A transcription of a discussion from the Polish Association of Listed Companies conference on ESG reporting and sustainable investments on 11 September 2019
A supply chain is part of a value chain. In a supply chain we assess everything which is related to sourcing raw materials, materials, components, production, sales and distribution of a product. In this case the goal is to efficiently and effectively provide goods by keeping low costs, ensuring quick turnover of goods and flexibility in addressing clients’ needs. A value chain is, in turn, a wider term coming from the strategic management area and it relates to a set of activities in different areas of an enterprise’s activity which lead to creating a value for a buyer and thus reaching a competitive advantage.
First and foremost, we need to determine the reason why we will define a value chain. In the context of non-financial issues, we will be interested in the topics of CO2e emissions, climate change, circularity. We identify the chain in order to estimate risks, threats and opportunities in these areas.
We can start our work with analysing the company’s business model basing on the classic Porter’s value chain model. Here we analyse what processes take place at the company during the complete cycle of manufacturing the product and client service, starting with sourcing production resources, through production, distribution, marketing, sales and product maintenance. We also take a closer look at the processes related to managing the company, the existing organizational culture, relations with the social environment, human resources management, supplies, as well as processes related to research and development, new technology introduction, IT. These parts of the value chain have a final impact of the product’s value. The ESG context makes us extend our perspective with processes that take place outside of the company but yet have an influence on creating the product’s value, both in the upstream area (before they reach the phase of the company’s own activity) and downstream (namely, the processes that happen once servicing the product at the user stage is complete). Such a broader perspective will help us to diagnose to what extent the processes related to sourcing raw materials or manufacturing components of our product have an impact on the final value of the product for the client.
Such a company can learn about the risks, threats and opportunities that are hidden in this broadened area. During the value chain analysis, we can obtain information that was previously not known, for example, whether or not the products are manufactured under conditions that violate human rights or whether they have any negative impacts on the local communities. Considering these aspects, we can tell whether the product maintains its value over time and whether its use does not cause negative effects in the social or natural environment. What we learn during this process can also translate into financial results for our company. For instance, adjusting the processes to the requirements of circular economy will enable us to avoid the fees related to materials that are introduced in circulation which will increase significantly in the coming years for most of companies in Poland.
It is important to remember that the identification of a value chain is not a one-off activity, but a long process during which we will expand our knowledge about individual components of the chain. The topic should be approached rationally and it is good to create a framework for our long-term activity already at the beginning. During the first stage, we have to specify the main parts of the value chain, firstly, at the general level and then, as the time goes by, the chain should be investigated more closely. I think that this stage, which is composed of the business model analysis of the value chain within the company/group and beyond, in case of a company with a consistent business model, can take up to over a dozen weeks.
In the near future, most of companies will map their value chain for the purpose of their Scope 3 emission reporting, thus the Greenhouse Gas Protocol ‘Scope 3 Standard’ will cater to their needs. The standard was created exactly for the purpose of helping enterprises to map the emissions that are generated in their whole value chain.
The mapping is related to both upstream and downstream processes, so on the one hand, greenhouse gases emissions related to sourcing raw materials, their transport, processing, treatment of post-production waste, processing of the product and delivering it to the company as well as business travel, purchased goods and services, and on the other hand, emissions related to further processing of the product (component), its use and utilization. Determining the sources of Scope 1, 2 and 3 emissions helps us to learn where we have the biggest costs related to fuel use and negative impact on the environment. This in turn gives us a chance to introduce corrective actions that lead to increasing the value of the product to the client in the end.
The supplement to the European Commission guidelines on non-financial reporting related to climate clearly state that enterprises, during their materiality assessment of climate-related information, should consider their whole value chain, covering both the upstream and downstream areas.
The term ‘value chain’ appears in the supplement very often. In accordance with its provisions, the value chain should be considered in the materiality assessment of information related to climate, in the company’s policies on its impact on climate change and its mitigations, in the assessment of risks and opportunities related to climate in the short, medium and long-term, in the assessment of the impact of the product or service on climate in its whole lifecycle, and in the company’s or group’s activities supporting smaller entities in delivering the necessary non-financial data. It is thus worth to spend some time and effort now to identify the value chain as many things indicate that this will be a requirement in the near future.
The idea of a circular economy revolutionizes the currently existing linear economy model which is about sourcing raw materials, processing them, using and throwing them away. When you spend a while thinking about it, it seems to be a completely irrational thing to do, yet it is commonly legitimised. In the linear model we irreversibly exploit unrenewable resources and, a moment later, we throw them away without making us of their full value, and at the same time we destroy and pollute the natural environment. The concept of a circular economy is based on three main principles: to design products in such a way that no waste and pollution is generated, to keep products and materials in constant use, and to regenerate natural resources.
The circular approach materially impacts the way we run business way before we reach the waste management stage. Firstly, it becomes significant how the product is designed. If we want to avoid waste and ensure its long-time use, it needs to be enduring, needs to have good quality and be easily serviced. It has to be disassembled easily so that it could be carried over to a different place without any problem. It has to be produced under a no-waste process – namely, designed in such a way that the production requires only as much material or raw material as is needed, maybe using prefabrication. Secondly, visualisation becomes important – a transition from the material to the virtual world. Just look at our phones to see how many products have disappeared from our lives – calendars, atlases, watches, books, newspapers, cassette players, printed documents or bank counters. Thirdly, the implementation of circular economy principles is supported by the transition from production to offering services as part of the ‘product as a service’ model. Instead of owning things, we can rent them – such as renting a car per minute or lighting. Lastly, a recovery approach to natural systems makes us start using renewable resources and recover these resources actively, for instance, through recovering valuable organic matter and returning it to nature.
When mapping the value chain of an enterprise it is worth to pay attention to the circular economy principles, as in the closing or reverting of circulations there is an opportunity to add or recover value that is hidden in the product. A good illustration is the clothing industry which generates more and more products made from recycled materials, such as PET bottles. Today it is possible to transform a valueless bottle waste into a fashionable jacket worth 180 euro and lined with cleaned plumage from recycled old coats.
The European Union has passed two packages of regulations that aim towards circular economy. The first package was introduced in 2015 when the Circular Economy Action Plan was announced and referred to five priority sectors where the introduced changes would speed up the process of transition to a circular economy. The changes and new regulations focused on plastics, food waste, critical resources, construction and demolition waste, biomass and semi-products.
A new waste package was implemented in 2018, consisting of 6 directives and 4 statements, and it specifies goals set until 2030 covering, among other aspects, residential waste and limiting sending such waste to landfills; recycling of packaging made of plastics, metal, wood, glass, paper and cardboard; prohibition of using plastics for the production of disposable goods; limiting the use of plastic containers; limiting the use of primary raw materials for the production of plastics and using recycled materials. However, the most intense change that companies will face will be the introduction of the extended producer responsibility scheme in 2021, which states that the polluter is the one who pays. The increase in payment for entrepreneurs will be a significant financial burden, therefore, it is worth to consider already today how we can limit the amount of waste that is generated by our company’s activities. Still, this is not the end of the expected changes. In December 2019, the new European Commission announced the European Green Deal, a development strategy of the European Union. One of its foundations is to enhance the transition to a circular economy. For the following months of 2020, the Commission is planning to present a number of drafts of regulations and directives which will intensify this process.
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