Anyone who has stood by a calm lake may have been tempted to throw in a pebble and watch as the soothing wavelets ripple outward in perfect circles from where the pebble broke the surface.
This image is often used in macroeconomics to talk about the multiplier effect, and nowhere is this more apt than in the role large companies can play to achieve net-zero emissions by influencing their supply chains.
Recent Boston Consulting Group (BCG) analysis for the World Economic Forum shows that while Western economies are making efforts on the home front, they continue to import high volumes of emissions, especially from Asia (see Figure 1). This means a relatively small number of Western companies can reduce emissions in developing economies by engaging with their suppliers; as the effects ripple throughout industry supply chains, the chances of reaching net-zero global emissions by 2050 increases significantly.1
According to the BCG report, four major grain traders account for more than 75 per cent of global demand in the food value chain. If they joined forces to take action with suppliers and define standards on agricultural emissions and deforestation-free agriculture, they alone could affect a substantial reduction in overall emissions.
Figure 1: Action in supply chains can reduce imported emissions (Top 20 global CO2 export flows, Mt CO2, 2015)
Note: Excluding mining activities and services.
Source: BCG, OECD data, as of January 2021
The calm waters of global supply chains
The numbers speak for themselves. Just eight sectors emit more than half the world’s greenhouse gases (see Figure 2), and in most of them over 80 per cent of emissions are in the upstream supply chains rather than under the control of the end-consumer companies.
Up to 95 per cent of an organisation’s full value chain emissions typically sit outside its own operational control
“Up to 95 per cent of an organisation’s full value chain emissions typically sit outside its own operational control, so it is important to address supplier emissions,” says Hugh Jones, managing director, advisory, at the Carbon Trust, an independent non-profit organisation.
“Large companies will have a significant impact by corralling their suppliers into action, helping to raise awareness of the goal, making the business case for change as well as helping to share knowledge and know-how,” he adds.
Figure 2: Eight sectors are responsible for more than 50 per cent of global emissions
Note: Only selected value chain steps are shown here; value chain steps not shown at scale; Other supply chains = <50%; FMCG = fast-moving consumer goods.
Source: BCG, as of January 2021
Figure 3: In many of these sectors, over 80 per cent of emissions are in supply chains (CO2e, 2019)
Note: Top companies selected based on number of reported Scope 3 upstream categories and industry fit; FMCG = fast-moving consumer goods.
Source: BCG, CDP, as of January 2021
It could be argued decarbonisation should be the responsibility of firms across the supply chain. However, not only do the end-consumer companies have far more clout to trigger ripple effects, they generally have much greater financial means than their suppliers as well.
Figure 4: Consumer-facing industries often have greater financial means than their suppliers (Net income in €/t CO2e Scopes 1-3 upstream, 2019)
Note: Top companies selected based on number of reported Scope 3 upstream categories and industry fit; FMCG = fast-moving consumer goods.
Source: BCG, CDP, as of January 2021
If they redesigned their procurement processes and supplier relationships to incentivise the adoption of low-carbon practices, rather than through a separate corporate and social responsibility budget, they could transform the global economy.2
Figure 5: Procurement budget versus the average CSR spend of average FTSE 100 companies3
Source: Social Enterprise UK, 2019
“A major food retailer’s carbon footprint from transport accounts for approximately a third of its overall emissions,” explains Julie Zhuang, global equities portfolio manager at Aviva Investors. “If it can electrify its truck fleet, that is an obvious win in getting closer to net zero. Obviously, it would pay a premium to the truck manufacturer for that solution.
“On the flipside, in the US, trucking still represents 80 per cent of overall transport. For companies like Union Pacific Rail, seeing firms making zero-carbon pledges is a good incentive for them to encourage a switch of some of that truck transport to rail. There are consequences as you go beyond scope 1 (to scope 2 and 3) emissions, and activities like transportation have a huge role to play in helping these companies meet net-zero targets. Those are good examples of going down the supply chain and finding that ripple effect,” she says.
However, several obstacles stand in the way.
Dam busting: The challenges to a ripple effect
A key challenge is that consumer companies have complex supply chains. Their direct suppliers (tier one) often subcontract portions of large orders to other firms or through purchasing agents. Consumer companies typically have no contact with tier-two or tier-three suppliers, giving them little access to data on the emissions of their suppliers’ suppliers. Until consumer companies identify the sustainability problems in their supply chains, they cannot begin to work with their suppliers on solving those issues.4
Direct suppliers may be reluctant to act and anxious about potential costs and the investment required
“It's one thing when Microsoft says it's going to be carbon negative, but it's got a huge number of suppliers, from big to small,” says Zhuang. “And they all have to get on board to help Microsoft live up to its commitment. Just how easy is it?”
In addition, even direct suppliers may be reluctant to act. They may not be aware of potential levers such as efficiency and circularity, or may be anxious about potential costs and the investment required.
For heavy industry or freight transport companies, undertaking deep decarbonisation efforts without long-term offtake commitments from their customers can be a significant investment and technology risk. In agriculture, farmers may need to invest upfront and “rest” their land before they can manage crops sustainably. Without guarantees customers will pay more for their produce, or that they will be paid for the carbon they sequester, this can be daunting.
The lack of policy support or sector-level targets from industry bodies can also make the hurdle appear unnecessarily steep, particularly for first movers.5 Yet data, relevant incentives and collective action can help remove those barriers.
Figure 6: Barriers to reducing upstream emissions
Source: BCG, interviews with 40 climate-leading CEOs and their teams, Q3-Q4 2020
Multiply the pebbles, multiply the ripples
“It’s important companies understand the impact their suppliers have on their overall emissions through robust data collection,” says Jones. “This data should help identify the emissions ‘hotspots’ and these can then be used to help prioritise areas for collaboration to reduce emissions.”
Good data can help firms evaluate product roadmaps, to ensure new products are future proofed
Collecting and analysing supplier data can help companies and their suppliers gain visibility over the entire supply chain and enable tier-one suppliers to audit and manage their own suppliers. Good data can also help firms evaluate product roadmaps, to ensure new products are future proofed.6
“Data quality will likely improve year-on-year and companies should support their suppliers to ensure this happens, tracking improvements over time. Working together in this way will mitigate risks within the supply chain and ensure greater transparency which, in turn, can help identify broader issues beyond carbon,” adds Jones. Relationship building will be key.
Setting standards and incentives
Setting procurement standards for suppliers can then become one of the most powerful direct levers. However, it is not sufficient in and of itself. Decarbonising supply chains will often require sustained collaboration, for instance on joint abatement and circularity projects.
Companies should work with suppliers to raise awareness of the need for action on climate change
“Companies should work with suppliers to raise awareness of the need for action on climate change, communicate their commitments or targets, and signal their requirements so that suppliers can prepare, adapt and innovate,” says Jones.
“A good example is O2 (Telefonica),” he adds. “We have certified the company to the Carbon Trust Standard for Supply Chain and it has achieved the highest certification level, which requires companies to demonstrate reductions in specified parts of the supply chain. O2 achieved this through contractual engagements with suppliers to enrol in carbon reduction programmes.”7
Incentives and rewards for suppliers’ decarbonisation efforts are also needed, such as improved payment terms, supporting suppliers to buy renewable energy through power purchase agreements, co-investments, or offtake agreements to share the risk of innovations, especially where these require significant upfront investments.8
“There is a big market risk to this,” says Anders Åhlen, associate partner at consultancy Material Economics. “Will there be a market for more expensive steel, cement, plastics, fertilisers? Many companies on the demand side are now setting net-zero targets, but it is hard to know for certain that those companies will be willing to pay a sufficient green premium for products.” There is also the question of whether they can and will then pass those costs onto the end consumer.
Will there be a market for more expensive steel, cement, plastics, fertilisers?
Yet Jones argues even smaller suppliers stand to benefit from decarbonisation efforts.
“Reducing waste and improving efficiency is at the core of a well-run business – so taking these steps will enhance rather than hinder operations,” he says. “Implementing circular economy practices, for example, can also help cut costs and/or generate revenues through the opening up of new opportunities. Identifying disruptive ways of providing a lower-carbon product or service helps differentiate a business and provide growth opportunities.
“Engaging with suppliers in developing countries to adapt to these changes will improve their resilience and should help ensure their long-term survival. Often these are the suppliers who may be impacted sooner or to a greater extent by climate change, so there are additional reasons to prioritise them,” he adds.
Stronger together
Companies have recognised the benefit of collective action to move an entire sector, allay concerns around competitiveness and make common policy recommendations. The latter are particularly important in heavy industry sectors where governments tend to be the largest buyers, such as cement and steel.
Nobody's going to buy it at a scale until the cost comes down
“The price of hydrogen could come down if we began to produce hydrogen at scale, but nobody's going to buy it at a scale until the cost comes down,” says Lord Adair Turner, chair of the Energy Transitions Commission, an international think tank. “As we've seen in solar PV and batteries in the past, there is a role for governments to subsidise so we can move rapidly through that chicken and egg phase. That is what is going on in things like hydrogen electrolysis.”
Joint initiatives include the Mission Possible Partnership9 for harder to abate sectors, the Sustainable Apparel Coalition,10 the Supply Chain Sustainability School11, which funds the development of skills within the construction sector, and the CDP Supply Chain programme.
“The CDP Supply Chain programme brings together more than 150 major purchasing organisations from around the world to work with their suppliers to encourage disclosure, transparency, and continuous environmental improvements, thus building resilient supply chains,” Jones explains.12
Finally, companies need to align all these initiatives to their own internal targets, embed them into their purchasing strategy and ensure the targets are adequately cascaded across the organisation. Where this may result in higher spending, they should develop mechanisms to release the necessary funds. They should also link their procurement teams’ key performance indicators and compensation to supply-chain decarbonisation initiatives.13
Companies need to align all these initiatives to their own internal targets
“Net-zero targets can be very impactful if supported with a robust implementation plan that includes science-based targets and is sufficiently resourced. It is important to have the capability and budget to invest in the organisational changes and innovation required to achieve these targets,” says Jones.
“Having a target helps to crystallise the significant shift organisations, governments and citizens need to make and helps organise activity behind a common goal. In addition, making these commitments or targets public also helps encourage wider action, urgency and competition – which, in turn, drives innovation,” he adds.
Peer pressure, consolidated disclosure and transparency and net-zero commitments should combine to create ripples throughout supply chains; it will not be enough to just focus on scope 1 and 2 emissions. Acting as large pebbles, the seemingly calm lake of business activity could well be transformed into swirl of choppy but ultimately positive change.
