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Governance : Supplier Ethics Management : Compliance : Thought Leader

Building an Ethical Supply Chain

By Michael Levin
Michael Levin
Vice President of Corporate Integrity Strategy
Integrity Interactive

Being an ethical company isn’t enough anymore. These days, leading brands are judged by the company they keep. Consumers, investors, business partners, regulators, and media organizations now expect a company and its entire supply chain to be ethical. Sooner or later, every company is bound to find itself part of a supply chain that experiences a significant ethics or compliance violation. When this happens, chances are great that the biggest brand in the chain will get stuck with most of the blame.

The supplier-generated ethics scandal is probably one of the biggest (and least foreseen) business risks most leading companies face today. The damage can be great, and protective measures can and should be adopted immediately. The good news is that feasible, affordable solutions exist and can be implemented relatively quickly and painlessly.

What is the ethics problem in the supply chain?
Almost every company (in its role as “purchaser”) buys unfinished inputs provided by many other companies (called “suppliers”), before refining them and sending them downstream toward their ultimate end-users (known as “consumers”). Simply put, the ethics problem in the supply chain is that consumers often blame purchasers for ethical lapses that were actually committed further upstream by suppliers. Blame attaches to the purchasing company even though its suppliers are legally (and factually) distinct and independent corporate entities. The ethics problem in the supply chain is a lot like a phenomenon many people first encounter in grade school: getting blamed for something you didn’t even do!

It’s worth noting that it’s often not just any company that takes the rap for wrongdoing committed by suppliers. In the typical supplier-related ethics imbroglio, any of a number of different purchasers could theoretically be hit with the blame (since multiple supply chains are usually involved in delivering a finished product or service to the marketplace). In reality the blame almost always falls on the biggest brand that played any role whatsoever in bringing the offending product or service to market.

The scapegoat company could be a designer, a manufacturer, a distributor, or even a retailer. The scapegoat could be closely associated with the unethical supplier, or many steps removed. But the scapegoat will always be the player with the biggest reputation to protect (i.e., the one most susceptible to pressure from outsiders). This state of affairs may not be fair, but it is how the ethics & compliance game now works (at least where ethical violations by suppliers are involved).

This type of risk is not hypothetical, and no organization or industry is immune. In 2007 alone, the drama has unfolded in eye-catching headlines like the following:
• Mattel Does Damage Control After New Recall (Wall Street Journal)
• Del Monte Pet Products Recalls Food Items (Washington Post)
• Toshiba Laptop Batteries Pose Fire Hazard (
• Dole Pre-packaged Salads Recalled For E. coli (AP Online)
• French Retail Giant Carrefour Is Fined (AP Online)
Each of these headlines is a real-world example of a leading brand taking the hit for ethics or compliance breaches committed by suppliers. Mattel did not paint its toys with lead paint. Del Monte did not choose poisonous wheat gluten for its pet food. Toshiba did not build the flammable batteries in its laptops.

In these and many other instances, suppliers were responsible for creating the dangerous conditions that captured the public’s attention -- yet nowhere in the headlines could the suppliers’ names be found. The biggest brand paid the price. When toy shopping this December, consumers will not impose justice upon invisible-supplier Yip Sing. Instead, consumers will rightfully (and righteously) boycott the Mattel brand.

Despite the pervasiveness and seriousness of the problem, companies can take at least one positive step toward inoculating themselves against damaging headlines: implementing a credible Supplier Ethics Management (SEM) initiative. In fact, Boards of directors should make this a priority for Q1 2008.

What is the current state of SEM?
Supplier Ethics Management is the management of suppliers and supply relationships with strategies, programs, and metrics that better align supplier business conduct with purchaser standards, with the goal of reducing the purchaser’s overall risk of corporate integrity failure in the supply chain. “Corporate integrity failure” embraces any enterprise-level scandal involving a violation of compliance, ethics, or corporate responsibility standards.

Most companies today do a pretty good job of managing these three risk categories within their own four walls. However, these very same companies often fall far short when it comes to managing and mitigating corporate integrity risk in their supply networks.

In multiple, recent surveys of over one hundred companies in the Global 2000, Integrity Interactive uncovered the following facts:
• 88% of respondents do not maintain a Web-based portal that suppliers can use to receive communications of any kind from the purchaser. (Of the 12% of respondents that do maintain such portals, none used them to deliver any kind of compliance- or ethics-related information to suppliers).
• 86% of respondents concede that their primary ethics code does not address the conduct of suppliers.
• 78% of respondents do not include suppliers in any other type of ethics & compliance program or initiative.
• 64% of respondents have some kind of code of conduct (primary or secondary) that regulates supplier conduct, but only 40% of respondents require suppliers to actually take any action with respect to that code (e.g., disseminate it to employees, train on it, acknowledge receipt of it, certify compliance with it, or even read it in the first place).
• 59% of respondents do not include suppliers in their analysis when assessing their company’s own ethics & compliance risks.
• 56% of respondents make no effort to audit supplier business conduct on a regular basis.
• Only 20% of companies believe they are “already doing enough” to manage ethics & compliance risks in their supply chain.

What is changing?
Historically, corporate leaders believed that their duty to ensure ethical business conduct ended at the four corners of their own corporation, and did not extend beyond their own employee base. At most, companies inserted clauses into their standard procurement contracts, requiring suppliers to represent and warrant that they would “comply in all material respects with all applicable laws, statutes, and regulations.” In short, the all-purpose corporate defense to allegations of wrongdoing in the supply chain has historically boiled down to “It wasn’t one of our employees” (occasionally buttressed with “But our supplier promised us in writing that this would never happen!”).

When a supplier-generated ethics scandal occurs, this kind of defense is no longer enough to mollify incensed consumers, investors, business partners, regulators, advocacy groups, or media organizations. Nowadays, these and other “stakeholders” count on leading brands to do something more in order to keep the trust of the marketplace. Not everything they possibly can – just more.

Although most companies today do very little to manage ethics risk in the supply chain, tomorrow is shaping up to be a very different story. While 78% of all companies surveyed by Integrity Interactive currently fail to include suppliers in their compliance and ethics programs, 57% of these very same respondents say that suppliers will be included in such programs within the next two years. This represents a near-seismic shift in risk management priorities, attention, and resources within Global 2000 companies.

Until now, companies have typically cited three reasons for their inaction in the area of Supplier Ethics Management: insufficient time; inadequate budget; and insufficient administrative resources. Recent headlines have apparently galvanized corporate leaders to develop creative approaches to overcome at least two of these deficiencies, and possibly the third one as well.

To counter the “no time” problem, 86% of respondents have decided that someone else (i.e., suppliers themselves or an independent third-party) should take on the actual day-to-day grind of driving supplier participation in the purchaser’s ethics & compliance initiatives. And to circumvent the “no money” problem, 75% of respondents have decided that suppliers should share or bear the cost of participating in the purchaser’s ethics & compliance initiatives.

The remaining piece of the puzzle is administrative resources. The creative solution emerging to address this final obstacle has a great deal to do with collaboration (internal and external).

Compliance officers can collaborate with procurement colleagues.
The majority of corporate legal and compliance officers have no regular contact with their colleagues managing procurement and supplier relations. Few legal and compliance officers at Global 2000 companies possess (or even have access to) a list of their company’s major suppliers; fewer still have adequate contact information for those suppliers. Yet almost all big-company legal and compliance officers want to forge closer working relationships with their colleagues in procurement and supplier relations. Why is this?

In most large companies, procurement executives “own” the company’s supplier relationships. In order to have any type of positive impact on these supplier networks, legal and compliance officers know they must cooperate and collaborate with their procurement and purchasing colleagues. In fact, savvy legal and compliance officers proactively offer to partner with procurement colleagues in some or all of the following six major areas:

• Making compliance & ethics a factor in supplier selection and evaluation;
• Targeting & segmenting suppliers by commercial importance and ethical risk;
• Creating & maintaining compliance histories of important suppliers;
• Assigning compliance personnel to important supplier relationships; and
• Conducting regular assessments of supplier risk-profiles.

This type of internal collaboration is inexpensive, sensible, and arguably “win-win” from everyone’s perspective (including suppliers’). At the very least, increased Procurement-Compliance interaction will better position your organization to declare to the media that it is not simply enabling or ignoring the ethics problem in the supply chain. And it stands a good chance of preventing the problem from actually occurring the first place.

What can companies do today?
Most Global 2000 companies lack the ability and infrastructure to quickly contact most or all of the companies in their supply chain, and communicate with their suppliers on critical issues of ethics and compliance. In most cases, this glaring deficiency could be remedied in less than six weeks’ time. Many Global 2000 companies have already begun the work necessary to fill the gaps (often by collaborating with other companies to develop technology-powered “Supplier Ethics Management platforms”).

A web-based SEM platform allows a company to collect and maintain contact information for most or even all of its suppliers, and communicate mission-critical ethics and compliance information to them on a regular basis. Deploying an SEM platform is probably the fastest and easiest way to get a handle on ethics and compliance risks in the supply chain. SEM platforms are inexpensive to create, and are typically hosted, maintained and administered by third-party vendors who specialize in ethics & compliance risk management.

SEM platforms typically perform several basic (but important) risk management functions, including the following:
• distributing a company’s code of conduct and regular updates to its suppliers;
• documenting supplier receipt of these requirements (and, where appropriate, supplier acknowledgement and/or acceptance of same); and
• facilitating two-way communication between a company and it suppliers, on mission-critical topics relating to matters of ethics and compliance.

Supplier Ethics Management is not a new risk management discipline. SEM simply involves the application of existing risk management tools, programs, and practices to new risk-populations (i.e., business partners operating outside the traditional “four walls” of your corporate entity). Your company’s legal and compliance professionals already know how to manage and mitigate ethics and compliance risks among your own employees. With very little additional time, money, or administrative effort, they can do the same thing among the thousands (or tens of thousands) of companies in your supply chain.

If and when an ethics scandal crops up in your supply chain, at the very least your company will be able to credibly say that it has taken proactive steps to regulate and influence supplier conduct and behavior. In the current environment, that is a whole lot better than saying “Technically, it wasn’t one of our employees.”

Michael Levin
Vice President of Corporate Integrity Strategy
Integrity Interactive
Michael R. Levin is Vice President of Corporate Integrity Strategy at Integrity Interactive. Michael has worked with over 100 companies around the world to establish best-practice compliance and ethics initiatives. Michael is a Certified Compliance & Ethics Professional, and a member of the Massachusetts Bar.

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