Ensuring ESG compliance through supplier contracts

As ESG escalates up the corporate agenda, a key challenge for Boards who are advocating the proactive management of ESG-related risks, is managing and assessing the impact of the actions of other parties through commercial arrangements.

As reporting requirements increase, it's becoming progressively necessary to encourage suppliers to adhere to these standards through contractual agreements. Certain ESG-related terms, such as anti-bribery and modern slavery, are already commonly included in commercial contracts. This is largely due to the Bribery Act 2010 and the Modern Slavery Act 2015 (respectively) placing statutory obligations upon companies and increasing the risk profile in these areas. 

The FCA has also been active on ESG issues, requiring many regulated entities to adopt new procedures and comply with certain sustainability disclosure requirements.

However, while many ESG requirements are becoming increasingly baked into companies’ governance, in the absence of regulatory or statutory requirements there is still real inconsistency with how companies capture these requirements (if at all) in their commercial contracts.

Use of policies

Compliance with ESG obligations are commonly captured in commercial contracts through obligations to comply with customer/supplier policies. Many companies have supplier conduct policies, or similar, that set out ESG expectations including:

• Sustainability standards – limiting emissions across all scopes, meeting net-zero targets, mitigating the impact of waste produced, sourcing sustainable materials with limited toxicity.
• Diversity, inclusion and working standards – ensuring equal opportunities, prioritising health and safety, guaranteeing appropriate working hours and pay.
• Anti-corruption – adopting fair competitive practices, adhering to tax laws, having whistleblowing policies, and conducting risk assessments.

However, such policies and codes of conduct are not legally binding on their own. An obligation in a contract requiring compliance with policies generally, or a specific code of conduct, will be binding, but these policies are often broad in scope which can limit actionable consequences for breaches. If compliance is key to the proper performance of a contract, a stronger approach will be to include specific ESG clauses in the contract.

The type and implementation of ESG clauses can vary considerably from one contract to another depending on several factors, including a company’s size, domestic laws, supplier networks, disclosure levels, and the nature of the transaction. For example, due diligence might uncover that the supplier works with a network of organisations, making compliance down the supply chain a priority. Similarly, domestic laws differ significantly, and so where suppliers are employing workers internationally, ensuring they are contractually bound to provide acceptable working conditions (in the absence of comparable laws in other countries) becomes vital. The depth of such ESG clauses is also dependent on comparable factors, as well as the necessary disclosure levels, and the nature of the contract.

Parties may also wish to consider structuring the commercial mechanics around a contract to put ESG as a high priority in the overall deal.

Example ESG clauses

• Obligations to create, and have approved, a Net-Zero Transition Plan for that particular service;
• Specific reporting obligations on ESG embedded into Reporting and Governance requirements (coupled with appropriate warranties around the accuracy of such data);
• ESG-Auditing rights for the customer;
• Periodic training for the supplier’s employees on specific ESG topics, in particular the requirements in the relevant contract but also wider public commitments of the supplier; or
• Benchmarking specifically linked the supplier’s use of green initiatives and a requirement to adopt the best practises on the market.
• Key Performance Indicators: certain ESG targets included within a KPI or Service Level regime, with appropriate service credit regimes, or service rectification or investment plan obligations if the required target is not achieved.
• Gainshare incentives linked to reduction in greenhouse gas emissions.
• Termination rights linked to specific ESG compliance failures.

Which ESG clauses should be used

When considering what clauses might need to be included in contracts, companies should consider their own policies and targets and work out what specific obligations a supplier would need to adhere to in order to support those plans.

The Chancery Lane Project, a charity dedicated to reducing emissions through legal documents and processes, offers clause suggestions across different jurisdictions and legal areas. We have collaborated with this charity for several years to promote climate conscious drafting, working on precedent clauses and incorporating them in our client contracts where appropriate.

Risks

The level of risks associated with lack of compliance from suppliers with ESG factors will vary. Future energy companies might have a particular interest in emissions data and net-zero targets, while retail businesses might focus on green claims following the Competition and Markets Authority’s (CMA) increased powers under the Digital Markets, Competition and Consumers Act 2024 (read our Green Claims Outlook 2025 for more information).

Ultimately, there are overarching risks which will be considered across most boardrooms:

• Commercial risks – such as company value, attracting investors and reputation among consumers.
• Physical risks – such as contamination of premises and the health and safety of workers.
• Litigation/enforcement – such as from the CMA, Advertising Standards Agency or the FRC.

Practical steps to more effective ESG contract provisions

• Review current contractual arrangements with suppliers to ensure ESG requirements and enforcement methods are in place.
• Consider your own ESG policies and targets to determine the specific supplier obligations needed to adhere to your company plans that should be captured as contractual requirements.
• Implement different ‘tiers’ of requirement based on the supplier and the specific service provided; for example, a supplier involved in the supply chain is likely to be expected to meet more ESG obligations than one providing internal training services.
• Ensure contractual clauses are clear and enforceable. Consider what the effect of non-compliance with such clauses will be and whether specific protections, like liquidated damages or termination rights, should be drafted in.
• Pay special attention to multi-jurisdictional arrangements where ESG may be more challenging to monitor and enforce.

Undertaking a thorough review will identify gaps in contractual arrangements, helping to inform the steps needed to contractually align the supply chain with customer requirements or internal standards.

Proactively manage supplier relationships to stay ahead of the curve

Collaboration with other business can enhance sustainable and ethical practices. Forming ESG-focused relationships is critical to the implementation of a wider ESG-strategy.

Whilst it is difficult to predict the path ESG-related laws will take, trends in regulatory enforcement make it clear that ESG will remain a priority, and scrutiny will only expand from consumers (because of increased online activity and information sharing), regulators and investors alike. Accordingly, an organisation’s compliance will become increasingly influenced by the nature of its relationships with others.

Proactively managing these relationships can minimise ESG-related risks and keep companies ahead of compliance demands. Contractual obligations should require suppliers to meet the necessary standards and provide accurate data for reporting. Alternatively, if supplier codes of conduct are to be used as the primary tool for ESG compliance, these should clearly detail a company’s requirements and include tangible and measurable obligations as how they are expected to be met. They will also need to be properly incorporated by reference into contracts, allowing for updates as these policies may develop.

Get in touch with TLT’s Commercial team for support with managing risk, drafting supplier codes of conduct, or embedding ESG-related compliance into commercial contracts.

Co-author: Meghan Sugrue, Trainee, Commercial team

This publication is intended for general guidance and represents our understanding of the relevant law and practice as at March 2025. Specific advice should be sought for specific cases. For more information see our terms and conditions.