Applying ESG Principles in Ethical Supply Chain Finance

The sustainability of supply chains has become increasingly important to businesses in recent years, as consumers become more concerned with the environmental and social impact of their buying choices. In other words, supply chain finance is no longer just about freeing up working capital – environmental, social, and governance (ESG) factors are just as important to consider.

This isn’t just a fad – HSBC’s Global Head of Trade Finance Propositions, Burcu Senel, references increased client demand, with nearly a third of businesses seeking ESG-centric solutions to create a more sustainable supply chain. Applying ESG principles in ethical supply chain finance doesn’t merely benefit the wider world or appease consumers, either; it promotes other tangible benefits, such as improving your bottom line and reinforcing your supply chain’s resilience.

Here’s everything you need to know about ESG principles and how they’re changing what an ethical supply chain can be.

What is ESG?

ESG criteria measure a businesses’ ethical practices. The environmental aspect is concerned with how businesses intersect with natural sustainability, while the social element prioritizes relationship management. Governance focuses on the fairness and transparency of a company’s internal operations.

Contributive factors toward a business’s ESG quality include:

• Energy use
• Waste and pollution output
• Treatment of animals
• Philanthropy
• Employee working conditions
• Shareholder rights
• Political engagements

Socially conscious investors often use these ESG criteria to roughly benchmark a business’s overall ethical compliance.

ESG supply chain finance: The current state of play

Beyond being an ethical benchmark, ESG criteria are increasingly being used in supply chain management and supply chain finance to help create more sustainable and ethical supply chains. The crossover between ESG and supply chain finance rewards suppliers for meeting specific ESG targets through the terms of the financing agreement, incentivizing ethical practices. Potential rewards of an ethical supply chain finance program could include initial access to the financing program and better ongoing rates thereafter.

While the idea of ESG-led supply chain finance programs isn’t new, the market is still nascent. Despite the promise of such schemes, the number of corporate buyers who have adopted similar strategies is limited to a ‘handful of buyers’, according to Charlotte Bancilhon, sustainability consultancy manager at BSR.

One variable is the pandemic’s role as an ‘ESG risk multiplier’. Sustainalytics, a leading independent ESG and corporate governance research firm, processed 1,270 COVID-19 incidents by the end of June 2020. Almost a third of these incidents related to occupational health and safety, with companies criticized for their failure to provide employees with adequate PPE and breaching social distancing rules. Moreover, in July 2020, other cases included lawsuits filed by families of employees who died after contracting the virus, regulator involvement, and safety probes.

Notable ESG supply chain finance examples

American clothing manufacturer Levi Strauss & Co. launched one of the world’s first sustainable supply chain finance programs in 2014. Moreover, HSBC has two sustainable supply chain finance programs, with German sportswear company PUMA SE and U.S. retail giant Walmart Inc.

During the first year of its sustainable supply chain finance program, Puma provided more than $100m in lower financing costs to 15% of its suppliers – those that achieved a high sustainability score. The latter scheme, set up in 2019, attaches a supplier’s financing rate to its green credentials, with those cutting carbon emissions benefitting from a better rate.

ESG supply chain finance: The opportunity

Notwithstanding the above, the ESG and sustainable supply chain opportunities are remarkable, with BSR market projections reaching $660 billion. This upwards trend mirrors ethical practices in other sectors, including the bond space, with more ‘social bonds’ emerging to meet the demands of hyperaware consumers and communities.

The opportunities ESG-focused sustainable supply chains offer are abundant and apply to both the buyers and suppliers in the arrangement. Potential benefits of ESG supply chain finance include:

• All the regular benefits of supply chain finance, including stronger buyer-supplier relationships and improved control over working capital
• Incentivization of sustainable and ethical practices from suppliers, benefitting the planet as a whole
• Encouragement of sustainable and ethical practices that, in themselves, reinforce the security and resilience of the supply chain for the buyer
• Contributions towards pre-set sustainability goals for both buyers and suppliers in a previously overlooked business area
• A tangible way for suppliers to assign value to their sustainable practices, strengthening their business case

Several factors are bringing ESG supply chain finance into the finance world zeitgeist, including:  

• The overall supply chain finance market is growing rapidly
• Supplier sustainability data is becoming much easier to attain
• The digitalization of supply chain finance makes improving supply chain choices easier
• Ethical business practices are becoming critical to the consumer

ESG supply chain finance: The challenges

However, despite its growing importance and the raft of benefits it can offer, there are challenges to overcome in order to implement ESG principles in supply chain finance, including a lack of standards and limited awareness of viable solutions. Furthermore, the trade finance industry is still largely paper-based, giving little transparency while making it easy to forge documentation linked to a lending program.

However, this may be changing in the wake of the pandemic as disruptions to transport and carrier services have forced banks and buyers to accelerate the adoption of digital solutions for their trade and supply chain finance services. Moreover, the transparency of digital trade finance enables banks and buyers to monitor their supply chains, influence suppliers, and prevent the tampering of information.

Implementing ESG principles in your supply chain finance practice

By linking pricing to independently verified ESG criteria, treasurers can use supply chain finance to promote their ESG goals both internally and throughout their supplier networks. One international business reaping the benefits of Taulia’s supply chain finance solution is Bridgestone Europe – the global leader in mobility solutions.

Since going live in December 2020, Bridgestone’s Treasury Director for Europe, Julle Pedersen, reports positive progress, noting suppliers’ engagement with the sustainability element and Taulia’s digitized onboarding platform. Furthermore, the direct link between pricing and sustainability incentivizes suppliers to improve their EcoVadis ratings, bringing benefits for other stakeholders.

Describing Taulia’s integration towards Systems Applications and Products in Data Processing (SAP) as ‘the best in the marketplace’, Pedersen summed up the importance of sustainability in supply chain finance: ‘it’s a win for us all – for future generations and for the planet.’

Learn more about our Sustainable Supply Chain Finance offering here or contact our sales team today to discover how implementing ESG principles in your supplier finance solution can work for your business.