ESG strategies in manufacturing – a deep dive

Posted on 23 Feb 2024 by Joe Bush

Earlier this month Make UK and Lloyds Bank launched a new report looking at how manufacturers are embracing ESG strategies and incorporating related targets and KPIs into their organisations.

The report revealed a dramatic increase in the number of firms that now have ESG as an integral part of their forward planning compared to 2021, with more expected to expand the scale of their ESG strategies in the next two years.

However, the report also showed that many firms do not have the resources to meet the ESG expectations now asked of them by customers. Here, we speak to Faye Skelton, Head of Policy, Make UK and Huw Howells, Managing Director of Manufacturing and Industrials, Lloyds, about the report’s findings and what they mean for manufacturers.

What is the purpose of the report?

FS: Broadly, the UK manufacturing sector has been embracing ESG. So, this report digs deeper into the barriers, challenges and opportunities that come with that.

Of course, manufacturing is a key sector when it comes to ESG. Regarding emissions, for example, manufacturing is the third most emitting sector in the UK. It also plays a key role in providing goods and products that will help reduce emissions more broadly and help the environment. There is also a wider conversation around social impact and human rights across the wider supply chain.

HH: A key purpose of the report is to identify ESG trends and barriers. What are the enablers within the manufacturing sector, with a particular emphasis on how manufacturers are interacting with their customers and suppliers on ESG? It’s all linked together from the biggest OEMs all the way down to SMEs, and that inherent linkage is both a challenge and an opportunity.

What are the key findings?

HH: We’ve been able to compare the data we’ve collected with that gathered in 2021 and, in terms of the number of manufacturers who actually have ESG targets or key performance indicators (KPIs) related to certain aspects of ESG, the sheer numbers have increased 48% which is huge. We don’t see that kind of dynamic change very often, so that’s a real positive.

There’s a real divergence between large and small firms in terms of the resources they have available to focus on ESG. For example, the number of manufacturers that make decisions on procurement with ESG inputs has, in general, increased, but it’s the largest firms that are nearly all insisting on having ESG built into their procurement processes.

This gets less the smaller the company, but it’s increasingly important and a growing requirement from customers that ESG criteria is met and relevant data is provided.

FS: The 48% increase in the number of manufacturers that have targets or KPIs is a great statistic and really good news. However, it should be tempered by the fact that only around half of firms have the resources to meet the required conditions.

In addition, three quarters of manufacturers that are building ESG requirements into their procurement strategies; again this is fantastic news, but four in ten manufacturers are not aware of how their suppliers are performing in these conditions. So it’s great on one hand, but there is more work to do.

The report shows a huge increase in the number of manufacturers with ESG targets since 2021 – against the backdrop of myriad other challenges (inflation, Ukraine, Red Sea etc), has this come as a surprise?

FS: It’s actually quite indicative of where manufacturing currently is, and how much the sector has had to contend with over the last ten years with all the geopolitical instabilities, the exit from the EU, high inflation etc. Manufacturers have had to become more dynamic, flexible and now require a far greater understanding over what they need to be doing.

HH: From our perspective, it’s not a surprise. We proactively engaged with all our clients on ESG and we’ve seen the trend emerging in real-time in the dialogue we’ve been having. There is, of course, myriad business challenges currently impacting the sector, however, ESG pressures are coming from more sources than ever before – whether that’s recruitment, retention of skilled labour, access to capital, investment or consumer/market demand.

Add to that the environment around legislation, which is constantly pushing the need for change in the sector, it’s understandable that we’re now starting to see that acceleration.

How have trends around ESG in the sector changed over the last decade?

HH: ESG has evolved enormously, as have our own internal teams. Metrics relating to human capital, health and safety, and human rights have always been high on the agenda, however, environmental and social factors are now beginning to become more prominent.

From an environmental perspective, carbon has really led the charge, which is clearly a result of the Paris Agreement in 2015. We’re also witnessing nature related considerations, which are beginning to track a similar trajectory.

We’ve seen a real jump in social considerations since the beginning of the pandemic, and then in terms of governance, ESG is now part of every boardroom discussion. There’s so many factors that are creating momentum.

How do ESG strategies differ between sector and firm size?

FS: Generally, larger firms have much higher investor, stakeholder and consumer expectations than SMEs. However, there is also a plethora of resources available to larger firms who will have specialised, dedicated ESG teams. This is usually not the case with SMEs.

HH: It’s a massive hurdle for smaller firms to keep up but they will have to, because the demands of the tier one manufacturers will only increase. That, in fact, rather puts the onus on larger firms to assist SMEs in terms of enabling them to deliver what the tier one OEMs require.

That being said, smaller firms are more nimble in many ways and can pivot quite a lot easier. And obviously, bigger firms are stuck in order book chains and have very structured processes.

What sort of legislation is in place to ensure manufacturers’ compliance?

HH: Current legislation already requires many large manufacturers to include climate disclosures in their annual reports. These disclosures align largely with Task Force on Climate-Related Financial Disclosures (TCFD).

And while that’s now well-established, it’s widely anticipated that new requirements are likely to be legislated in the coming years, more in line with the methodology of the International Sustainability Standards Board (ISSB).

In terms of ESG reporting and transparency, are manufacturers put off for fear of greenwashing?

FS: There’s definitely a fear factor around this. Your brand is what consumers buy into and if there is reputational damage or some kind of legal action, then that can be extremely costly.

Manufacturers are often reluctant to commit promises to paper, so a fear certainly exists. The solution ultimately boils down to the support structure within the sector. Where is the one-stop-shop in terms of advice for manufacturers around what they need to do, and the data they need to collect?

HH: From a larger manufacturer’s perspective, ESG disclosures are becoming increasingly mandatory and the bar is rising around their quantity and quality.

In the context of ESG reporting more generally, we’ve definitely seen an increase in clients who are looking to benchmark their commitments against established industry. The Science Based Targets initiative (SBTi) is a well-utilised process and system, used by a lot of larger companies for their GHG targets. It’s being used largely to mitigate against the risk of greenwashing so that there’s a real equilibrium in judgement of their commitments and benchmarking.

Clearly, there’s a potential benefit for the larger manufacturers. If they can show and demonstrate credible disclosures against a benchmark, that results in several positives to challenging areas like recruitment and access to capital.

For us, if we can demonstrate the credibility of a company’s ability to transition and in a standardised format, that’s only going to be a positive and it’s a great opportunity.

How is ESG impacting procurement strategies?

FS: The report has shown that a huge 94% of larger corporations have procurement in their ESG conditions, but that’s offset against 51% of SMEs.

Indeed, although there may be procurement ESG conditions, it doesn’t necessarily mean that the company has a formalised ESG strategy. So there is still a slight disconnect between including ESG within procurement condition strategies because of the greater benefits, and actually committing to having a formalised strategy.

What are the greatest hurdles to improving ESG for manufacturers?

HH: The largest challenge to call out from our perspective is the lack of resource and expertise. That challenge ultimately requires industry collaboration from SMEs right up to the big names.

There’s a lot of alignment between sectors, so the industry needs to make sure that there’s strength in that collaboration so the whole sector achieves progress. Everyone has a role to play.

We’ve partnered with the Manufacturing Technology Centre (MTC) and provided some sponsorship for SMEs to help track, train and upskill graduates, apprentices and engineers. Part of that tie up focuses on the delivery and familiarity of ESG.

We’ll take the companies that we have partnered with to the MTC where they can nurture a greater understanding around ESG principles, go on ESG line walks, learn how to improve manufacturing processes and reduce carbon, and find out how to deploy technology to automate their business.

We’re trying to play our part for the SMEs, but ultimately, we need the big OEMs to be helping down the value chain and establish a greater understanding of the challenges that SMEs face.

FS: One ESG challenge which is prevalent regardless of company size, is reporting. Currently it’s quite burdensome, so a key question for the industry is how we make that easier and more standardised. That all feeds into the benchmarking piece and another opportunity that needs to be unlocked.

What more needs to be done to support manufacturers in their ESG efforts?

FS: There needs to be a longer term strategy when it comes to ESG. It’s not always complimentary of other regulations that have come into being, so it needs to be more of a comprehensive vision. This is wider than just ESG but there is a skills gap in this area, particularly for manufacturers.

There are huge vacancies in the sector anyway, so there needs to be something in place where we can upskill both middle and senior leadership, middle management etc, on ESG practices. We’ve got to get the sector ready to tackle it.

HH: Every level of every organisation needs to be involved with ESG as part of ‘business as usual’. Within some companies it’s already well embedded, while at others it’s still a specific function. It’s in instances like this where it becomes complicated for ESG teams to reach into all of the functions of the business for it to become ubiquitous throughout the organisation. For ESG to become embedded within manufacturing it requires real leadership from the top of every size of company.

What’s the future of ESG within manufacturing?

HH: Notwithstanding the challenges, there’s a huge opportunity for manufacturing to play its part in society and the environment. If manufacturing, as such a large component of UK industry, can pivot and deliver on this, the opportunity for manufacturing to contribute to the UK’s climate goals is significant.

However, it requires real recognition. And to truly embed ESG principles within the psyche of manufacturing it’s something that needs to be driven by the many, not by the few. It’s a real positive challenge, but it requires everyone to get around the table to make it happen.

FS: One thing is certain, ESG isn’t going anywhere, so the sector has to grab the opportunity with both hands. Each generation is becoming more clued up and passionate about their environmental and social factors.

So, manufacturing is going to have to pivot and make the perception of the sector even more advanced and innovative. We also need to be really cognizant of the challenges that exist, in a way that is slowly happening now, but needs to progress more rapidly in order to grab the skilled future labour force.

Faye SkeltonFaye Skelton, Head of Policy, Make UK

Faye is Head of Policy at Make UK, the Manufacturers’ Association, representing 20,000 manufacturers across the UK. She leads Make UK’s policy and advocacy work, spanning labour market and skills, digitalisation and innovation, net zero, energy efficiency and devolution. Faye’s core focus is to champion manufacturers and influence government to back manufacturing. Prior to joining Make UK, Faye worked at the Department for Education and the Department for Business and Trade, working and leading on a variety of different government policies.

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