A Primer
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Click through the topics below:
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Why should investors care about contracts? Investors should care about responsible contracting for several reasons related to their corporate engagements, as well as to their own obligations as responsible investors.
On company compliance: First, as discussed above, companies that adopt (and adapt) the responsible contracting tools effectively could achieve alignment with the UNGPs and the OECD Guidelines, as well as better legal and regulatory compliance. Second, responsible procurement or purchasing is a key element of responsible business conduct, as well as prudent long-term, risk-sensitive business governance. Know the Chain (KTC) benchmarks companies across the food and beverage, footwear and apparel, and information and communications technology sectors and reviews purchasing practices as part of its evaluation process. In 2020, the average score on purchasing practices was 23 out of 100 across all three sectors, making purchasing practices one of the lowest scoring factors in the benchmark. This means that companies across all three of these sectors are either engaging in unethical recruitment practices or have yet to integrate human rights obligations into their relationships with their suppliers. This can lead to material risk in the short and long term. Supply chain instability may result in negative performance in the short term, while investments in a cooperative relationship between buyer and supplier that avoids such disruption can decrease turnover, increase resilience, and foster a healthier and more productive workforce. In addition, there is a growing body of research indicating that companies that are stronger on ESG metrics tend to perform better over time and present less investment risk (e.g., less litigation risk, less reputational risk, greater sustainability). Long-term risk analysis is particularly essential for pensions and index investors required to maintain their investments in a company for as long as the company is in the index, which could be decades. With the RCP Toolkit, investors have a tool to use with companies to improve their financial, as well as HRE performance. Contractual provisions, such as those contained in the RCP Toolkit, are a valuable tool for investors to clarify expectations with portfolio companies regarding ESG-related performance, validation, and data reporting. Indeed, large institutional investors are leading the call for decision-useful information on a company’s performance on ESG factors. The most significant ESG disclosure drivers for companies are the evolving legislative and regulatory requirements, such as the CSRD; the continuing integration by mainstream investors of ESG factors into investment decisions, ongoing portfolio monitoring, and engagement; and the proliferation of impact funds, or funds that are formed with the intent of achieving a specific ESG-related impact alongside risk-adjusted financial returns. On investor compliance: Finally, while neither the UNGPs nor the OECD Guidelines explicitly outline a role for investors in supporting HRE outcomes, the obligation to avoid causing or contributing (and preventing and mitigating) adverse impacts applies to all business sectors. The OECD’s report, Responsible Business Conduct for Institutional Investors: Key Considerations for Due Diligence under the OECD Guidelines for Multinational Enterprises, makes clear that institutional investors have an obligation to conduct due diligence across their investment portfolios to assess the HRE risk associated with particular investments. Specifically, they should: 1) adopt HREDD-aligned policies and management systems for investors; 2) identify actual and potential adverse impacts within (potential) investment portfolios; 3) use their leverage to influence investee companies causing an adverse impact to prevent or mitigate that impact and; 4) document, track, and communicate about the manner in which adverse impacts are addressed by the portfolio company and the investor; and 5) provide remediation where the investor has caused or contributed to an adverse impact. Investors should shoulder their responsibility under the UNGPs and the OECD Guidelines, as well as watch legal developments closely and equip themselves to engage with companies on how they are integrating HRE matters and, when applicable, HREDD requirements, into their processes, including their supply contracts. [1] They should use their leverage to promote a different, due diligence aligned approach to contracting (supported by responsible purchasing practices) referred to here as responsible contracting. [1] Investors were included in an earlier draft of the CS3D. Article 8a required institutional investors and asset managers “to engage with the investee company and exercise voting rights . . . in order to induce the management body of an investee company to bring the actual [adverse impact] to an end or minimize its extent.” While inclusion of the financial sector in due diligence obligations was reserved for a future date (and the future of the CS3D is uncertain), investors may, in future, need to get ready to meet new legal requirements.
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