The importance of sustainable supply chains - ThinkHouse

Sarah Riding: Hello, I'm Sarah Riding, I'm a partner in the commercial contract team, and as you can imagine our team are just living and breathing supply chain contracts and issues at the moment. Supply chain issues haven't been far from the headlines in recent times and with the current uncertainty, we're foreseeing challenging times for a while yet ahead. Alongside that we've obviously got the ESG agenda and that's becoming increasingly important so it's not just about organisations paying lip service to that any more, but there's much stricter regulation and it's important to raise the priority of that within organisations. A strong ESG focus has been seen to give better investor confidence, improve supply chain transparency and competitor advantage and an enhanced brand.

So I'm joined by several of my colleagues for this panel discussion and we will focus on key sustainability issues including contracts, environmental impacts, modern slavery and human rights. We'll highlight new and changing regulations and some practical steps for you to help manage your risks and advise your board. Just to introduce the panel, I have Ben Stansfield, a planning and environmental lawyer; David Lowe, here to talk about modern slavery; and Kieran Laird from the public law and regulatory team to focus on the human rights aspects.

Before I pass over I'm just going to focus very briefly on some key overarching points relating to supply contracts. Obviously at the moment we're coming to the period following Covid when there's a lot of focus on supply contracts and organisations are very much looking at future-proofing them and building resilience in, so it's really a window of opportunity to push the sustainability agenda. So I'm just going to look at a handful of practical steps for you to take away and think about when you're looking at supply contracts.

The first one of those is that any sustainability strategy needs to go end-to-end across the supply chain. Obviously there's lots of opportunities at the stages of a supply cycle including production, sourcing, logistics and end of product life, so as an in-house lawyer, really need to be plugged into that agenda and cascade those obligations through your supply contracts. It's not just about the overarching obligations, it's not just about your own factories and premises but obviously thinking about cascading those across your whole supply chain. Some of the ways we're seeing that done is obviously obligations within contracts or also within supplier codes of conduct. So it's very much about looking at contracts from a sustainability perspective and making them the best they can be from that agenda.

The second one really ties into the first one, so making sure that those objectives are measurable, so no fluffy phrases within contracts, making sure that there's things like KPIs maybe for reduced packaging, you know, what kind of sticks or carrots have you got in your contract to make sure that those obligations are meaningful?

The third one just follows again from COVID. We saw lots of risky behaviour by some suppliers, lack of site audits, lack of monitoring, so it's really about building in a strong governance clause, not just using a boilerplate one but actually making it workable from a sustainability and ESG perspective as well, so thinking about what reporting, what monitoring, what meetings and what audit rights you want to flow and dovetail into your sustainability agenda.

And then the last point I have is really more of an observation. So I think where we saw contracts performing really well coming out of COVID was there'd been really strong supplier engagements. So it's thinking about relationships in the traditional sense again, so do you want things like supplier days to build up those relationships.

So I suppose my two key takeaways really are any of your suppliers' practices if they're risky are ultimately going to be your own organisation's risky practices, so thinking about ways that you can tail those within your contracts and also about, as I've said, making sure contracts are the best they can possibly be from a sustainability perspective.

So if I pass over to Ben, Ben will look at the issue from the environmental perspective.

Ben Stansfield: Thank you, Sarah. Hello, everyone. Historically, environmental issues were direct emissions, so emissions to land, air and water, but in recent years environmental issues have evolved quite significantly and many more of us are much more focused on climate change and the impacts and take that element quite seriously. And so I'm going to talk to you a little bit about the prevalence of environmental reporting disclosure which has really skyrocketed in the past sort of 18 to 24 months and highlight a couple of new laws in the environmental area which will really have an impact on supply chains.

So for a while I think there was a view that if a business wasn't creating an environmental impact itself directly then, you know, these issues were out of sight, out of mind. But obviously as sort of consumers have become more sophisticated we've become more interested in the environmental impact of the businesses supply change. An environmental requirement… there's a number of environmental laws which are requiring fairly detailed environmental reports to be produced and put on organisations' websites and even those businesses that aren't caught by the relevant requirements are doing so on a voluntary basis because their competitors are or because their stakeholders, their employees or their consumer, their customers are demanding it. And we're seeing that employees are wanting to work for environmentally conscious businesses and customers are wanting to procure green services or greener products. So there is a significant push at the moment to tell the world and disclose your environmental issues and to do this on a very transparent basis, not just the impact your business or your product has for the environment but the impact that climate change has for you, and investors are using that to be able to sort of, you know, compare and contrast investment opportunities and so forth.

So where does that data come from? Well, it has to come from your supply chain and it has to come from quite deep down within your supply chain too. These reports are often being prepared on an annual basis but it's no good waiting for the last month or two weeks before the deadline to get it prepared. So a modern supply contract has to be quite specific as to the environmental data, the consistency of the information that's required, the timing of it, and of course, you know, as a large business you're going to have to look across all of your different suppliers and make sure that information is coming consistently across the piece.

As for new legislation, we're seeing a couple, well, certainly a couple of really high profile bits of legislation in the EU but also in the UK which I think is going to have quite a dramatic approach, a dramatic change for how businesses deal with environmental issues in the supply chain.

So my first example relates to rainforest risk commodities. The EU has published, or the Commission has published a proposal for regulation and the UK has introduced powers, the Environment Act 21, which will require businesses that use commodities, which are typically grown in rainforest areas, so if you're using soy or palm oil, leather, beef, cocoa, pulp and paper, so those sort of industries are going to be the food and drink industries in particular but also the all-tex sector with leather and so forth. If you're using those commodities, if you're importing them or using products which contain those commodities, there will be a pretty significant due diligence responsibility on you. I guess previously it might have been possible to say your supplier will comply with local laws, perhaps some businesses required suppliers to comply with laws which they were subject to in its own jurisdiction. There were voluntary industry standards which were put into some contracts, and I think we're now going to have to go even beyond that. There is now essentially an obligation on manufacturers and importers to oversee and to really investigate and not just take at face value what their suppliers are telling them in terms of the impact that these commodities will have for the rainforest.

So we might have to see manufacturers putting drones in the sky and seeing how the rainforest boundary has changed for example. I think the key point to take here is that you can no longer contract out of compliance. You are going to have to take on that responsibility yourself, oversee your supply chain, and make sure it is being done properly. And there are some pretty significant fines, the EU are talking about four percent of European turnover and I think having had its fingers burnt a little bit with some of the timber regulation in the past few years, I think the EU are really going to be taking this very seriously going forward.

And then my other example is the proposed new directive on corporate sustainability. So this is going to require large businesses over a certain threshold who operate in certain high-risk industries such as textiles or minerals or agriculture to really do a very thorough due diligence to investigate and mitigate and consider the harm from environmental impacts from its own operations but also within its value chain. So again we are going to see pretty substantial fines. We might see some slightly different implementation across the EU as to how this will be done, and there is no real obvious proposal for something similar in the UK yet but it's almost certainly to come.

I think to conclude what I would say would be that environmental reporting disclosure is part of life now, it's the norm. Those reports are going to need data and that data can only come from your supply chain so make sure your contracts are dealing with it, and there are new rules coming down the line which will ensure that you can't contract out of environmental rights, you have to take that oversight yourself.

Sarah: Thank you, Ben. Human rights is a key issue for the ESG sustainability agenda. Kieran, would you like to pick up on these points?

Kieran Laird: Thanks, Sarah. Hello, everyone. I think it's increasingly recognised these days that lots of what companies do has an effect on the rights of their customers, their workers and the communities in which they operate. And of course that applies not only to what companies do themselves but to any human rights issues that arise in their supply chain and there can be serious commercial consequences whenever things go wrong. But despite that, in contrast to some of the other issues that we're talking about today - Ben, for example, you've just heard about in relation to environment - there's actually a lack of hard law in relation to human rights and supply chains in the UK.

Now what there is by contrast is an awful lot of soft law, by that I mean international standards and guidelines that talk about how companies should operate in this space. The most important of those is the UN Guiding Principles (GP) on Human Rights. Now the UN GPs apply to all businesses, large and small, and whether or not they operate in one country or across borders, and what they say is that a company should do three things in order to try and make sure that it doesn't infringe on human rights wherever and however it does business.

The first thing it should do is to put in place a policy to respect human rights, the second thing that it should do is to conduct ongoing due diligence to identify, prevent and mitigate any adverse human rights impact both in its own business but also that arise from its business relationships, so for example its supply chain. Thirdly, a company should put in place a mediation mechanism to try to address any adverse human rights impact with which it is either contributed to or caused itself.

Now the UN GPs are not themselves legally binding, but what they do is to firstly create a culture in which it's recognised and accepted that companies do have some human rights responsibilities and then secondly to create a set of concepts that governments around the world can draw on to actually put in place hard law obligations. Now as I said before, there isn't an awful lot of hard law obligations in the UK around supply chains and human rights, one exception being modern slavery that David's going to come on to talk about in a moment but that's not the same in other jurisdictions.

We've just heard Ben talk about the European Commission's draft directive and one of the things that's going to do is to require companies to undertake human rights due diligence in their supply chains and that's going to apply to both EU-based companies but also companies that sell products and services into the EU, and the European Commission thinks that it's going to capture about 4,000 third country headquartered companies. And what the draft directive does is to draw on the concepts that we find in the UN Guiding Principles around undertaking due diligence in relation to human rights, and the details of the directive will change as it goes through the legislative process but as Ben says it will become law in the next year or two.

So I suppose the key takeaway on the human rights perspective is firstly we are seeing an increase in hard law in relation to human rights and supply chains in various jurisdictions round the world, and secondly, even where hard law doesn't yet exist, these issues are pretty important because the damage to reputation, for example when human rights issues go wrong, can have significant commercial consequences.

Sarah: Thank you, Kieran. David, Kieran just touched on the modern slavery point, that's a key area to be thinking about here.

David Lowe: Yes, modern slavery is a good example of hard law, as Kieran said, and human rights, much of it is soft law in the UK but he gave the example of modern slavery as the hard law.

First is just, well, what is modern slavery, what do we mean, why is it called 'modern'? And by that it's identifying that slavery exists even though it may not be immediately visible, it's achieved through coercion and control, people who've had their passports retained, are having their salary taken off them, are imprisoned in houses and just brought to work. There's often a sort of perception that modern slavery somehow happens somewhere else, that it's just assumed to happen in, for example, South Asian garment factories, but no, it happens here in the UK.

Some of the successful prosecutions here in the UK are fruit-picking in an apple orchard in Kent, or a bed-making factory for a high street brand where its subcontractor was prosecuted for modern slavery and exploitation of its workers, or a chicken-processing plant where three temps turning up for work every day were found to actually be imprisoned in the house and had their passports confiscated. So it is here, it is here in the UK, it's not just a distant thing in an international supply chain.

Having said that, there's some hard law here in the UK – there is a Modern Slavery Act – actually its obligations on corporates is very limited, only applies to companies that are defined under the Company Act, as large companies, and those large companies are simply required to publish an annual statement about modern slavery and their supply chain every year and to publish it on their website. An example of a fully legally compliant modern slavery statement would be 'I don't care about modern slavery'. That's fully legally compliant. It's a statement, it's been made about modern slavery, and it's been published on the website once a year. But that sort of demonstrates the point of it, nobody wants to issue a statement like that because it would just attract attention, of demonstrating not taking modern slavery seriously. And therefore you need to think quite carefully about your modern slavery statement, that other people will read it, it needs to be taken with a reasonable level of seriousness, its risk of damaging your reputation.

And I think that's really the test with modern slavery is to think about how you would like to be seen to react should there be discovered modern slavery in your supply chain. How would you want to be seen by the outside world? The example of the chicken processing factory prosecution is a good example because actually in that one the manufacturer came out looking good. They had processes in place that supported the employees in the processing plant to whistleblow, to raise a concern with the HR team, because they'd realised that these three gentlemen were coming to work every day, they were wearing the same clothes, they never spoke to anyone, they were brought to work in the same minibus and taken home in the same minibus, they never went to the pub on a Friday night or payday. They just thought something was really odd and they felt sufficiently comfortable and had the training to raise it with their HR team. The HR team had processes and policies in place in order to investigate it and then to draw in the enforcement bodies including the police.

So yes, not great that there were people who were modern slaves that had been recruited, but they had reacted in a really good way and demonstrated that they took it seriously and I think that's the kind of business anyone would like to feel that they are in, taking modern slavery really seriously.

An example of how you can get it wrong would be Boohoo with its Leicester garment supply chain. Now Boohoo did not do anything illegal. It was fully compliant with the Modern Slavery Act, it had paid its employees the right amount, so fully compliant with the law. However, the concerns about the supply chain led to a significant drop in its share price, they had to invest heavily in a big investigation, make significant changes to its supply chain, and therefore by not planning and thinking ahead and thinking about the reputational impact has a severe damage on the organisation.

So don't just have a modern slavery statement that's a tick-box because ultimately it's going to draw problems too. You should bear in mind that the UK government has issued consultation to how they're going to firm up the requirements so that the modern slavery statement will need to hit certain specific issues in that statement. That's not law yet, it's probably a year or so off becoming law, but it is going to get a tougher environment.

So what should you do? So as a first step you need to assess the risk. Where in your supply chain do you think there is a higher risk of modern slavery? You need to start somewhere and you should concentrate on where the risk might be most there. So for example at Gowling we had a look at our supply chain. We are a professional services firm, obviously we have a less complex supply chain, much of it is not a particularly high risk of modern slavery but we identified that if there is going to be any risk that it's going to be amongst low paid employees of our subcontractors, perhaps being cleaning or security and facility managing services. So we then having identified that as a risk area then engage with those suppliers and asking them, 'Well, what do you do to make sure there is no modern slavery? What are your recruitment processes, how do you deal with temporary workforces, can we see your modern slavery statement, can you work with us for our own modern slavery policy?' And that's an example of how every business should be approaching it. Of course that then needs to be backed up by the due diligence, questionnaires and the rights to do audits, and also the training, training for your procurement team, the training for your HR team, and also more generally raising the profile of the issue across the organisation so that you can say, if something happens, 'We did do our best, we did train the right people, we tried to raise the profile, we did put in place whistleblowing arrangements', etc.

I'm a contract lawyer, so of course contract terms are a part of this, but as it's only a part of this but you should of course consider what in your contracts you should have to prevent the issue arising in the first place to demonstrate you did the right thing and also to respond if something comes up. So that will require the supplier to commit to comply with all laws. But bear in mind compliance with the Modern Slavery Act is merely doing your annual statement, it's not necessarily going to deal with the actual behaviours that you're trying to tackle and so you may need to seek to enforce wider policy requirements on your suppliers than that. The audit rights, you'll probably want some normal on notice audit rights but bear in mind that if you're suspicious of activity in that organisation that is modern slavery then you also need a no notice audit right so that you can literally turn up at the premises and investigate it if you wanted to.

All of this needs to be drawn together by a policy, and you've probably already got several existing relevant policies and it just may need an overarching policy to draw it together. And finally, the last thing is obviously the legal bit which is to have a modern slavery statement which draws all this together and I've purposely said that last because you need to do everything else first to be able to then draw it together in a modern slavery statement.

So modern slavery, yes, it's hard law but it's limited hard law.  The biggest risks are around reputation and so the key question for you is to think about how would you want to be seen to respond if modern slavery is discovered in your supply chain?

Sarah: Thank you, David. Obviously there's lots of important themes and insight from the various practice areas there. I suppose one thing I'm very conscious of, that we've given lots of points for people to be thinking about back in their organisations, so it may be just helpful for each of our areas just to be giving, you know, one point to point to remember and I suppose from my perspective in terms of contracts I think it's really about focusing on that window of opportunity which we have now with the renewed focus on supply chains and building in resilience to make sure that all of your supply contracts are the best they can possibly be from a sustainability perspective as well. Ben, is there a particular issue from your area?

Ben: Yes, no business is perfect when it comes to environmental matters and I think it's really important when you're doing your reporting and disclosure and getting that data to be honest about that and to encourage your suppliers to give you full, frank disclosure, be transparent and work with them, almost a co-operation agreement as much as supply chain thing but just to work together to drive up standards.

Sarah: Perfect, thank you. And Kieran, from a human rights perspective?

Kieran: I think companies often do not know where to start with human rights and the first step is usually to try to identify where the salient human rights risks arise in your particular business. So for example, think about the types of entities with which you have a business relationship, the types of business models that you and your suppliers have, where you and your suppliers do business and the types of products and services that you and your suppliers supply. And once you've figured out where the risks actually lie then you can have a think about what you might do to mitigate or prevent those risks.

Sarah: Thank you. And David, in terms of modern slavery.

David: I think, ask yourself how you'd like your organisation to look how it responds if a modern slavery incident was to arise and then work backwards from there. 'That's how I want to look if the worst happens. What is it I need to do to be able to provide that response, what is it I need to say that I've done in order to mitigate and limit the opportunity for this to arise in the first place and what have I put in place to allow me to respond?'

Sarah: Thank you all. We've given lots of important points for you to all think about there in terms of how the legal function can be helping an organisation with its sustainability and ESG agendas. This is an important issue, it's not going away. It's not something we can just kind of tick a box on any more, so it really must be having a priority focus within your organisations. Thank you.