Many organizations outsource products and services to third parties to supplement their capabilities, access specific expertise, augment staff, reduce costs, streamline operations, or improve business outcomes. Still, the risks associated with third-party relationships must be effectively identified, analyzed, managed, and monitored to protect your organization against cybersecurity incidents, regulatory non-compliance, and financial and reputational damage. The success of this endeavor depends on an effective third-party risk management strategy.
What Is a Third-Party Risk Management Strategy?
A third-party risk management strategy defines how an organization identifies and addresses risks posed by third-party relationships within a specific risk tolerance. A good third-party risk management strategy reflects external factors such as regulatory requirements, best practices, and customer expectations for managing third-party risk, and considers the organization's internal objectives, resources, requirements, limitations, and appetite for identifying and managing these risks.
Essential Components of An Effective Third-Party Risk Management Strategy
There are four essential components of an effective third-party risk management strategy:
- Risk Identification and Assessment: Does your organization have a standardized methodology and tools for identifying and measuring the risks associated with products, services, and vendor relationships? When organizations standardize their risk identification methods and tools, they are less likely to be caught off guard by risks that were improperly identified or missed altogether. Better risk identification means better risk management.
- Risk Mitigation: What actions does the organization undertake to reduce or eliminate these risks? Once risks are known, what third-party risk management practices and controls are employed to reduce the likelihood, occurrence, severity, or impact of those risks? In many organizations, risk-based due diligence is accompanied by enhanced contract negotiation and structuring, periodic risk re-assessment, and risk and performance monitoring. The more regimented your organization is regarding these practices, the more effective your third-party risk management will be.
- Risk Management or Response: What are your organization's acceptable third-party risk-handling methods? Common risk-handling techniques include:
- Avoid: The organization chooses not to take on the risk.
- Transfer: Organizations can never fully exempt themselves from third-party risk, but they can transfer the financial impacts of those risks to third parties via insurance policies and contractual indemnification.
- Mitigate: Implement risk practices and controls (either internally or externally through the third party) that will reduce the likelihood, occurrence, severity, or impact of those risks.
- Accept: In some cases, the organization may have no other option than to accept the risks as presented. This may result from having no alternative third party to provide the product or service or because the risks presented are balanced by the benefits of the relationship.
- Risk Monitoring: Third-party risks can change rapidly. What practices and processes does your organization use to monitor third-party risks effectively? Effective practices include formalized periodic re-assessment and regular monitoring for changing risks.
Third-Party Risk Management Strategy Variables and Considerations
Identifying your third-party risk management strategy is foundational to your third-party risk management program's success. But your organization's ability to consistently and effectively execute the strategy may be influenced by several variables. Consider the following:
- Are there regulatory requirements or industry standards with which your organization must comply? Many industries are subject to specific regulatory guidelines for managing third-party risk. Or the organization may need to meet specific third-party risk management standards to establish or maintain specific credentials, such as ISO, NIST, PCI, or HITRUST. If any of these apply, your organization’s third-party risk management strategy must ensure that these requirements are met at a minimum.
- How many third-party relationships does the organization have that must be managed? Creating an inventory of third-party relationships can help the organization estimate the effort and resources required to manage them. Identifying all of the organization's third-party relationships is only part of the equation. Defining which relationships will be included in your formal third-party risk management program and practices is just as important. Public utilities, media subscriptions, and memberships in professional organizations are all examples of third-party types that can be safely excluded from your TPRM program.
- Who is responsible and accountable for managing third-party risks? Are specific stakeholder roles and responsibilities clearly defined? Does the organization have the right combination of skilled individuals and the capacity to effectively manage third-party risks? Is there appropriate oversight and governance to ensure everyone effectively plays their part? To effectively execute third-party risk management in an organization, stakeholders must know and understand their roles and responsibilities and have the right skills, expertise, and bandwidth to fulfill them. The organization's governance and oversight functions are accountable for ensuring that the right people and resources are in place to manage the risks.
- Is there an established third-party risk appetite? Consider your organization's willingness to accept third-party risk in exchange for the benefits of your relationships as part of your third-party risk management strategy. Some organizations are okay with taking bigger risks to reap bigger benefits. In contrast, more conservative ones seek to minimize risk as much as possible. Your organization's risk appetite can help determine the acceptable risk identification, assessment, and management levels necessary to meet your business objectives.
Every organization must have a third-party risk management strategy that best fits its needs and vendor relationships. Identifying the strategy is essential, but understanding the factors that could impact the effective execution of that strategy is equally important. The ultimate goal is to determine the third-party risk management strategy that aligns best with your organization's objectives and obligations and to allocate enough qualified resources to ensure its success.