Note: this is the first of a three-part series exploring “materiality” and the intersection of supply chain management, sustainability and corporate social responsibility.
As the ongoing Wikileaks controversy has made very clear, the political and business world is on information overload. Some of the information that is disclosed can reveal damaging and often jaw dropping news- and somewhere, interested stakeholders either celebrate or shudder. If a company is questioned about its work practices, environmental impacts of its products or services, it’s too late to claim “it’s not my problem”. By the time the conversation happens, it’s already a “material” issue. We are (as former Beatle George Harrison penned) indeed “living in the material world”.
“Materiality” is a term that is frequently used in corporate financial circles, especially as it relates to corporate responsibility, risk and liability management. A “material issue” is commonly understood in the financial industry as a factor that can have a significant financial impact on a company. These issues are generally disclosed to shareholders, quantified to a degree in annual financial reports, and addressed within the strategic planning process.
Tomorrow’s effective corporate social, environmental and economic reporting must communicate information that is ‘material’ to stakeholders in making coherent decisions and taking planned and timely actions relevant to their interests. An appropriate redefinition of materiality is therefore essential for business managers, for policy makers establishing tomorrow’s regulatory frameworks, and for those involved in their implementation and oversight.- excerpt from Redefining Materiality -Practice and public policy for effective corporate reporting (AccountAbility, 2003)
As sustainability meets supply chain networks, the issue of ‘materiality’ is taking on a new meaning. Maintaining a “responsible supply chain” involves ensuring that human and labor rights are acknowledged along the supply chain. Leading companies are engaging their stakeholders to assure that proactive institutional controls are in place to manage the environmental footprint of the value chain. In addition, companies are increasingly promoting ethical business practices and fostering community based initiatives that support companies “social license to operate”. As one example, on average, 40% to 60% of a typical consumer product manufacturing company’s carbon footprint is from its supply chain. For retailers, the figure is closer to 80%, with an equally high supply chain exposure to human rights and social issues. By managing supplier and community engagement in a way that achieves and maintains the highest social and environmental standards, a company can achieve performance goals while creating a ripple effect that raises standards deep within the supply chain.
A recent report by Ernst and Young stresses a number of factors that are contributing to more companies expanding their supply chain initiatives in support of sustainability. Key factors cited in the report are:
- “Changing consumer preferences toward environmentally responsible (green) products
- A call for better public availability of product data across the entire value chain
- Major supply chain risks, including human rights, national security, environment and climate change, each of which individually can collectively affect the nature of a companies sourcing activities.
- Potential impacts of a products reputation and brand value associated with potentially harmful supply chain practices.”
It’s the last two points that touch most closely on the concepts and issues of ‘materiality’.
As I noted above, ‘materiality’ analysis requires identifying the issues that are of high concern to your stakeholders and also of high strategic relevance to your company. These are the issues that should be at the core of your corporate responsibility approach and communications strategy, both internally and externally. The concept of “materiality” for sustainable strategic planning widens the analytical spread to address significant environmental or social impacts—as understood by the company AND its stakeholders.
“Topics and indicators that reflect the organization’s significant economic, environmental, and social impacts, or that would substantively influence the assessments and decisions of stakeholders.” -Global Reporting Initiative G3 Sustainability Reporting Guidelines, October 2006.
Stakeholders can generally be defined as: investors, employees, customers, communities, non-governmental organizations (NGO), regulators, and (of course), suppliers. Suppliers upstream of core manufacturing operations hold a critical place in operationalizing organizational sustainability initiatives. They can serve a key external role in determining if an environmental, social or financial issue that can be encountered within the product value chain is great and unmanageable or small and can be contained. If manufacturers can control or influence supplier behavior, the environmental footprint of the product before it enters the production cycle, its likely that the entire product life-cycle footprint can be narrowed downstream at the point of use and end of life. Also, in softening the environmental and social “load” the residual effect would likely be greater stakeholder confidence, enhanced financial assurance and managed reputation.
The Case About “Conflict Minerals” and Supply Chain Management
Making the rounds in sustainability and supply chain circles so far this year is closer examination of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010), signed into law last July. Within the body of this voluminous Act (page 838 of the 848 page Act to be exact) is a six-page section that may have a marked impact on the supply chain for companies across many industries. This law and the issue of conflict minerals (and other commodity driven issues like palm oil extraction, cocoa or coffee production) is a golden example of where supply chain management meets social responsibility and ethics. This issue sits squarely in the world of materiality, both to internal operations and to external stakeholders.
Section 1502 of the Dodd-Frank Act promulgates new requirements that will have companies reporting to the Securities and Exchange Commission (SEC) on the origins of many precious metals and minerals in their products, including gold, tin, tantalum and tungsten. The focal point of this legislation is targeted on so-called “conflict minerals”. Most of these minerals are sourced in the Democratic Republic of the Congo (DRC). Many of the proceeds from the sale of the minerals entering the supply chain are believed to be funding armed militia groups. The new provisions will create potential penalties for failing to comply with the SEC reporting requirements. Also, the provisions require that companies respond adequately to customer or third-party requests for information about how these minerals are included in a company’s products or manufacturing processes.
According to a recent white paper on the Dodd-Frank Act by Supply Chain Executive and IHS, Section 1502 requires companies to make an annual disclosure to the Securities and Exchange Commission regarding whether potential conflict minerals used in their products or in their manufacturing processes originated in the DRC or an adjoining country. If the minerals were sourced from these countries. Companies must report on the due diligence measures used to track the sources of the minerals if they were derived from the DRC or neighboring nations. In addition, the Act will require a 3rd party audit to verify the accuracy of the company’s disclosure. Finally, a declaration of “DRC conflict-free” must be provided to support that goods containing minerals were not obtained in a manner that could “directly or indirectly … finance armed groups in the DRC or an adjoining country”.
This Act and others like it are likely to create difficult, but attainable challenges for electronics manufacturers. The steepness of the challenge depends on the depth of the supply leading from initial extraction of materials to production and the frequency that the minerals exchange hands through the chain-of-custody. Most surveys taken from manufacturers suggest a lack of confidence in being able to confidently trace conflict minerals to the source (excluding the likelihood that illegal extracted minerals are also blending into the marketplace). So you could see the difficulty in companies demonstrating due diligence in tracing the chain of materials flows from point of origin.
Meanwhile, major manufacturers in sectors affected by the law already (electronics, cell phones etc) are starting to push new reporting requirements down their supply chains. Also, a number of industry associations are working with their members to develop codes of conduct associated with conflict minerals. They are also developing tracking tools and mechanisms to more accurately account for conflict mineral movement in compliance with Dodd-Frank. And still other NGO’s continue to fight conflict minerals on the ground and through public action.
The second post in this series will look at the successes and challenges surrounding materiality in the supply chain and the intersection with corporate social responsibility. I’ll present some industry leading examples of materiality analyses in corporate social responsibility reporting, and the criteria that went into determing levels of supply chain materiality . The third part of this series will dive into how to conduct a detailed materiality analysis and best methods for engaging the supply network to create positive, verifiable benefits and leverage risk.
 Medical products manufacturer Baxter estimates that 38% of the company’s overall carbon footprint is represented by its suppliers. As part of its green supply chain initiative, Baxter “concentrates its efforts to green its supply chain on minimizing transportation-related emissions, procuring raw materials and other goods and services with reduced environmental impacts, and helping suppliers improve their environmental performance.”