Following from our last year’s report, Procurement’s Journey to Sustainability, we wished to go one step further and dive deeper to understand the degree of progress procurement is making in Environmental, Social and Governance (ESG).
In last year's analysis, we talked to more than 300 chief procurement officers from across the globe, representing all the main industries. In order to assess their current level of maturity, we asked them where they believe they stand on each of the 12 areas highlighted in Oliver Wyman’s Sustainable Procurement Maturity Framework, in terms of Track, Act, Impact, and Operate. This article focuses on Dimension 9 — Reinventing procurement performance monitoring.
Corporations around the world are increasing their pace in environmental, social and governance (ESG). They are embracing ambitious sustainability commitments while responding to the rapid developments in ESG regulation. This is upping the game in performance monitoring.
Procurement is playing a central role in meeting these targets and is being mobilized to contribute to the overarching sustainability roadmap. Four out of five companies surveyed now report that they have started to convert their sustainability ambitions into procurement objectives. The next step for these companies is to track their progress and achievements against these targets by reinventing procurement performance monitoring. This reinvention is necessary to meet two critical requirements.
Firstly, improved monitoring will be central to responding to the sustainability commitments taken at the corporate level. These commitments will be reported and tracked by shareholders, investors, auditors, employees, customers, and society at large. This leaves no room to overlook or ignore them as doing so could result in degraded reputation, loss of sales, and significantly increased exposure to reputational risks. Leading companies in the textiles sector, for instance, have faced severe scrutiny in regard to working conditions, fair wages and, more recently, issues of water pollution due to waste from colouring and other effluent. Secondly, improved monitoring is now required to comply with the rapidly developing regulations in ESG. This includes the SEC rules on climate related disclosure in the US, which came into force on March 21, 2022, and the European Corporate Sustainability Reporting Directive (CSRD), which came into force on January 5, 2023. The CSRD directive strengthens the rules concerning the social and environmental information that companies have to report, imposing mandatory disclosure from the start of 2024 on a full range of ESG matters for the 50,000 large companies and listed SMEs operating in Europe.
The challenge for corporations is to design an approach to sustainable procurement performance monitoring that achieves the right balance between meeting ESG requirements and avoiding too much complexity. How to achieve this difficult balance is the subject of this article.
Aggregated ESG ratings are a convenient place to start
In the course of our work, we have seen that when companies, ones that are now leading players in ESG, set out on their sustainable procurement journey, they often start out by relying initially on off-the-shelf ratings. These include those provided by CDP in carbon, water, and forests, Ecovadis in supply chains, or those of Bureau van Dijk and Dun & Bradstreet.
Although the aggregated ratings vary significantly in terms of the methodology they use and, as such, can be open to challenge, what matters most to corporations is they provide a practical place from which to start. The ratings enable companies to achieve three interrelated objectives:
1. Engage their supplier base in ESG performance, pushing them to start reporting online while launching their journey of improvement
2. Conduct high-level supplier risk assessments and carry out a preliminary categorization of the supplier base
3. Get the company started on its internal journey and educate internal stakeholders in ESG
For leading ESG players, off-the-shelf ratings also remain convenient in the longer term for monitoring their sustainability performance in lower priority or less critical purchasing categories. This keeps the impact of these categories in view at the corporate level, in terms of their contribution within the overall ESG assessment, while not overburdening the procurement function.
Active ESG performance monitoring requires much more granular indicators
When tracking supplier performance in critical areas, aggregated ratings may not provide a sufficient level of granularity necessary to meet the new requirements. This is the case in such aspects as greenhouse gas emissions, water consumption, waste generation, and on-site working conditions.
From 2024, the new CSRD regulation will impose specific requirements in terms of the indicators used when reporting water use and circularity (that is, reuse and recycling). This will force many industries, such as textiles, to dig deep when monitoring their upstream value chain. Meeting these requirements will be a challenge. Our recent research shows that while many companies are well on the way, the level of progress varies widely. For instance, more than half of the companies on France’s CAC40 have started to proactively deploy detailed sets of sustainable procurement indicators that they can measure and track in-house. The remainder will need to do so urgently.
While each company will choose which indicators and associated methodologies are appropriate for its particular ESG needs, leveraging existing indicators and methodologies (drawn from industry or private alliances standards) can often prove to be both an efficient way forward and a powerful tool for expediting change in the value chain. For instance, the sustainability commitments of the textiles industry were significantly improved and harmonized thanks to the introduction of the Higg Index from the Sustainable Apparel Coalition. Similarly, the standards published by the Alliance for Water Stewardship (A4WS) have now become the gold standard for good corporate practices around water management.
That being said, Sustainable Procurement Performance indicators are never a one-sizefits- all solution and need to be adapted to fit the circumstances, depending on the company’s particular ESG materiality assessment. Limiting the use of granular indicators to only the most critical aspects can help prioritize the company’s efforts, and avoid unnecessary complexity.
Specifically, we can only recommend mapping the purchasing categories against material ESG topics selected at corporate level. Within each category, the efforts will then be prioritized to focus on the suppliers that are identified as being most important to the company, in terms of their strategic importance or, alternatively, the purchasing spend.
In companies that are more advanced in ESG, the use of granular indicators can go one step further, to focus on a single specific product or service drawn from the pool of suppliers. Taking the monitoring approach to this level of granularity enables the company to take more tailored sustainability decisions regarding its product design, specifications, and sourcing.
Advanced players integrate granular indicators into ESG-adjusted pricing methodologies
Creating ESG-adjusted pricing approaches can be seen as the ultimate step in performance monitoring by bringing together a corporate vision for sustainability with a financial strategy. A number of best-in-class players are already leveraging carbon-adjusted pricing when making strategic decisions in their supply chain. The approaches used include sensitivity-based scenario analysis that can be used to decide, for example, where to source a critical product that is affected by carbon pricing regulations. Likewise, advanced players also use return on investment (ROI) analysis that integrates the carbon price for various energy sources, for example to choose the best fuel source for a new industrial plant. These approaches can also power internal expense management. For example, several companies have built tools that track (and thereby help reduce) carbon emissions on spend in indirect commodities (notably, travel). Each time a purchase is made, and carbon is emitted, this feeds into the shared budget line.
Whatever approach is adopted, for the time being, truly impactful carbon-adjusted pricing will need to rely on proven methodologies, such as the one developed by the Carbon Trust.
Carbon-adjusted pricing — a practical ESG proxy
The endgame, in which fully comprehensive ESG-adjusted pricing covers all the various sustainability dimensions, is simply not a practical objective for the time being. However, by enabling ESG to be embedded in sound business decision-making, carbon-adjusted pricing offers a useful proxy for how other ESG metrics might develop in the future in such dimensions as biodiversity, circularity, and water.
