Game Changing Trade Regulations in US Shake Up Corporate Supply Chain Responsibility

FORUM2016Roel Nieuwenkamp, Chair of the OECD Working Party on Responsible Business Conduct (@nieuwenkamp_csr)

In July 2015, The New York Times published an article about forced labor on Thai fishing boats. In the article they follow the story of Lang Long, a man who was shackled by the neck, working for 3 years as a slave at sea. He was one of the many Cambodian migrant boys and men working on Thai boats that supply fish to consumers worldwide. The men featured in the article are fortunately now free, but many slaves are still involved in the production of goods for global supply chains.

Indeed modern slavery is endemic within global supply chains. In recent conversations I had with some sourcing directors of large multinational enterprises, they admit that if you look closely and deeply enough, in every major global supply chain you are likely to find modern slavery. This has fuelled political moves to fight slavery in supply chains and also created serious challenges for companies dedicated to responsible sourcing.

In previous articles I have covered some of the innovative regulatory initiatives taken to promote supply chain responsibility (e.g. the UK Modern Slavery Act, the proposed law on due diligence in France, the Swiss referendum for a due diligence, and the EU non-financial reporting directive). Currently 8 Parliaments in the EU are calling on European Parliament to follow the French example.

Some recent developments in the United States may have even more impact on supply chain responsibility with global trade implications.

This February, President Obama signed in the Trade Facilitation and Trade Enforcement Act (H.R. 644). Section 910 of this law strengthened restrictions on the import of goods into the United States produced with forced labor, closing a loophole that existed in the Tariff Act of 1930 which allowed import of such goods if the product was not made in high enough quantities domestically to meet the U.S. demand.

This law accompanied two other moves to tackle modern slavery, particularly in the fishing industry, by the Obama administration. In addition to the new act, the administration has also enacted the Port State Measures Agreement which bars foreign vessels from accessing ports if suspected of illegal fishing. Furthermore the National Oceanic and Atmospheric Administration, which regulates fishing, announced new reporting requirements aimed at developing a better understanding among US companies of where seafood imports are sourced from.

While regulation is important, enforcement is arguably even more so. Indeed the Trade Enforcement Act is already being enforced. Recently the U.S. Customs authority issued two “withhold release” orders, preventing goods from entering the country because of suspicions that they were made using forced labor.

The first order came on March 29th against imported soda ash, calcium chloride, caustic soda, and viscose/rayon fiber that was manufactured or mined by Chinese company Tangshan Sunfar Silicon. U.S. Customs and Border Protection (US CBP) believes that these products were made by forced convict labor. The second order, on April 13th, was against imported potassium, potassium hydroxide, and potassium nitrate that is believed to be mined and manufactured by the same company using convict labor.

According to CBP Commissioner Kerlikowske: “CBP will do its part to ensure that products entering the United States were not made by exploiting those forced to work against their will, and to ensure that American businesses and workers do not have to compete with businesses profiting from forced labor.”  The Business & Human Rights Resource Center is tracking enforcement of the Act on their site.

These orders are an important part of enforcing the new ban and ensuring criminals that profit from human trafficking are not supported. Effective enforcement of this provision also provides incentives to business to protect their supply chains from forced labor to guarantee all of their imports are cleared for entry into the United States.

Recently Turkmenistan News (ATN) and International Labor Rights Forum (ILRF), partners in the Cotton Campaign, filed a complaint with the US CBP. The complaint concerns the import of cotton goods made using forced labor from Turkmenistan by companies, including retail giant IKEA. The government of Turkmenistan engages in a practice where annually farmers are forced to deliver cotton production quotas and thousands of citizens are required to pick cotton or are faced with a penalty. The complaint calls on U.S. Customs to classify cotton goods, such as the IKEA products, from Turkmenistan as illicit, issue a detention order on all imports of them, and direct port managers to block their release into the United States. CBP has yet to respond.

If the U.S. government and American businesses set a precedent that forced labor will not be tolerated, other countries are likely to follow suit. However, how U.S. government follows through on implementing the new ban, is essential to this effort.

child labor

Furthermore, given the extensive pervasiveness of modern slavery in global supply chains companies must be armed with tools to protect themselves and their supply chains from liabilities under these regulations.

Strong supply chain due diligence processes should in my opinion be an accepted defence under these new laws. This should include the notion that supply chain responsibility means often not ‘cut and run’ from risky suppliers, but ‘stay and improve’. Else these regulations could have devastating negative impacts on livelihoods of legitimate businesses operating in high risk areas. The OECD has provided guidance to companies in designing such due diligence processes. The OECD Guidelines for Multinational Enterprises (the OECD Guidelines) recommend that companies carry out supply chain due diligence to identify, prevent, mitigate and account for all adverse impacts that they cover, which include child labour and forced labour issues. For negative impacts arising within a company’s supply chain the Guidelines recommend that companies acting alone or in cooperation with others use their leverage to influence the entity causing the impacts to prevent or mitigate the harms.

The OECD Guidelines are referenced in the statutory guidance of the UK Modern Slavery Act, which note that “they provide principles and standards for responsible business conduct in areas such as employment and industrial relations and human rights which may help organisations when seeking to respond to or prevent modern slavery.’’

In addition to general recommendations the OECD has developed more detailed guidance on how these expectations can be responded to in specific sectors. For example the OECD Due Diligence Guidance for Responsible Supply Chains of Minerals from Conflict-Affected and High-Risk Areas, the global standard on mineral supply chain responsibility, provides a 5 step framework for due diligence to manage risks in supply chains of minerals including forced and child labour in the context of artisanal mining. This Guidance is now the leading standard for avoiding child and forced labour in mineral supply chains and has been integrated as an operating requirement in the DRC, Rwanda and Burundi.

The FAO and OECD recently jointly developed a Due Diligence Guidance for Responsible Agricultural Supply Chains which also provides due diligence recommendations to manage risks related to forced labour and child labour in high risk agriculture sectors including palm oil and cocoa. Such approaches could be applied in the context of the Thai shrimping industry as well. Lastly the OECD is also developing a Due Diligence Guidance on Responsible Garment and Footwear Supply Chains, which provides specific recommendations for addressing risks of forced and child labor. This Guidance will be launched later this year and will be relevant to migrant workers in textiles factories

Regulation of global supply chains to combat forced labour is becoming increasingly common and impactful. Recent developments in the EU followed by new regulations and enforcement by the US customs authority are putting pressure on companies to monitor their supply chains more closely than ever. As the US and EU represent that world’s most important consumption markets these pressures will extend to companies globally, and have already been felt by Chinese and Swedish enterprises in the context of the recent US detention orders.

Supply chain due diligence and transparency will be increasingly important tools for global companies in safeguarding themselves from liability in light of these new regulations. The OECD has developed guidance on supply chain due diligence processes which address a range of issues including forced labour. In order to strengthen their global supply chains, companies would do well to step up and speed up implementation of due diligence in their global supply chains.

Useful links:

Global Forum on Responsible Business Conduct, 8-9 June

Roel Nieuwenkamp maintains a blog where all of his articles are archived. Please visit https://friendsoftheoecdguidelines.wordpress.com/

Scaling Up Living Wages in Global Supply Chains

woman pickingBy Roel Nieuwenkamp, Chair of the OECD Working Party on Responsible Business Conduct and Marjoleine Hennis, Senior Advisor Permanent Representation of the Netherlands to OECD

Meet Ei Yin Mon, a factory worker in Myanmar. She came to Yangon after cyclone Nargis hit the country in 2008. The base wage she earns is extremely low, so she has to work many hours of overtime to compensate. “We are always being told to work faster. They think that we are like animals. I know I have no rights to make a complaint, so I have to bear it”[1].

Many workers globally face similar challenges and are trapped in poverty. They often have many mouths to feed, with too little revenue coming from regular working hours and must either compensate by working overtime or fall into debt. Sometimes workers don’t get paid at all and do not have access to grievance mechanisms to address this.

Treatment of living wage within international standards of responsible business conduct

According to the Universal Declaration of Human Rights, a living wage is a human right. The Declaration points out that everyone who works has the right to just and favorable remuneration ensuring for himself and his family an existence worthy of human dignity, and supplemented, if necessary, by other means of social protection.

The ILO recognizes living wage as a basic human right as laid out in the Universal Declaration of Human Rights, through the ILO Convention concerning the Protection of Wages of 1949 (95), and the ILO Convention on Minimum Wage Fixing of 1970 (131). It also refers to it in its Constitution and in the 2006 ILO Tripartite Declaration on MNE’s. These two pillars of international instruments (the Declaration of Human Rights and ILO standards) have formed the basis for the recommendations towards MNE’s concerning living wage as laid down in the OECD Guidelines for Multinational Enterprises since its revision in 2011.

The OECD Guidelines are the most comprehensive standard for Responsible Business Conduct (RBC) covering all areas of corporate responsibility, ranging from labor and human rights to environment and corruption. Currently, 46 countries adhere to the Guidelines. These governments made a legally binding commitment to set up National Contact Points to promote corporate responsibility and to handle complaints about corporate (mis)conduct.  Although the Guidelines are not legally binding for enterprises, they represent a “firm government expectation of company behavior” and have been endorsed by business and civil society.

The 2011 revision of the Guidelines has been important for the integration of the concept of living wages in various ways: firstly, it has resulted in the inclusion of a recommendation on living wages in Chapter V on Employment and Industrial Relations. The OECD Guidelines state that: “when multinational enterprises operate in developing countries, where comparable employers may not exist, (they should) provide the best possible wages, benefits and conditions of work, within the framework of government policies. These should be related to the economic position of the enterprise, but should be at least adequate to satisfy the basic needs of the workers and their families.”  Secondly, during the 2011 revision of the OECD Guidelines a chapter on human rights was added which, as noted, includes the concept of a right to a living wage.

Thirdly, the 2011 revision of the Guidelines introduced a concept of supply chain responsibility for companies. Among other things, this means that enterprises should avoid causing or contributing to the non-respect of living wages within their own operations as well as seek ways to prevent or mitigate adverse impacts with regard to insufficient wages linked to their operations, products or services by a business relationships,  even if they do not contribute to those impacts. In other words, enterprises are expected to make an effort vis-à-vis their suppliers to have living wages respected.

Living wage and risk-based due diligence

While the 2011 revision of the Guidelines introduced new expectations of enterprises it also equipped them with tools to respond to these expectations and manage risks by carrying out due diligence on their business operations and suppliers. The process of due diligence consists of three parts, identification of (potential) adverse impacts, prevention and mitigation, and accounting for how adverse impacts are addressed. Due diligence processes are meant to be reasonable, the appropriate response to living wage issues will thus vary according to a company’s relationship to adverse impacts.

living wage

Good practices and remaining challenges

The challenges for individual companies are numerous, especially in situations where, in the supply chain, payment of below living wages is pervasive and perceived as necessary to maintain competitiveness.  In such a context, how should enterprises apply leverage and take appropriate steps that are expected by internationally recognized standards?

First, a good understanding of responsibilities at the company level is needed. Companies should be aware of their individual responsibilities under internationally recognized standards of the ILO, the OECD and the UN concerning wages in their supply chains. With the help of OECD’s sector guidance on due diligence, for example, companies should carry out due diligence, use their leverage and take steps in their supply chain to promote living wages. These new responsibilities should also be reflected in sector codes of conduct, of which many currently ignore the tricky issue of living wage.

Better information about the business case for taking these actions with respect to risk management, reputation and productivity, would encourage enterprises to act more responsibly. Apart from ethical considerations, there are many reasons why it makes business sense to strive for payment of living wage throughout the value chain. Paying relatively low wages may lead to costs for businesses such as lower product quality, lower worker productivity and few investments in innovation due to high labor-turnover.[2]  Below-living wage payments also increase the risk of labor unrest and may lead to the disruption of operations and reputational damage to companies, particularly in the present age of mass communication.

Second, business and governments would gain from more coherence and fine-tuning of the methodologies and definitions concerning living wage. Currently a common methodology for calculating living wages does not exist. Ideally MNEs could rely upon one broadly accepted methodology which takes into account local conditions to determine what living wages should be, as well as the notion that wages should be regularly adjusted on the basis of negotiations with social partners.[3]

Third and most importantly, a sector-wide comprehensive approach is needed. Focusing on calculating the numbers and levels of wages alone will not do the trick. Even if a jump to provision of living wage levels could happen overnight, in many regions this might damage the competitiveness of factories or suppliers, potentially squeezing them out of the market and leaving many workers jobless. In order to achieve living wages in a sustainable manner a comprehensive approach is needed that brings together the largest number of possible of social partners and stakeholders so as to create a level-playing-field.

Most of the initiatives that have been successful in targeting living wage issues bring together several stakeholders. They are motivated by the need to act together and create a level playing field, not only among some enterprises and their suppliers, but in the whole sector. Some examples of these include ACT (Action, Collaboration, Transformation), a global framework on living wage that brings together all relevant stakeholders in the textile and apparel sector, as well as the Malawi Tea 2020 Revitalization Program under which tea producing companies, tea buying companies and retailers, standard and certification organizations, and tea trading companies have signed and MOU pledging to respect living wages.

These initiatives are to be praised for having paved the way forward in a new and challenging territory. However, to be really effective, these initiatives will need to be scaled up dramatically to reach other sectors and geographical areas to create a level playing field for sustainable living wages.

Ensuring the payment of living wages throughout global supply chains will be a significant challenge. However, doing so will be necessary to achieving the Sustainable Development Goals and responding to expectations of international standards of human rights and responsible business conduct.  Even if individual companies play a considerable role in this, they cannot solve this issue on their own. For one thing, (local) governments, who have the duty to protect and fulfill human rights, and ensure access to effective remedy, should be there to support them and contribute to creating the right conditions. Ideally, however, the way forward is to engage in sector-wide collaboration with suppliers, trade unions, governments, NGOs and employers’ organizations. Some promising initiatives have already been launched, such as the ACT process and the Malawi Tea MOU, or the Action Plan on Living Wages. The companies involved in these efforts deserve praise for their participation. But in order to achieve a true level playing field, the world’s remaining multinationals, some 80, 000 companies, will also need to take action and efforts will need to be scaled up and sped up dramatically.

Useful links

Resources: This blog is based on a Working Paper on Wages in Global Supply Chains, found here : https://friendsoftheoecdguidelines.wordpress.com/2016/04/27/scaling-up-living-wages-in-global-supply-chains/

Global Forum on Responsible Business Conduct, 8-9 June

Roel Nieuwenkamp maintains a blog where all of his articles are archived. Please visit https://friendsoftheoecdguidelines.wordpress.com/

[1] The worker’s name was changed to protect her anonymity.

[2] See Cascio W.F, The high cost of low wages, Harvard Business Review, December 2006;  and  Zeynep T., The Good Jobs Strategy: How the Smartest Companies Invest in Employees to Lower Costs and Boost Profits– Amazon Publishing, 2014.

[3] Vaughan-Whitehead, Daniel, Introduction to the Living Wage, presented at NCP OECD Guidelines Conference-Ministry of Foreign Affairs, The Hague, 27 October 2015

2016: CSR is dead! What’s next?

MNE_4li-72dpi_17may13Roel Nieuwenkamp, Chair of the OECD Working Party on Responsible Business Conduct (@nieuwenkamp_csr)

A couple of months ago I met an expert in corporate responsibility who asked me: ‘So, are you the guy who killed CSR?’ Normally being labelled a killer can get you behind bars, but in this case it was meant as a compliment. However, I didn’t do it! So why was I a suspect? The reason is likely that I chair the OECD Working Party on Responsible Business Conduct, a group of 46 governments that deal with business ethics issues by promoting and implementing the OECD Guidelines for Multinational Enterprises (OECD MNE Guidelines).

The OECD MNE Guidelines are the world’s most comprehensive multilateral agreement on business ethics and the only international corporate responsibility instrument with a built-in grievance mechanism. Under the Guidelines – this year 40 years old – the term ‘’CSR’’ is not used, rather they discuss ‘’responsible business conduct “(RBC). Responsible business conduct means that businesses should make a positive contribution to economic, environmental and social progress with a view to achieving sustainable development and that businesses have a responsibility to avoid and address the adverse impacts of their operations. While the concept of CSR is often associated with philanthropic corporate conduct external to business operations, RBC goes beyond this to emphasize integration of responsible practices within internal operations and throughout business relationships and supply chains.

Nowadays CSR is a global industry. Most companies employ CSR managers, vice presidents, and experts; armies of CSR consultants are on offer and hundreds of CSR awards are distributed every year. In addition, countries are increasingly implementing CSR laws, action plans and even CSR ‘taxes’. Given the widespread recognition of CSR, is it really necessary to bury it six feet under?

Let’s be clear: I didn’t kill CSR, nor did the OECD. Ultimately, CSR committed suicide! Several characteristics contributed to its demise.

First, CSR is often associated with philanthropy and volunteer work in the social sphere, rather than long-term sustainable development. This is especially true in some regions where CSR activities are limited to companies building schools, or sponsoring local activities. Company CSR reports are often largely descriptions of feel-good projects and activities that ‘give back’ to society.

Second, CSR is often understood to be an optional add-on external to core business operations. For example the scope of a CSR managers’ responsibility is limited to voluntary initiatives while responsibility for non-voluntary obligations falls to procurement officers, human resources or legal counsel. Therefore corruption issues are often not considered a CSR issue and are not dealt with by CSR managers. Corporate tax responsibility, an integral part of the OECD MNE Guidelines, likewise is most often not on the radar screen of a CSR manager.

This division is problematic. The ‘voluntary’ association of CSR severely limits the role of CSR managers within their companies if they only deal with issues that are viewed as peripheral. In contrast, RBC, as promoted by the OECD, provides a more integral perspective; it is a core business function, and as such must be integrated within corporate governance, procurement, finance, and so on.

Additionally, core elements of RBC as outlined in the UN Global Compact or the OECD MNE Guidelines are not voluntary in most jurisdictions. Bribery is a crime in all OECD states, non-financial disclosure will be mandatory in the EU for large companies, and many issues of competition and consumer interests also covered by the OECD Guidelines are legally binding in most countries.

Finally, the ‘voluntary’ association with CSR suggests there are no consequences to non-compliance. That is a misconception. Research demonstrates that there is a strong business case for companies to behave responsibly. Responsible business practices can result in positive outcomes such as improved reputation and productivity. On the other hand, irresponsible practices can lead to significant financial liabilities and hamper access to finance. Investors who take environmental and social issues into account in their investment decisions today represent a portfolio of at least $59 trillion in assets under management.

CSR is strongly associated with the ‘old school’ social audit system. The voluntary, peripheral connotations of CSR have been reflected in the sense that often there is little follow-up done to correct shortcomings identified in social audits unless they have a bearing on other, generally economic, aspects of business operations. The worst example of a failure of the audit system is the Rana Plaza collapse. Some of the brands sourcing from Rana Plaza had performed audits of the factory prior to its collapse and continued to source from it, despite the clear existence of serious workplace safety issues. Responsible business conduct goes beyond auditing and stresses the importance of a continuous process of due diligence, which in addition to identifying risks requires prevention and mitigation as well as addressing negative impacts where they do occur.

Another problem is that CSR has often been used primarily as a PR tool, contributing to the perception that it is merely a greenwashing exercise. In the words of Michael Townsend: “Corporate Social Responsibility is, at best, only a partial solution — one which can be misused to create an illusion of responsibility.” Volkswagen, prior to its emissions rigging scandal, used to claim the number one spot on the Dow Jones Sustainability index. Enron has received CSR awards, and scores of companies display CSR-logos on their website while ignoring major corporate responsibilities. Fortunately, as increasing scandals have exposed the hollowness of some CSR programmes, more and more companies have begun to move their CSR functions out of their PR or communications departments.

“CSR is dead. It’s over!” declared Peter Bakker, president of the World Business Council for Sustainable Development. Bakker argues that leading companies are already going way beyond traditional CSR by integrating sustainability into all aspects of their business operations in recognition that business cannot succeed if society fails. He urges us to innovate — to align with facts, to redesign what we mean by good performance and to get inspired by new definitions of success. Indeed what Bakker is suggesting is exactly in line with the responsible business conduct agenda of the OECD: integrating sustainability as a core aspect of business operations.

In practice there is no contradiction between corporate sustainability and responsible business. Indeed company sustainability is essentially derived from responsible business conduct. Thus, while CSR as a term may be dead, the concepts of corporate responsibility and corporate sustainability are still very much alive and may well live forever!

Useful links

Can Companies Really Do Well By Doing Good? The Business Case for Corporate Responsibility Roel Nieuwenkamp

OECD Guidelines for Multinational Enterprises

Climate disclosure: knowledge powers change

OECD COP21

Angel Gurría, OECD Secretary-General

Everybody is interested in the impacts of what companies are doing – shareholders, clients, the media, governments… And as recent experiences as well as the current discussions at and around COP21 show us, the environmental practices and impacts of doing business are coming under increasing scrutiny.

Workers want to know whether pension funds for example are investing their savings for the transition to a green economy – or whether they are supporting the carbon lock-in that we are trying to move away from. According to Bloomberg, at least 14 energy companies are facing shareholder resolutions on environmental and social policies, and more than 190 resolutions were proposed in 2014, an 88% increase compared to 2011. Investors are starting to base decisions on environmental criteria too. A recent report to the Storting, the Norwegian parliament, reveals that the world’s largest sovereign wealth fund, Norway’s Government Pension Fund Global, has divested from 114 companies on climate grounds “whose business models [are] considered unsustainable in the long run”.

Where the big players lead, the others will follow, and firms would be well-advised to incorporate good environmental practices into their modes of operation. It is not the OECD’s role to say how they should do this of course, but we can help by reaffirming the importance of what is being done through credible reporting to the global community. Concretely, firms can use the standards the Norwegian pension fund cites as the basis for its decisions: “The mandates require that the work shall be based on internationally recognised standards like the UN Global Compact, the OECD Principles of Corporate Governance and the OECD Guidelines for Multinational Enterprises. These international standards define corporate governance norms, and express best corporate practice expectations on the handling of environmental and social issues”.

So what kinds of information do companies that respect these OECD guidelines have to report? Under the “Disclosure” chapter of the OECD Guidelines for Multinational Enterprises, companies are expected to provide both financial and non-financial material information, including “foreseeable risk factors”. Companies are well-aware that climate change and other environmental impacts may now pose foreseeable material risks to their supply chains, their installations and their clients. The G20/OECD Principles on Corporate Governance specifically include environmental risks among foreseeable risk factors and the 2011 update of the OECD Guidelines introduced a reference to reporting of greenhouse gas emissions produced by the company both directly (from its transport fleet for example) and indirectly (for instance by consuming energy generated by fossil fuels).

Corporate “climate information” seeks to give a balanced overview of how climate change could affect a business for better or worse. For example a firm that produces air conditioning equipment may expect demand for its products to grow if summers continue getting warmer, but if the regulations on energy consumption of electrical goods are tightened, it may find itself with a product line that no longer meets the new standards. Businesses also have to consider impacts beyond their immediate operations and look at the whole supply chain. A firm seeking to reduce its carbon footprint would favour a supplier using renewable energy rather than fossil fuels for example. Disclosure would mean that these companies would describe what they are doing to react to opportunities and risks through their strategies, governance, and policies to mitigate climate impacts and to adapt to and manage the effects of climate change.

By identifying climate-related risks and opportunities, this information will help to integrate climate into core decision-making processes by companies. Consumers, investors and governments will find this information useful, but collecting this information makes good business sense too by showing where a firm could streamline processes; reduce costs; and improve efficiency. And yet despite the long-term advantages of incorporating climate factors into company strategy, a 2014 climate disclosure study by CERES of US companies found that over 40% do not include any climate-related information in their filings and a 2015 study by Influence Map warns that investors are not getting a full picture of how regulation aimed at tackling climate change would affect the performance of the companies in which they invest. The situation is similar for asset owners. A survey by the Asset Owners’ Disclosure Project shows that nearly half of the top 500 global asset owners have done nothing to protect their investments from climate change. Only 7% calculate their portfolio’s emissions; a mere 1.4% have reduced their carbon intensity since 2014; and none have assessed their portfolio-wide exposure to fossil fuel reserves. Other recent studies reach similar conclusions.

Part of the reason for this poor performance is that climate disclosure is a relatively recent discipline and many companies are struggling to understand the importance of collecting and reporting climate information. On the other hand, there is also evidence that companies are increasingly providing climate information on a voluntary basis, such as under the CDP, which operates on behalf of over 800 investors.

They would be helped by improvements to government reporting schemes, and there would be a lot to gain from aligning the different schemes so as to make the disclosed information reliable and comparable across borders. A report by the OECD and the Climate Disclosure Standards Board shows that while 15 of the G20 countries have mandatory reporting schemes in place or in preparation, most schemes only require reporting of emissions within national boundaries, which results in emissions produced throughout most of the value chain being left out. The majority of schemes require emission data to be verified, but only a minority require third party-verification which means that the information may not be reliable. Only a few schemes ask companies to report on climate change-related risks they face or their strategies to address those risks.

The good news is that both governments and investors are ready to scale up climate disclosure and the use of climate information. France for example recently issued legislation requiring investors to report on their portfolio’s carbon footprint, and Sweden may soon follow. And the Financial Stability Board has just announced the creation of an industry-led disclosure task force on climate-related risk.

All these initiatives are encouraging. Knowing what we’re doing about climate change helps us to do it better.

Useful links

COP21: Getting the most out of corporate climate change disclosure: Event at COP21 on 10 December chaired by Mr Gurría. The discussion focused on four themes:

  • How could reporting frameworks be streamlined to ensure that disclosure is meaningful?
  • What kind of approach can best scale up corporate disclosure: mandatory law, voluntary standards, a combination of both?
  • What kind of corporate climate change disclosure is needed to foster change in corporate management?
  • What other incentives are needed to make disclosure work in support of the climate agenda?

Climate change disclosure in G20 countries: Stocktaking of corporate reporting schemes

Two secrets concerning a value chain approach to corporate climate change risk-management

MNE_4li-72dpi_17may13Roel Nieuwenkamp, Chair of the OECD Working Party on Responsible Business Conduct (@nieuwenkamp_csr)

This coming week the world’s leaders will gather in Paris to discuss approaches to addressing climate change, kicking off the 21st annual meeting of countries which want to take action for the climate, otherwise known as COP 21.

A well-hidden secret is that under the OECD Guidelines for Multinational Enterprises (‘the Guidelines’) businesses are expected to do their due diligence on environmental impacts such as climate impacts. This concerns not only their own negative environmental impacts, but also the impacts in their value chain. Another – less well-kept – secret is that the OECD Guidelines include a unique grievance mechanism known as National Contact Points (NCPs) that could also be utilized for climate-related grievances concerning multinational enterprises.

The Guidelines expect companies to behave responsibly through making a positive contribution to economic, environmental and social progress with a view to achieving sustainable development. Besides, the 46 adhering governments expect companies to avoid causing or contributing to negative environmental impacts. In addition the Guidelines expect companies to seek to prevent or mitigate adverse climate impacts directly linked to their operations, products or services by a business relationship. To achieve this, businesses are called upon to carry out due diligence throughout their value chains to identify, prevent, mitigate adverse impacts and account for how they are addressed.

Due diligence, importantly, applies not only to actual impacts but also to risks of impacts. This is particularly relevant in the context of greenhouse emissions as the extent of climate impacts and what they will mean for a company’s bottom line are as of yet not precisely known.

The Guidelines also include a specific chapter on environment which outlines recommendations for responsible business behaviour in this context. For example businesses are encouraged to continually seek to improve corporate environmental performance at the level of the enterprise and, where appropriate, of its supply chain, by encouraging such activities as: development and provision of products or services that reduce greenhouse gas emissions; providing accurate information on greenhouse gas emissions and exploring and assessing ways of improving the environmental performance of the enterprise over the longer term, for instance by developing strategies for emission reduction. Furthermore, the disclosure chapter of the Guidelines also encourages social, environmental and risk reporting, particularly in the case of greenhouse gas emissions, as the scope of their monitoring is expanding to cover direct and indirect, current and future, corporate and product emissions.

These expectations suggest that enterprises should not only be concerned with their direct emissions and impacts on climate change, but that they should also be aware of their carbon footprint throughout their supply chains and that their due diligence efforts should be targeted accordingly. A value chain approach is particularly important in the context of climate change issues as often the majority of emissions will be generated throughout supply chains rather than direct emissions. For example, Kraft Foods, one of the world’s largest food and beverage conglomerates, found that value chain emissions comprise more than 90 percent of the company’s total emissions.

However the supply chain approach has yet to be mainstreamed in the field of corporate emissions management. For example a recent OECD report, Climate change disclosure in G20 countries: Stocktaking of corporate reporting schemes, found that most of the mandatory corporate emissions reporting schemes among G20 countries only require companies to report on direct greenhouse gas emissions produced within national boundaries, whereas significant volumes of emissions are often produced lower down on a company’s supply chain, and often in jurisdictions where that do not have reporting requirements. Likewise a survey conducted by CDP and Accenture in 2013 found that only 36% of 2,868 companies responding report emissions throughout their value chains (known as Scope 3 emissions) and only about 11% set either absolute or intensity Scope 3 targets.

Identifying risks is a primary element of due diligence and therefore the limited amount of supply chain reporting in this context is worrisome and suggests that currently companies are not collecting the information they need to effectively prevent and mitigate risks.

This is problematic not only with respect to the expectations of business to act responsibly but also because increasingly investors are seeing fossil fuel dependence as a systemic risk. For example, the CDP reports that currently 822 institutional investors request climate change disclosure from investee companies. Assets managed by these investors comprise up to a third of all global financial assets. However, this demand had not been reflected in generation of useful information. Research on the top 500 global asset owners found that only 7% of them are able to calculate their emissions, only 1.4% have reduced their carbon intensity since 2014, and none of them has yet calculated its portfolio-wide fossil fuel reserves exposure.

As of yet climate change due diligence has not been considered by the NCP network. However as corporate responsibility to mitigate against climate impacts becomes increasingly prominent, continued industry inaction could lead to a complaint being brought on this subject.

The upcoming two weeks will bring thousands of participants together to brainstorm solutions to perhaps the greatest global crisis facing us today. We hope that the event will prove to be historic and that the implications of corporate value chain approaches and due diligence will be adequately considered.

Useful links

OECD COP21

Can Companies Really Do Well By Doing Good? The Business Case for Corporate Responsibility

Prof. Dr. Roel Nieuwenkamp, Chair of the OECD Working Party on Responsible Business Conduct (@nieuwenkamp_csr)

A recent study involving a survey of over 1000 CEOs found that 93% of them believe that sustainability will be important for the future success of their business. These views may be based on strong evidence from studies that have contributed to strengthening the link between company performance and “doing the right thing”. However it should not be forgotten that a moral, and in some cases legal expectation towards business to do the right thing exists independently of financial incentives.

Cost and risk reduction

These days the consequences of irresponsible business behaviour can be significant. For example BP’s bill for settlements of state and federal claims for environmental damages and damages to impacted communities for the Deep Water Horizon spill reached nearly USD 54 billion this June. The Volkswagen scandal involving emissions rigging of vehicles contributed to their stock plummeting a third of its value in less than a week and estimated costs associated with recalls as well as penalties that will have to be paid are being reported at USD 35 billion.

A recent study by Vigeo showed that corporate social responsibility (CSR) related sanctions for companies are also quite common. Nearly 20% of companies in a sample of over 2,500 were found to be subject to such sanctions between 2012 and 2013, amounting to penalties upwards of EUR 95.5 billion

Beyond actual legal liabilities poor business conduct can also result in delays and opportunity costs for companies. For example where companies do not adequately communicate and engage with stakeholders it frequently leads to delays in operations, misapplication of staff time, and lost opportunities in instances where companies want to expand operations, renew contracts or otherwise. A study by Harvard found that the costs attributed to delays arising from community conflict can cost a mining project with capital expenditure between USD 3 million and USD 5 billion on average, or USD 20 million per week in NPV (Net Present Value) due to delayed production.

Additionally, reputational costs stemming from poor business conduct increasingly can hurt the bottom line and scare off investors. Today divestment campaigns from companies with poor environmental and social records are a common tool to encourage better behaviour.

Competitive advantage, reputation and legitimacy.

Responsible business practices, in addition to avoiding costs, can help to build a positive corporate culture and image. This in turn can influence the retention of employees, help increase productivity as well as boost brand appeal and thus increase market strength.

In a study of the ‘’100 Best Companies to Work for in America’’, Prof. Edmans of the London School of Business found that those companies generated 2.3-3.8% higher stock returns per year than their peers over a period of 27 years.

More broadly, a cross-sector Harvard Business School study by Prof. Serafeim and others tracked performance of companies over 18 years, found that “high sustainability” companies, those with strong environmental, social and governance (ESG) systems and practices in place, outperformed “low sustainability” companies as measured by stock performance and in real accounting terms. (High sustainability include companies which include a substantial number of environmental and social policies that have been adopted since the early to mid-1990s; Low-Sustainability Companies include comparable firms that have adopted almost none of these policies.)

ESG

Firms with better sustainability performance were also shown to face significantly lower capital constraints. A study by Babson College and IO Sustainability found that CSR practices have the potential to reduce the cost of debt for companies by 40% or more and increase revenue by up to 20%. Likewise a recent meta study by the University of Oxford found that 90% of the studies on cost of capital show that sound sustainability standards lower the cost of capital of companies. Furthermore the study found that 88% of research showed that solid responsible business practices result in better operational performance. And 80% of the studies show that stock price performance is positively influenced by good sustainability practices.

Shared value creation

In a Harvard Business School article Professors Porter and Kramer coined the term ‘’shared value creation,’’ defining it as generation of economic value in a way that also produces value for society by addressing its challenges. A shared value approach reconnects company success with social progress. Firms can create shared value in three ways: (1) by reconceiving products and markets; (2) redefining productivity in the value chain; and (3) building supportive industry clusters at the company’s locations.

Porter & Kramer describe the societal and business benefits of providing products to meet societal needs and serve disadvantaged communities and developing countries. For example, a service developed by Thomson Reuters providing weather and crop pricing information for farmers earning under $2,000 reached subscription by an estimated 2 million farmers and contributed to increasing income in more than 60% of them. In another example Nespresso created shared value by investing in their suppliers, resulting in higher incomes and fewer environmental impacts among coffee growers, while increasing Nespresso’s supply of reliable quality coffee beans.

Delayed recognition of the business case for RBC

While a significant and growing body of empirical evidence is pointing to the fact that responsible business makes good business sense this understanding has yet to be internalized in the mainstream. In the first place information challenges continue to exist because certain benefits of RBC such as strong corporate culture or good will are difficult to isolate and quantify. However there is reason to believe that these data gaps will be overcome as increased information regarding RBC is collected.

Another reason is that intangible assets, whether they be related to RBC or other intangibles in general, are not usually immediately reflected by financial markets as their value is only realized in the long term. In order to make sure these values are recognized in financial markets, and thus adequately prioritized at the level of companies themselves, organizational changes will have to be made.

There is growing evidence that responsible business conduct pays off for business which affirmatively answers the question that companies can indeed do well by doing good. However in order to ensure that responsibility is embedded within corporate DNA, a move towards organizational and incentive structures prioritizing long term growth over short term gains will have to be made.

Useful links

OECD Guidelines for Multinational Enterprises

Promoting inclusive business through responsible business. Part 2 – Shared value and community-based development

Sleek_Garments_Industry_in_GhanaRoel Nieuwenkamp, Chair of the OECD Working Party on Responsible Business Conduct (@nieuwenkamp_csr). Part 1 is here.

Aside from promoting engagement with suppliers and communities that often include vulnerable populations the OECD Guidelines for Multinational Enterprises also encourage local capacity building through close co-operation with the local community and human capital formation, in particular by creating employment opportunities and facilitating training opportunities for employees.[1] While such recommendations do not specifically target base of the pyramid populations, they do promote economic advancement, particularly in the context of industries relying on unskilled labour.

Technology transfer is another important way of creating value and encouraging economic growth. The OECD Guidelines recommend that companies adopt, where practicable, practices that permit the transfer and rapid diffusion of technologies and know-how[2] and that when granting licenses for the use of intellectual property rights enterprises should do so on reasonable terms and conditions and in a manner that contributes to the long term sustainable development of the host country.[3] With regard to technologies that could provide substantial benefits to poor populations (for example medical or agricultural technologies) the expectations of responsible business conduct can have important implications for inclusive growth.

The OECD Guidelines likewise promote community engagement with relevant stakeholders in relation to planning and decision making for projects or other activities that may significantly impact local communities. In the context of large scale agricultural investments and the extractive sector, industries which notoriously posed risks to poor communities in developing countries, the OECD has developed guidance on how to best engage with stakeholders to avoid adverse impacts from operations and to ensure that such activity produces shared value at the level of local communities. [4]

The extractive sector is often pointed to as a sector with limited positive linkages as it is an enclave industry and generally generates minimal direct employment opportunities. However a focus on shared value can ensure that indirect benefits are maximized and that extractive operations are as inclusive as possible. For example an extractive operation could support local enterprises to become competitive, efficient suppliers to the extractive project resulting in a win-win local procurement strategy. Likewise investment in infrastructure that is dual purpose and benefits both the enterprise and local communities can be an important resource for economic growth beyond the lifetime of an extractive operation. Furthermore, as extractive operations usually involve long life-cycles and fixed locations fostering economic opportunities locally can be an important factor in reducing risks and lowering the costs of production.

In the agricultural sector, large agri-food enterprises can benefit from establishing long-term relationships with small-scale farmers thereby supporting their integration into global supply chains. Globally there are around 500 million smallholder farms and agriculture provides income to approximately 70% of the worlds rural poor populations. Stable relationships can improve transparency and traceability and help large enterprises secure access to a reliable supply of agricultural commodities. Such sourcing relationship can also work to enhance capacities of small-scale agricultural producers, share technology and resources, and promote responsible business practices at the base of the supply chain. This is quite important in the case of cocoa whose production is done by numerous smallholders that lack access to finance and technology and for which land productivity should be enhanced to respond to international demand.

No matter what the sector, the link between responsible business practices and inclusive growth is clear. Responsible business conduct encourages continued engagement to improve conditions in high-risk industries which often are the primary employers of populations at the bottom of the pyramid. It encourages capacity development and training which can build skills and encourage advancement of low-skilled workers, technology transfer, and meaningful stakeholder engagement with local communities which may otherwise be disenfranchised. Such approaches not only result in positive impacts for poor communities and workers but also often result in valuable commercial gains. In this regard as inclusive business or inclusive growth continues to be labelled as a policy priority by global leaders, the role of responsible business practices will merit special attention.

Useful links

Global Forum on Responsible Business Conduct

[1] OECD Guidelines for Multinational Enterprises (2011), Chapter II, A.3-4

[2]OECD Guidelines for Multinational Enterprises (2011), Chapter IX. para. 2

[3] OECD Guidelines for Multinational Enterprises (2011), Chapter IX. para. 4

[4] See Due Diligence Guidance for Meaningful Stakeholder Engagement in the Extractives Sector, p. 48 (forthcoming, autumn 2015).