and resiliency. Business continuity must be approached in a holistic manner that looks at risks ranging from data privacy to labor to environmental to geopolitical issues.
As ESG is increasingly integrated into purchasing decisions by consumers and companies, each company must understand that meeting any ESG goal is a shared responsibility by every company in the supply. chain.
In our next article in this series, we will cover specific steps companies can take to get the data needed to track progress towards meeting ESG goals while building trusted, resilient constellations.
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Article 3
Unlocking competitive advantage through strategic data sharing
Much has been written about using environmental, social, and governance (ESG) as a measure of a company’s material, non-financial risks in the desire to have a more complete understanding of the long-term growth and sustainability of a company. To improve their standing in this area, companies have made commitments and pledges, published disclosures and reports, and made appointments of ESG or sustainability leaders.
Making public commitments has proven to be much easier than achieving the stated goals. Regulators and the public expect companies to take reasonable steps to meet ESG goals or face charges of “green washing” and the possibility of fines and the loss of customers.
The first step to achieving ESG goals is to ensure alignment with the business strategy and the overall enterprise risk management (ERM) process. The supply chain is central to both. Too often companies set ESG goals in a silo or without the processes, data, or buy-in to achieve them. Supply chain leaders must play a critical role in shaping the ESG goals because supply chain plays an essential role in meeting the goals.
ESG is a very broad topic. Each of the three ESG pillars contain numerous issues that are important to certain stakeholders and each pillar contains issues that are increasingly regulated. Some issues may be central to your supply chain while others are ancillary. It is imperative that each company identify which issues to prioritize in the E, S and G pillars. The prioritization must take corporate strategy, risk management, materiality assessment and stakeholder feedback into account. Equally important, the prioritization of issues must consider your ability to gain supplier support and access needed data. Here are just a few of many examples of issues in each pillar:
• Environment: Carbon output. Energy consumption. Water consumption.
• Social: Labor practices. Diversity, equity & inclusion. Workplace wellness.
• Governance: Data privacy. Corruption. Information security.
Supply chain is involved in every aspect of helping your company achieve ESG goals by influencing suppliers to participate in helping to meet the goals. There is shared risk and shared responsibility among supply chain partners in virtually every aspect of ESG. Regulations now cover many issues within the ESG pillars, and the number is likely to grow quickly.
Supply chain due diligence laws have been passed in numerous countries (e.g., Germany, France) that require companies to conduct due diligence on the environmental and social performance of their suppliers and take appropriate corrective actions to address issues. Guidelines and directives on responsible supply chain have been issued by many more countries that will or may become law in the near future (e.g., EU, Canada, Japan).
Over a dozen countries, including the U.S., U.K. and Italy, have laws prohibiting forced labor that require companies to take action to identify, prevent and mitigate modern slavery in operations and supply chains. Of note to supply chain leaders, some of these laws and guidelines include requirements on the supplier facility and the product. This demands visibility into the practices in the facility and traceability into the product from raw material to finished product.
Strategic data sharing
It is clear that no company can meet their ESG goals alone, whether it is carbon reduction or water usage or labor conditions or data security. As supply chains are formed it is critical to look at each company in the Constellation of Value from the ESG perspective. A company that may be a competitor in one sales channel could be an incredibly valuable contributor to meeting your ESG goals and creating happy and loyal customers in another sales channel.
Most companies need to collect data from their suppliers in order to complete ESG reporting. The supply chain is the hub of ESG integration because so much of the data and ability to meet ESG goals lies with suppliers and other third parties in your value-chain. Carbon emissions are one area where supply chain can have an enormous impact. Scope 3 carbon emissions are the result of activities from assets not owned or controlled by your organization, but that your organization indirectly affects in your value chain. In a 2023 report, Deloitte said, “For many businesses, Scope 3 emissions account for more than 70% of their carbon footprint. For example, for an organisation that manufactures products, there will often be significant carbon emissions from the extraction, manufacture, and processing of the raw materials.”
However, data access and quality from suppliers for ESG reporting is a huge issue. Currently, many companies calculate Scope 3 emissions using volume-based estimates, but leading companies are trying to move to accessing supplier-specific data. This will not only improve the accuracy of the reporting, but it will allow companies to be more proactive in identifying ways to collaborate with suppliers to reduce emissions. The challenge is getting suppliers to be transparent and willing to share data. The supply chain function must be the conduit for getting critical data from suppliers for reporting. This clearly applies to carbon emissions, but it also applies to virtually every other ESG issue from labor rights to health and safety in the workplace.
Strategic data sharing with suppliers becomes a critical new skill. Companies need to create an incentive for their suppliers to spend the time and resources to collect and share the needed data. This can be accomplished through strategic data sharing. First identify exactly what data you need from the supplier and how often you need it for ESG reporting. Then identify what data you have that would be valuable to your supplier. Supply chain leaders need to shift their mindset and go beyond sharing transactional data to sharing strategic business performance and ESG data.
As part of this new mindset, you need to understand that the value of data is relative – from company to company and from supply chain constellation to constellation. These situations will become more common and require companies to become focused on exactly what data they are willing to share and what they want in return. The key to strategic data sharing is to have a laser-focus on specific pieces of data. Don’t think about large data exchanges. They will take too long to negotiate, require too many approvals and be too difficult to govern. Identify specific data that you need to track progress toward your ESG goal or for your ESG reporting requirements. Although you need ESG data, your supplier may need business performance data. You may have huge amounts of supplier performance data that could be aggregated and shared.
Supply chain leaders that master strategic data sharing (aka data trading) will create stronger, more trusted Constellations of Value with their suppliers and better integrate ESG into how they operate. This lays the foundation for turning ESG from a risk mitigation tactic to a corporate competitive advantage strategy.
Read the original article here.
Article 4
Supply chain must lead the shift from risk mitigation to competitive advantage
Every company is on a tightrope between balancing business growth, supply chain resiliency and ESG risks and performance. Balancing ESG issues and the needs of the new customer makes the balancing act even more difficult. The supply chain function is the link between the internal functional silos and the critical suppliers. The challenge is to add enough controls so you can survive falling off the tightrope.
As part of integrating ESG and compliance into operations, many companies are trying to push the supplier compliance and ESG risk management responsibility to their business units. As a result, the supply chain function gets visits from the information security team stressing that suppliers must have sufficient data protection controls in place. The sustainability managers want suppliers to meet labor and environmental regulations and standards. The legal department pushes for suppliers to have sufficient anti-corruption systems in place to meet contractual obligations and legal requirements. Of course, every department thinks their risk area is the most important. Given that the number of companies in a supply chain can run into the tens of thousands, it is a daunting job. Companies must evaluate and prioritize high-risk suppliers and selected risk topics to effectively manage compliance and risk.
Inherent versus residual risk
Forward-thinking companies realize they need to go beyond assessing the inherent risk of suppliers to finding scalable ways to assess the residual risk suppliers pose after factoring in their systems and controls. Inherent risk factors such as location, type of business or level of interaction with the government can’t be easily changed. But every supplier does have the ability to reduce their residual risk by improving the maturity of their management systems. This is true for every compliance and ESG topic. By focusing on residual risk, you can make sure you and your suppliers have added enough controls to reduce the damage from falling off the tightrope.
According to a 2022 study by Deloitte and Manufacturer’s Alliance, companies that prioritize supplier risk management and assess the residual risk of suppliers can achieve a 20% reduction in supply chain disruptions and a 14% decrease in compliance-related issues.
Supply chain management needs to prioritize where to focus their attention by starting to holistically risk-rank suppliers based on the residual risk they pose, and match this against the ESG topics that are most critical to their corporate strategy, ESG goals and stakeholder interests.
There are many tools and sources available to assess the inherent risk a supplier poses. In the case of corruption, you can look at the country and the level of government interaction. For data privacy you can look at the jurisdiction and the data being collected. For labor, you can look at the prevalence of forced labor or use of sub-contractors in that country and industry. The bigger challenge, and an ultimately more effective method, is to review and define the acceptable level of residual risk across the range of ESG topics.
Different risks for different pillars
What is your risk tolerance in the E, S and G pillars and what is your risk tolerance on the topics within each pillar? For example, a technology company may demand suppliers have very low residual risk in information security, whereas an outdoor apparel company may require suppliers to have a very low residual risk in environmental practices.
To do this you must look at the maturity of systems and controls the supplier has in place to manage their inherent risk. A mature compliance program can effectively offset a high inherent risk thus creating a lower residual risk. One multinational company, for example, found that a long-term supplier in China had a lower residual risk than a newly contracted supplier in Norway.
As we discussed in the previous articles, the transition to new business models and the evolving demands of the new customer will require companies to partner with suppliers in new ways to create Constellations of Value. Changes in regulations and public opinion may make certain ESG issues more relevant and important. This will require you to change how you assess and risk-rank suppliers. A supplier that has a mature environmental compliance program may be in the infancy of developing a data privacy program. What did not matter before may suddenly become a critical area of concern.
Given the demands the new customer, the sweeping range of ESG topics and the complexity of supply chains, every company must prioritize. Every company needs to make a conscious decision about which topics are most important in the E, S and G pillar to their corporate strategy. This will help companies determine where to excel to gain a competitive advantage and where to be content with effective risk mitigation. This is only possible if supply chain leaders evolve to using more effective and scalable ways to assess the residual risk of suppliers and work with critical suppliers to reduce the residual risk to a mutually acceptable level. This will require trusted relationships with key suppliers where strategic data sharing takes place and applies to every type of company involved in producing and delivering your products and services.
Balancing ESG pillars
The other critical component in turning ESG into a competitive advantage is selecting the right topics for your company to focus on in the E, S and G pillars. ESG is not one big thing. It is a number of discreet but linked issues under the ESG umbrella.
In the E pillar, there is currently a groundswell around carbon reduction. Similarly, in the S pillar, DEI is grabbing a great deal of attention. These are both clearly important topics that need attention. However, some credit card and smartphone companies are promoting data privacy as a core product benefit. Some outdoor apparel companies are promoting responsible supply chain practices around environment and human rights.
Supply chain must be an essential partner in shaping and meeting ESG goals and gaining a competitive advantage for the firm. New customers – both B2C and B2B – are increasingly integrating ESG considerations into their purchasing decisions. But be aware that not all customers care to the same degree. You need to make decisions that balance the traditional supply chain concerns of having the right product at the right place at the right time with the new ESG considerations. There may be trade-offs between product cost and labor conditions or between delivery speed and carbon emissions. The intersection of business models to meet the needs of the new customer and the increased focus on ESG requires the supply chain function to be at the center of cross-functional teams and at the hub of external Constellations of Value. Supply chain leaders must play a critical role in setting the right ESG goals for your organization and in engaging suppliers to share strategic data and commit to collaborative improvements. It’s not easy, but those that excel will turn ESG into a competitive advantage and become sustainable industry leaders.
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