Why payment terms should not be used as green incentives

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As the year progresses, the upcoming UN climate change conference in Glasgow looms like Christmas on the business calendar, with environmentally conscious businesses increasingly on the hunt for something special to show how much they care. They shop for durability.

A potential warehouse is the supply chain, the source of most of their greenhouse gas emissions. When the UK’s biggest retailer announced in April that it would start using its payment terms to incentivize suppliers to reduce their carbon footprint, it didn’t expect a backlash. Several observers have interpreted Tesco’s intention to reward better sustainability performance with past settlements as more of a way to legitimize late payments.

Better terms could be used as an incentive, but we shouldn’t treat timely payment as a pat on the head

A carrot not a jerk

In theory, incentives are useful tools to encourage change. If the fair payment terms are improved by the desired action, it seems like a win-win situation. But any such arrangement should always be carefully designed, warns Mark Chadwick, managing director of sustainability solutions at Engie Impact in the UK and Ireland.

“It’s a matter of having the correct measurements and controls. There are risks to offering any inducements, so we need to structure them appropriately, taking into account any potentially corrupting influence,” he explains.

Trust and credibility are essential in any customer-supplier relationship, so waving a big compliance stick, thinly disguised as a carrot, is not the answer.

“To be a real carrot, an incentive must offer an improvement over the status quo,” Chadwick points out. “It is not enough to ask for sustained action to prevent a deterioration of conditions.”

The right to receive on time

Of course, not all industries are the same when it comes to their supply chain management traditions. Incentives play out differently depending on the dominant culture.

The construction industry, for example, became notorious for perpetuating an adversarial approach in which deliberate late payment, or even non-payment, was common practice.

While construction may be modernizing its approach, there is still some way to go to standardize the basics of responsible purchase ledger management. As a result, any prospect of dangling carrots in front of local SME suppliers and subcontractors still seems remote.

Moreover, the idea of ​​incentivizing these micro-enterprises in this way is wrong in principle, says Shaun McCarthy, president of the Supply Chain Sustainability School.

“Payment on terms is a fundamental right,” he says. “If the contract says the customer has to pay within 30 days, that should happen. That doesn’t happen often in the construction industry – and the biggest players tend to be the worst offenders. »

The school measures its own success by the extent to which it can encourage the entire supply chain to engage with the green agenda. But he would never endorse using sustainability as a bargaining chip for cash flow assurance, McCarthy points out.

Any attempt to push lesser players into the supply chain simply by honoring existing payment promises seems more condescending than encouraging, he adds. “Improved terms could be used as an incentive, but we shouldn’t treat timely payment as a pat on the head. It’s a contractual right.

Good rewards for better data

One way to add an extra dimension to the value exchange could be to introduce an exchange of ‘sustainability data for benefits’ between supplier and buyer.

Organized by the University of Cambridge’s Institute for Sustainability Leadership (CISL) in 2017, Project Trado was an experiment to test whether sustainability data could be transferred from the start of a supply chain – in this case, tea growers in Malawi – to major consumer goods. companies at the other end, including Sainsbury’s and Unilever. Powered by blockchain technology and backed by Barclays, BNP Paribas, Rabobank and Standard Chartered, the project also explored whether benefits via trade finance terms could incentivize small primary suppliers to adopt greener practices.

For the 225 farmers involved, sharing information about the social and ecological issues they faced unlocked more favorable pre-shipment financing terms with potential long-term benefits. Contributing over £57 million a year to the country’s trade figures, tea is big business in Malawi, representing the country’s second-largest export product. Project evidence has proven both that data transfer is possible and that banks can incentivize smallholder farmers.

The project organizers hope that the Trado model will serve as a model that can be applied in other contexts to bring about social and environmental improvements. But, when it comes to applying the approach more broadly, the size of the supplier should be a key factor, as explained by Thomas Verhagen, senior program manager at CISL.

“These mechanisms can work if they respect a specific system of proportionality with regard to rewards and sanctions. The smaller the supplier, the greater the rewards for compliance – and the greater the penalties for non-compliance – should be. Smallholder farmers, in particular, should not face penalties,” he says.

Trado is not the only initiative that has explored the potential of linking data and finance. The International Chamber of Commerce has also developed standards for the transfer of sustainability information alongside commercial bank payments. These are now adopted by Swift, an interbank system for sending payment orders.

What these initiatives have in common is that they strive to monetize the value of sustainability deep in the supply chain. They are trying to make it pay, for everyone, including consumers and shareholders.

Given the undeniable currency of climate action right now, this green is the new gold.


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