Using commercial contracts to incorporate accountability of ESG in supply chains

Environmental, social and governance ('ESG') accountability is a growing concern for businesses operating in global supply chains. ESG issues such as human rights, labour standards, environmental protection and anti-corruption are increasingly scrutinised by regulators, investors, consumers, and civil society. Businesses that fail to address these issues may face legal, reputational, and financial risks.

One way that businesses can enhance their ESG performance and mitigate their risks is by incorporating ESG clauses into their commercial contracts with suppliers, customers, and other parties. Commercial contracts are legally binding agreements that govern the rights and obligations of the parties in a business relationship. By including ESG clauses, businesses can set clear expectations, standards, and obligations for their counterparties on ESG matters, and monitor and enforce their compliance.

For example, a business may require its suppliers to adhere to certain ESG policies or codes of conduct, to provide regular reports or audits on their ESG performance, to implement corrective actions or improvement plans if they fail to meet the agreed standards, or to indemnify the business for any losses or liabilities arising from ESG breaches. Alternatively, a business may incentivise its customers or partners to adopt ESG best practices by offering discounts, rewards, or preferential terms for those who demonstrate ESG excellence.

However, drafting and negotiating ESG clauses in commercial contracts is not a straightforward task. Businesses need to consider various factors, such as the nature and scope of the ESG issues relevant to their industry and operations, the level of ESG maturity and capacity of their counterparties, the applicable legal and regulatory frameworks in different jurisdictions, the potential costs, and benefits of implementing ESG clauses, and the availability and effectiveness of dispute resolution mechanisms in case of ESG disputes.

Moreover, businesses need to be aware of the potential challenges and pitfalls of using ESG clauses in commercial contracts. For instance, some ESG clauses may be vague, ambiguous, or inconsistent with other contractual terms or legal obligations, which may create confusion or uncertainty for the parties or lead to disputes or litigation. Some ESG clauses may be too rigid or prescriptive, which may limit the flexibility or adaptability of the parties to changing circumstances or emerging ESG issues. Some ESG clauses may be too lenient or voluntary, which may undermine the credibility or enforceability of the parties' ESG commitments.

Therefore, businesses need to adopt a strategic and holistic approach to incorporating ESG clauses into their commercial contracts. They need to align their ESG objectives and expectations with their contractual strategy and risk appetite and conduct due diligence and assessment of their counterparties' ESG performance and capabilities. Our specialist commercial solicitors are experts in drafting clear, precise and consistent ESG clauses that reflect the parties' mutual interests and responsibilities. Our commercial solicitors can also discuss and provide advice to ensure that contracts are drafted to ensure both parties contribute to bringing ESG accountability in global supply chains but also improve their operational efficiency and competitiveness and contribute to their long-term sustainability and value creation.