Navigating the Evolving Principles of Risk: Sustainability and Supply Chain Resilience May 2024

The world of risk management is changing as organisations face increasing pressure to address sustainability risks and ensure supply chain resilience. Stakeholders are demanding greater transparency and accountability, resulting in the need to identify and mitigate sustainability risks. More than ever risk management has become a strategic imperative for organisations.

Governance Requirements and Sustainability Risks

Increasing legislation and industry initiatives are driving the integration of sustainability considerations into risk management frameworks and taxonomy. The Environmental, Social, and Governance (ESG) criteria are emerging as a critical lens through which investors and regulators assess a company’s performance and long-term viability. Initiatives such as the EU’s Corporate Sustainability Reporting Directive (CSRD) and the newly introduced EU Corporate Sustainability Due Diligence Directive (CSDDD) mandate companies to identify and disclose sustainability risks across their operations and supply chains. The principles of risk and opportunity identification alongside prioritisation are the foundations for organisations looking to embed sustainable procurement principles.

Traditional Risk Assessment Processes vs New Methodologies

These different lens for considering risk are leading to new and evolving methodologies. But how does new thinking in risk identification differ from traditional risk assessment thinking?

There are some fundamental differences:

• Traditional risk assessments typically focus on evaluating risks to an organisation’s operations, assets, and objectives. They aim to identify potential hazards, assess their likelihood and consequences, and determine appropriate mitigation measures. The primary goal is to protect the organization’s interests and ensure business continuity.
• The new methodologies for assessing sustainability risks and supply chain risks take a broader perspective. They recognize that an organisation’s activities can have significant impacts on the environment, society, and stakeholders beyond the organisation itself. This concept is known as “double materiality.”
• Traditional risk assessments often rely heavily on historical data, statistical analysis, and quantitative measures of risk. While these methods are valuable, they may not fully capture the complexities of sustainability risks, which can be influenced by various social, environmental, and governance factors.
• The emerging methodologies for sustainability risk assessment emphasize stakeholder engagement and supply chain due diligence. By actively involving employees, local communities, civil society organizations, and other stakeholders, organizations can gain insights into potential risks and impacts that may not be immediately apparent from within the organization.
• Another key difference lies in the prioritisation of risks. Traditional risk assessments prioritise risks based on their potential impact on the organisation’s operations and financial performance. In contrast, sustainability risk assessments consider not only the risks to the organisation but also the organisation’s potential impacts on stakeholders and the environment, considering factors such as leverage and the ability to influence change.

Let’s look at a couple of these changes in more detail.

Stakeholder Engagement and Supply Chain Due Diligence

Stakeholder engagement has become a crucial component of sustainability risk identification. By actively involving employees, local communities, civil society organizations, and other stakeholders, companies can gain valuable insights into potential risks and impacts that may not be immediately apparent from within the organization. This inclusive approach not only enhances risk identification but also fosters trust and transparency.

In addition, supply chain due diligence has gained prominence as companies recognize the need to understand and mitigate sustainability risks beyond their direct operations. Sustainable procurement practices enable organisations to identify and address risks related to sustainability impacts throughout their supply chains.

Leverage Considerations and Prioritisation

When evaluating sustainability risks, organisations must consider their leverage and ability to influence change. By prioritising risks based on their potential impact, likelihood, and the company’s leverage, organisations can allocate resources more effectively and drive meaningful change within their sphere of influence.

Methodological Challenges and Implementation

The shift towards incorporating sustainability and supply chain risks into organisational risk management poses significant challenges that companies must overcome:

• Data availability – While most organisations have access to retrospective data within their own operations, gathering comprehensive data from stakeholders across extended supply chains remains a challenge. As new sustainability impacts emerge, understanding future risks becomes increasingly complex. Standardised approach for collecting and categorising sustainability and supply chain risk data are still emerging.
• The use of non-financial risk data – Environmental, Social, and Governance (ESG) factors rely heavily on financial risk and impact data, aligning with the “double materiality” concept. However, assessing an organisation’s outward impacts (“inside-out” perspective) relies less on financial data and more on stakeholder feedback, introducing subjectivity and interpretation challenges.
• Diverse stakeholder expectations – Sustainability encompasses people, planet, and profit – the triple bottom line. Within each of these areas, stakeholders may have varying priorities and expectations, making it difficult to strike a balance that satisfies all interested parties.
• Capability & Capacity – While some organisations have dedicated risk professionals who play a pivotal role in understanding risk, incorporating supply chain risks into risk management requires individuals involved in commercial activities to develop a comprehensive understanding of risk concepts and evaluation methodologies. This necessitates investing in capability-building initiatives to ensure that individuals can effectively execute these additional tasks.

Five Tips for Evaluating Sustainability Risks 

• Conduct a comprehensive materiality assessment: Identify the most significant sustainability risks and opportunities by engaging with internal and external stakeholders and considering both financial and non-financial impacts.
• Integrate sustainability into enterprise risk management (ERM): Ensure that sustainability risks are incorporated into the organisation’s overall risk management framework, with clear governance structures and accountability.
• Leverage technology and data analytics: Use digital tools and advanced analytics to gather and analyse data from various sources, enabling more informed decision-making and risk monitoring.
• Foster cross-functional collaboration: Encourage collaboration between sustainability, risk management, procurement, and other relevant teams to ensure a comprehensive approach to risk identification and mitigation.
• Engage with industry initiatives and best practices: Participate in industry-specific initiatives, benchmarking exercises, and knowledge-sharing platforms to stay informed about emerging risks, best practices, and regulatory developments.

Traditional risk assessment methodologies focus on protecting organizational interests, while the new methodologies for sustainability risk assessment take a broader view, considering the organisation’s impacts on stakeholders and the environment, engaging stakeholders, and prioritising risks based on leverage and influence. As sustainability and supply chain resilience become increasingly important, organizations are recognising the need to integrate these new methodologies into their risk management frameworks.