What Is ESG Due Diligence?
ESG due diligence is the process of uncovering a company’s ESG (environmental, social, governance) policies and risk factors. This information then informs ethical and less risky investment decisions, mergers and acquisitions. ESG factors relate to a company’s policies and practices in each area.
- Environmental factors include anything to do with the company’s sustainability practices and environmental impact. Examples of issues include high carbon emissions, sustainable sourcing and other practices contributing to climate change.
- Social factors refer to how the company treats people and societies. Issues may include violating human rights or using child labor.
- Governance refers to how the company is run. Issues often involve a lack of ethical and fair policies (bribery, poor accounting or auditing, etc.).
When choosing suppliers, it’s critical to make responsible, sustainable decisions. Choosing secure partners will help you build a resilient supply chain in the long run because there are fewer risks. If you perform due diligence according to ESG standards, you will know if the companies you work with are linked to ESG issues.
According to MIT’s Center for Transportation and Logistics, many of the world’s supply chains are becoming more sustainable and ethical. Eighty percent confirmed that the COVID-19 pandemic did not impact their commitment to a sustainable supply chain. If anything, their initiatives increased.
In this article, we will review the steps to perform ESG due diligence and discuss the benefits of using one platform to perform the risk management process.
Need more transparency in your supply chain? Consider Exiger’s supply chain risk management software that can help surface all risks that might be hiding deep within your supply chain.
The ESG Due Diligence Process
There are several key steps used to perform ESG due diligence. While you may use a third-party risk management solution to help guide this process, review these steps to become familiar with due diligence.
1. Collect Key Performance Indicators and Documents
To conduct an effective analysis, you need to collect all relevant information and set KPIs (key performance indicators). This information will differ slightly depending on what your company does. For example, a private equity firm looking to acquire portfolio companies will have different documents than a corporation evaluating a new supplier.
Regardless of company type or size, determine what metrics and goals are relevant to your business. What information do you need to determine if the target company poses ESG liabilities?
Determine how you will make decisions with the information you uncover. This will serve as a guide through the process and help you assess risk. Also, gather and organize all relevant documents. Gathering this information will streamline the process and aid decision-making later.
2. Interview Company Stakeholders
Once all information is gathered, interview key stakeholders. This includes getting to know your customers and third-party stakeholders. Stakeholders may include company employees, executives or board members. Get an understanding of their impact on ESG performance.
Typically, these empowered stakeholders are familiar with the company’s policies that uncover corporate governance issues. Speaking with these individuals can help determine if the company has anti-corruption and anti-bribery measures in place.
Depending on what areas of the company the stakeholder is involved in, they also may be able to speak about environmental issues or social practices. Note any red flags in your conversations.
3. Perform Background Checks on Decision-Makers
It’s vital to uncover problematic patterns and behaviors of key stakeholders. Run background checks on these individuals to gather evidence of previous charges or convictions. This will help you assess the risk level of working with each individual.
4. Review All Accounts
Accounting issues fall under the governance category of ESG due diligence. Review the company’s accounting records to understand its financial position. Assess the accounting policies and ensure they are not misrepresenting any financial information. If the policies are sound and the accounting is accurate, this may not be an area of concern.
5. Execute Inspection Initiatives
Once you have gathered information on stakeholders and accounts, perform any necessary inspections. Visit on-site locations, factories, and distribution centers. Doing so will shed light on potential human rights violations and the environmental impact these physical locations have.
6. Conduct and Compile an ESG Risk Assessment
The final step in performing due diligence is compiling a risk assessment. After completing the above steps, you will have an overview of how a company is run and what risks it may pose. Review information about the company, its stakeholders, and its physical locations. Evaluate the risk level of any environmental, social, or governance issues that came up.
Then, make recommendations based on the information. If your company is looking to make an acquisition, you will have the information needed to determine if the investment is low-risk and will provide your company with long-term value. If your company is looking for a new supplier, you will be able to make a decision to ensure that your supply chain is sustainable and ethical.
Related ESG Resources:
- Govern the Full Range of ESG Risk in Supply Chains Today
- ESG & Supply Chain Transparency
- Taking a Closer Look at 3 Major Risks to Cotton Sourcing
- Report: Eliminating Modern Slavery in Supply Chains
Manage Your ESG Due Diligence on One Platform
ESG due diligence is a vital and sometimes complicated process. To simplify the analysis, many companies use an all-in-one risk management platform. They act as an extension of your compliance team, while identifying the most important risks and helping your team monitor and rate them.
1Exiger is a comprehensive platform for ESG due diligence and other supply chain risk management functions. This end-to-end solution incorporates third-party risk management tools and multi-tier supply chain visibility — which is critical since roughly 80% of ESG risks show up below the Tier 1 level of suppliers. The platform can help you detect those risks, speed up the vetting and onboarding process with vendors, and take a cost-effective approach to risk-based diligence.
Exiger has built the world’s largest and most comprehensive corporate and supply chain dataset network to enable the identification and mapping of your entire supply chain from the Tier 1 suppliers down to the raw material level, allowing you to identify and mitigate risks at all tiers.
Our unique end-to-end third-party and supply chain due diligence solution provides stakeholders a 360-degree view of risks that affect your company’s operation and brand reputation. It also offers continuous monitoring to identify when an ESG risk associated with a supplier changes over time, so that you can take corresponding actions to protect your business.