ESG impacts a broad range of company activities encompassing sustainability, ethical business practices, social values, and effective management oversight. In the UK, the laws addressing ESG range from the Modern Slavery Act 2015 to parts of the Companies Act 2006 amongst others. As a business grows, eventually ESG compliance becomes a legal necessity, and even before they become mandatory, meeting ESG standards can be an important pre-condition for securing investment. It is commonly argued that SMEs should seek to comply with ESG standards as it is important to stay ahead of the regulatory curve. Even where compliance with a requirement is not yet mandatory, it is only a matter of time before it will be, either because business growth causes the SME to hit a threshold that triggers mandatory compliance, or future legislation continues to reduce or remove the compliance thresholds. While this is reasonable advice, predicting the legislative development of ESG regulation is uncertain.

Despite these uncertainties, ambitious SMEs should prioritise ESG compliance for commercial reasons. Meeting ESG standards is becoming increasingly necessary to secure work with larger organisations (especially those in the public sector) who are subject to mandatory ESG requirements through regulation or government policy. These potential clients may use ESG during vendor selection and will usually impose obligations that mirror (or exceed) their own obligation on their vendors contractually. Consequently, a robust compliance programme can represent a competitive advantage in securing these contracts and satisfying your contractual obligations.

The first line of defence when dealing with ESG requirements imposed through contract is a review of the terms by the SME’s legal advisors. These advisors should have a good understanding of the firm’s operations so (working with management) both the legal and operational implications of any requirements can be considered along with any associated reporting. While this review may prevent an SME from unwittingly committing to potentially onerous ESG obligations, it won’t ensure compliance with emerging requirements or help a business use their ESG programme as a commercial tool to secure such work in the first place. This requires a more proactive approach.

Implementing an effective ESG compliance programme starts with a scoping exercise whereby the SME determines the regulations that apply, or which are likely to be considered necessary by its target clients. The SME should then undertake a series of risk assessments to determine how exposed the SME is to these ESG factors and how well developed its existing controls are. Advisors with experience in developing compliance programmes as well as those with detailed knowledge of the procurement process employed by target clients can offer an invaluable contribution to this exercise in identifying areas to target to ensure your programme is robust and maximises your ESG scores in a competitive tender situation.

Once the risk assessments findings have been reported to management, work can commence to address any weaknesses in the current arrangements. This normally starts with establishing a governance framework to ensure effective accountability and oversight of the programme which should scale effectively when implementing any future controls. The SME can then address any weaknesses that were identified in its current controls. This may include the preparation of policies, staff training and the establishment of internal and external reporting mechanisms as well as a process for ongoing review and assurance as it is important to understand that compliance is an ongoing obligation rather than a one-time project.

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