7 Leading Practices for Effective Third-Party Risk Management
Companies today have never been more reliant on third parties. But are they putting in place the most effective third-party risk management (TPRM) protocols to mitigate risk that comes with relying on external partners?
The data suggests no. And that’s why we’ve decided to write this article, providing enterprises the seven leading practices for effective third-party risk management. That way organizations can stay on top of their third-party ecosystems.
What is third-party risk management?
So, what is third-party risk management?
Third-party risk management is the continuing process of identifying, analyzing, evaluating, and treating risks related to the use of third parties.
In recent times, these third-party vendor relationships have increased – often by leaps and bounds. But as they have, so too have third-party risks.
This has happened because more vendors now have access to your intellectual property and other sensitive data. Not to mention that a vendor shutdown, if that vendor is important enough, can now adversely affect your business operations, including shutting them down altogether.
Who are third parties?
So, who are these third parties? Third parties include but are not limited to:
- Service providers
- Business partners
Given that mix, third-party risk comes in varying degrees.
The most important type of third-party risk, however, comes when the services or activities that third parties perform are material business activities.
Material business activities are prioritized activities that if disrupted will have a significant impact on an organization’s business operations or the ability of that organization to manage its risks effectively.
Why is third-party risk management so important?
Third-party risk management has become such an important issue precisely because of the role third parties play in material business activities.
Formerly, third-party vendors might have been only contracted for purposes of cost savings and efficiency. They’ve now, however, become central to how businesses operate.
Indeed, many companies are outsourcing core functions. In fact, 73% of companies state they have moderate to high levels of dependence on cloud source provider (Deloitte).
As a result, when a vendor incident happens, it quickly cascades into a crisis for the organization by compromising material business activities.
What risks do third parties introduce?
Of course, reputational risks aren’t the only risks introduced by third parties. The top third-party risks include:
Cybersecurity and data privacy
Cyber-attacks are on the rise everywhere. And third parties aren’t immune. By virtue of entering into third-party relationships, firms add another entry point for cyber threats. This is particularly the case if third parties have lax security protocols, making them more vulnerable to malicious actors.
Post-Covid global supply chains have been a mess, and organizations reliant on suppliers to bring necessary goods and services from those strained supply chains have suffered. An uptick in global volatility, with flashpoints in the Middle East and Western Pacific, has often meant tighter margins for suppliers and increased risk of disruption to companies, as well.
Dependencies on third-party vendors for critical functions pose business continuity risks, as well. If a key partner suffers an operational setback (e.g., IT outage), the organization suffers.
As a result of these factors, regulators and policymakers are increasing the pressure on organizations to better manage their third-party ecosystems. They have introduced a whole slew of regulations and laws, effectively forcing companies to better monitor their third-party ecosystem or face sanction.
The benefits of an effective third-party risk management strategy
To mitigate these risks, organizations must put into place effective third-party risk management strategies.
The intent of such strategies is to help organizations manage their third-party risk by ensuring that vendors meet the same standards and expectations (be they for cybersecurity, data privacy, or any other matter) as their internal teams.
An effective third-party risk management strategy will lead to better governance.
This is key. Internal teams often lack visibility over third parties, inhering risk accordingly.
Strong third-party governance reduces that particular risk by:
- Increasing transparency
- Better aligning third party-engagements to overall company strategy
- Providing consistent regulatory compliance
Add to that, companies can go a long way to reducing their overall third-party risk profile by embedding third-party risk management practices in all levels of the organization.
The benefit of formalizing third-party governance in such a way includes:
- Following a more intelligent risk-based approach better aligned with enterprise strategy
- Better training of staff and executive champions in aligning service delivery with strategic objectives
- Development of standardized processes and proactive decision making via the use of data and analytics
- Creation of fully customized, value-added tools that support decision making
Seven best practices for effective third-party risk management
The remaining question though is how? The success of the third-party risk management strategy will depend on implementing best practices.
What are they? Here are the seven leading practices for effective third-party risk management:
1. Adopt and regularly review a strategy on third-party risk, as part of your larger risk management framework
Your strategy on third-party risk should include a policy on the use of services supporting critical or important functions provided by third-party service providers. Senior management, here, should, be obligated to regularly review the risks identified, on the basis of an assessment of your overall risk profile and the scale and complexity of relevant business services.
2. Maintain and update a register of third-party service providers
Relevant contractual arrangements should be appropriately documented, distinguishing between those that cover services supporting critical or important functions and those that don’t.
How important is this? In some jurisdictions, organizations will have to report annually on (1) the number of new arrangements on the use of third-party services, (2) the categories of third-party service providers, (3) the type of contractual arrangements, and (4) the services and functions which are being provided. Maintaining a register will therefore help improve compliance.
3. Perform rigorous due diligence
Before entering into a contractual agreement, organizations should do their homework. In the case of third-party risk management, that means (1) assessing whether the contractual arrangement covers the use of third-party services supporting a critical or important function, (2) identifying and assessing all relevant risks, and (3) undertaking all due diligence on prospective third-party service providers to ensure throughout the selection and assessment processes that the third-party service provider is suitable.
4. Only enter into contractual arrangements with third-party service providers that comply with appropriate information security standards
Given the level of security risk involved in third-party relationships, organizations should duly consider whether third-party service providers are up to date on the highest quality information security standards. This is particularly the case when contractual arrangements concern critical or important functions.
5. Establish auditing protocols
It’s important to exercise access, inspection, and audit rights over your third-party ecosystem. To this end, organizations should, on the basis of a risk-based approach, pre-determine the frequency of audits and inspections as well as the areas to be audited.
6. Come up with exit strategies
Organizations should be able to terminate contractual arrangements with third parties. These exit strategies should be exercised in any of the following circumstances:
- Significant breach of applicable laws, regulations, or contractual terms
- Circumstances identified throughout the monitoring of third-party risk that are likely to alter performance of the functions provided, including material changes that affect the arrangement or the situation of the third-party service provider
- A third-party service provider’s evidenced weaknesses pertaining to its own risk management, particularly in a way that compromises the availability, authenticity, integrity, and confidentiality of data
7. Invest in digital technology
Finally, implementing these leading practices efficiently will require leveraging the power of automation. From onboarding and due diligence to risk monitoring, contract, and action management, third-risk management software provides such automation capabilities and critical workflows that help equip teams to pinpoint and address the top issues across the vendor ecosystem.
Dependence on third parties has never been higher. And thus, effective third-party risk management has never been more important.
Fortunately, tools like Noggin Resilience help you manage risk across your entire third-party ecosystem by seamlessly collaborating with third parties in a unified workspace dedicated to enhancing resilience.
But don’t take our word for it, check out Noggin for yourself in a tailored demonstration.