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In today’s enterprise landscape, most business functions have exposure to third parties – such as vendors, partners, contractors, consultants. They’re an integral part of how business works today. The availability of high-quality proprietary tools also means that a company’s data is shared with multiple other risk-exposed companies. While there are laws and regulations in place to determine how this data is stored and managed, not all vendors may have the capability to cover an organization’s risk adequately.

This is where exposure to third-party risks begins. A quick analysis on cyber attacks on large and medium organizations shows that risk was introduced into the system through a third-party vendor. According to report by the Ponemon Institute, 51% of businesses have suffered a data breach caused by a third party.

IT and cyber risks apart, organizations today are also exposed to misuse of intellectual property, poaching of company assets, bribery and corruption, financial troubles, and operational risks. Understanding the third-party risk landscape and managing it must be a business priority. When you work with a third party, their risk becomes your risk. Your reputation and revenue are at stake.

What is Third-Party Risk?

Enterprises in today's world are larger than ever before and have expanded far beyond traditional boundaries, serving clients in multiple geographies and markets. As the global economy grows larger, more businesses scale to fulfil the endless demands of customers across these areas of operation.

However, such growth does not come easy to an enterprise. It requires several strategic decisions to make it happen, and only when those decisions pay off do the goals of an enterprise see success, and eventually revenues.

One of the most common strategic decisions that a business needs to make is to partner with other entities. Only through partnerships and performance of contracts can an enterprise reach multiple audiences and relate to them.

These entities, also called third parties, help businesses achieve several different goals ranging from entering new markets and creating new products to achieving sustainable growth. No matter what the need of the partnership, the fact that an outsider becomes involved with the workings of a business exposes it to a variety of risks that can hinder its capacity to deliver on customers’ expectations.

Third-party risk is essentially any risk that originates from a collaboration with another entity. The management of these risks comes under the purview of Third-Party Risk Management (TPRM), also known as Vendor Risk Management, Supplier Risk Management, or even Vendor Management and Supplier Management. While these terms do have specific connotations, TPRM means the overarching function that studies and mitigates all third-party risk.

Such risk is diverse in nature and can affect the enterprise in a variety of ways. These risks can arise out of several reasons such as the location, size, other clientele, possible fraudulent activity, and more. To sustain and grow in an increasingly competitive market, it becomes imperative that businesses effectively manage third-party risk.

How do Third-Party Collaborations Make an Enterprise Vulnerable?

Third parties expose businesses to a diverse set of risks that are capable of damaging and hindering a business’s operations and reputation in several ways. As and when a third party is contracted by an enterprise, the risk of different types of damages begin to arise. Here are some ways by which enterprises can be susceptible to risks from the third parties they engage with:

  • Reputation

Risks arising from vendors or third parties may result in temporary or permanent damage to the public image of the enterprise. This may be caused due to inconsistent behavior of third parties, violation of company and public policies, or sub-par solution delivery.

  • Strategy

Businesses may suffer damage due to uninformed or poor strategic decisions taken by third parties. This prevents an enterprise from achieving its goals and creates discrepancies in the system.

  • Operations

An enterprise is exposed to the risk of losses arising out of the poor internal performance of the operational duties carried out by third parties.

  • Cybersecurity and Data Security

One of the most common and damaging risks associated with third parties is the breach of company data. As companies get involved with more entities, they extend the enterprise’s focus of information access. Therefore, when the data security of a third party is compromised, the enterprise is also exposed to the same threats, to the extent of shared data.

  • Compliance

When third parties are contracted, they begin to represent an enterprise. Therefore, where a third party is in violation of the rules and regulations of a jurisdiction, or the policies of a region, the enterprise is at risk of attracting legal action through vicarious liability.

How to Assess Risk and Exposure?

It is always important for enterprises to remain aware of third-party risk. An enterprise must create a risk profile for each third-party partner to understand the different risks that they bring to the table and how to protect the company from any damage that may occur.

A third-party risk profile can be created evaluating the following parameters:

  • Location

One of the more critical factors of assessing third-party risk levels is the geography of the entity. If a third-party vendor is located in a politically unstable region, a region prone to natural disasters, war-torn areas, or a region plagued by high rates of criminality, the risk associated with the third party becomes higher.

  • Regulation

A third party that operates in a business environment that is surrounded by complicated legislation and rigorous compliances increases the chances of failure to comply. When a third party fails on the compliance front, the contracting enterprise is exposed to legal action and fines that can disrupt and damage its operations. Therefore, a highly regulated jurisdiction is cause for concern for an enterprise.

  • Information Access

When an enterprise extends access of its business data to a third party it exposes itself to the risk of breach. This breach may be caused due to poor security standards of the third party or when the propagator is the third party itself. A higher level of access translates into increased enterprise risk.

  • Importance

As more companies contract third parties, dependence on these entities grows. Such dependence makes a third party important for a variety of reasons to the enterprise. Therefore, when a third party is critical to the operations or continuity of an enterprise, the risk associated is significantly higher.

Why do Organizations Need Third-Party Risk Management?

The importance of third-party risk management cannot be stressed enough. The sheer damage caused due to the exposure can be detrimental to the very existence of an enterprise. Deloitte calls third-party risk a first priority challenge, since vendors that companies have worked with for years may have gone out of business, new ones may have entered the system, and brought with them several associated risks.

Therefore, it is critical that businesses give due attention to third-party risk and understand how TPRM (third-party risk management) can prevent lasting damage to an enterprise.

Here are a few reasons why organizations need TPRM:

  • Integrity

Risks associated with a third party stand to damage the integrity of the company in an irreparable manner. This creates gaps in the strategic goals of the enterprise, representing weak motives, and tarnishing its reputation. Through TPRM, businesses ensure that the enterprise remains a credible establishment with goodwill among investors and customers.

  • Continuity

When an enterprise falls victim to the detriments of a third party, the disruptions that follow could hamper previously uninterrupted operations that are critical to the functioning of the business. Third-party risk management ensures that business continuity remains a top priority, and even in cases where a third-party relationship is damaged, the operations of the enterprise do not come to a halt.

  • Profitability

One of the greatest incentives of third-party risk management is the protection of company finances. When an enterprise suffers damages due to the action or inaction of a third party, its revenue and profits are liable to suffer. Therefore, through a viable TPRM strategy, companies can avoid exposing their earnings to the damages caused by the risk associated with a third-party relationship.

  • Security

To avoid damage to data, businesses need to employ a TPRM strategy that protects company data if the third party suffers a breach, or in some cases, attempts a breach.

The Benefits of Third-Party Risk Management

Third-party risk management is the logical way forward for businesses when dealing with third-party entities. The need for a TPRM strategy far outweighs the importance of measures to control damage after exposure. Although TPRM acts as a risk indemnity for an organization, it carries other advantages that make it ideal for an enterprise to incorporate within the system.

Here are some of the ways an organization may benefit from third-party risk management:

  • Avoid Fines and Legal Action

A TPRM framework allows businesses to avoid getting involved with regulatory authorities. When a TPRM framework gives due importance to GRC, it is likely to protect the enterprise from legal action, even when an associated third party is liable.

  • Promote Organizational Risk Culture

When companies create a third-party risk management framework, they require contracted third parties to abide by the code of conduct of the company. This extends the cultural values and ethics of the organization to external parties. Further, through training and sensitization programs, companies promote the culture of their enterprise, while simultaneously mitigating risk.

  • Mitigate Risk Exposure

As companies become involved with multiple partners in different geographies, it increases the risk and potential for damage. A sound TPRM strategy allows an enterprise to contain the level of exposure that they face in the event of a third-party-induced incident.

How to Create a Third-Party Risk Management Strategy

Irrespective of the scale and level of engagement with third parties, all enterprises must maintain a sound TPRM strategy to protect themselves even from the smallest of damages. To achieve this, businesses are required to create a framework that highlights several factors that would determine the result of a third-party incident and the extent of damage caused as a result of exposure.

1. Identify

The first step in understanding the threat landscape is to identify the partnerships that the enterprise maintains. Identification helps businesses stay aware of the several entry and exit points of data that need to be covered. This also allows businesses to review existing relationships with third parties and cut ties with partnerships that are not required anymore or do not align with the company’s strategic goals.

2. Classify

Next, the third parties need to be classified based on the risk that they carry. Such classification can be made based on geography, previous performance, the trade of the third party, and the level of access granted. Classification enables the creation of risk profiles for several third parties, paving the way for detailed assessment.

3. Assess

Once third parties are classified into different categories of risk, the enterprise needs to assess the level of exposure. Through due diligence and third-party assessments (TPAs), businesses can estimate the likelihood of a risk causing tangible detriment to the enterprise.

Assessments also help the organization understand its own risk appetite in the context of third-party relationships, thus ensuring a more structured way of making decisions around collaboration.

4. Manage

Upon successful assessment of risk, the enterprise can take the necessary measures to mitigate such risks and protect the enterprise from possible damage that may be suffered. This means creating policies that demarcate whether a risk proposition is worth the gamble.

5. Monitor

Although TPRM is largely complete upon assessment of risk and development of policies to cover the enterprise from such risk, the process remains a continuous exercise. Therefore, the enterprise is required to consistently monitor relationships with third parties and be aware of their actions to ensure that policies are followed and mal-practices are identified before they become too big to contain.

Frequently Asked Questions

Vendors who understand and follow the compliance norms set forth for their industry are often a good pick for collaboration. Such compliance is easily visible in cases of publicly traded companies as they are required to declare their revenues and operations annually. For larger organizations, a dedicated risk team is often best-poised to study the third-party vendor in question to evaluate what a potential partnership might mean for the organization across all areas of risk.

As discussed earlier, the five key tenets of a TPRM framework include identifying the third-party risk landscape as it currently stands, classifying these risks based on severity and urgency, assessing them in the context of the company’s overall risk appetite, managing these risks with set controls, and monitoring compliance over a period of time.

In a real-world situation, this entails everything from where the organization’s major risk came from in the past, identifying patterns in third-party vendors who may be causing these risks, garnering inputs from internal functions to understand their current vendor needs, and developing a framework that allows them autonomy in choosing a vendor as long as the vendor is vetted against certain set parameters within the TPRM framework.

Since multiple stakeholders engage with and employ third-party vendors, the onus of minimizing third-party risk does not rest at the door of one individual or team. Instead, a good TPRM framework helps various departmental and functional heads decide on the best practices to follow when choosing to work with a vendor or terminating a contract.

Using a single tool to manage third-party risk also ensures complete visibility of the process. Moreover, when a vendor’s contract is terminated, all stakeholders in the system are kept informed so they may take the next appropriate steps—revoking data access, requesting for file transfer, preventing further contact with the third-party vendor, and so on.

The focus of a best-practices checklist for TPRM should always be to cover as many bases as possible. In the context of the pandemic, there are three things to bear in mind when thinking about TPRM best practices. These are:

  • Prioritizing vendors: Not all vendors are equally critical for business operations, and this means that companies always have the choice of distributing vendor risk accordingly. In other words, a vendor who isn’t as critical to business operations can easily be replaced with another whose risk mitigation approach is better-suited to the company’s needs.
    However, the more critical vendors can be brought under a common risk umbrella which is most beneficial for the company.
  • Thinking beyond cybersecurity risks: While cybersecurity and information security risks get high priority in conversations, there are several other aspects of risk to evaluate, such as business continuity, competitive risks and disruption, geopolitical risks and financial risks, all of which have been exacerbated by the pandemic.
    A comprehensive TPRM plan is reliant on understanding the entire risk landscape, and not limited to cybersecurity threats alone.
  • Leveraging automation: Today, automation is a powerful tool available to companies facing multiple complex risks.
    Processes such as assigning risk categories to vendors, vendor onboarding, risk ownership and documentation, and risk reporting can all be automated. This always allows every stakeholder to access the risk profile of third-party risks.
    Hence, organizations must consider automation as a core risk mitigation strategy, and not just as an operational convenience.

The TPRM lifecycle outlines the steps and timelines associated with studying and mitigating third-party risks. It usually begins with vendor identification, evaluation and selection, followed by risk assessment for new and existing vendors. Usually, a long and continuous process of risk monitoring follows these steps.

Risk mitigation is closely tied with risk monitoring and reporting, and a risk champion is assigned for each vendor. In some cases, the cycle ends with vendor offboarding either due to the end of the contract period, or due to contract termination.

Often, a TPRM process can fail due to the following reasons:

- The process has been designed without considering the needs and priorities of all parties that the process impacts.

- The process has not been documented clearly enough for various stakeholders to understand and report an anomaly when it arises. Over time, individual stakeholders have no incentive to report incidents because the process is too complex or cumbersome, and the risk management function is therefore affected.

- The process is too rigid and does not account for the sheer diversity in the kinds of third-party entities that exist today. For example, some of the most sophisticated tools in the market are built by small teams and emerging businesses, which may not have the compliance bandwidth to address every need of the enterprise. In such cases, the TPRM process must be flexible enough to minimize risk while also allowing for such partnerships.

- The TPRM process has not kept up with changing times. For example, some data around risk management may continue to reside on spreadsheets while the rest is migrated to analytics platforms, presenting a less-than-complete overview of the organization’s actual third-party risk exposure.

Often, third-party risk management is perceived as a function that ends with the onboarding an approved vendor. However, most third-party relationships are equally dynamic and evolve over time. This means that a third-party service provider who is not offboarded appropriately can also pose risk and cause compliance challenges.

Hence, it is important that TPRM is viewed as a full-lifecycle program that covers the entire engagement lifecycle of every vendor within the organization at all times, and across all functions.

Today, AI tools can help study the risk landscape associated with a vendor using existing markers such as past history of breaches, known and unknown data leaks within the industry, the risk profile of the service provided by the vendor, the number of years of operation, the tools and technology they use to prevent a data breach, and so on.

Manually, these factors would take a long time to study and even longer to standardize against the company’s risk appetite. Using AI, these insights can be derived much faster, allowing companies to more effectively manage third-party risk.

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