For businesses that engage with third parties or outside companies, third-party risk management has emerged as a non-negotiable practice. New risks need to be managed given that organizations are increasingly outsourcing services to third parties. Such dependency, on the one hand, introduces opportunities and, on the other hand, introduces vulnerabilities that require systematic oversight.
Third-party risk management involves continuously evaluating every external relationship to ensure it continues to meet requirements for security, compliance, and performance. This continual approach is effective at identifying emerging risks as relationships and business conditions change over time.
In this blog, we will discuss what Third-Party Risk Management (TPRM) is, and how companies can set up successful TPRM programs to protect themselves. This blog will also explore the main categories of risk, the features of a robust third-party risk management system, and the practices that help reduce issues.
What is Third-Party Risk Management (TPRM)?
Third-Party Risk Management involves identifying, analyzing, and controlling risks that arise from the use of third-party resources. Such external entities might be vendors, suppliers, business partners, contractors, etc. TPRM examines how these relationships may impact the business in terms of operations, security, finances, and reputation.
With an increasing number of companies using third-party services, the reach of TPRM has expanded. Most companies are using dozens or even hundreds of outside vendors for their workflows, from cloud storage to software tools, payment processing, and customer service. Every link creates a possible channel for issues to enter the organization. An effective TPRM program looks at these relationships to identify vulnerabilities before they become issues.
Why is third-party risk management critical?
The digital supply chain has broadened significantly, giving attackers more entry points to attack the systems. Connecting the network to a vendor could potentially create a backdoor to the data that someone else can walk through. Most high-profile data breaches don’t target the large company directly, but rather start with some smaller vendor with weaker security. TPRM discovers these possible routes of attack and remediates them before they can be exploited.
Maintaining good TPRM enables compliance with various laws, thus preventing fines. GDPR in Europe, CCPA in California, and industry laws in healthcare and finance mandate organizations to benchmark vendor-related problems. The company may be held jointly liable by regulatory authorities if the vendor fails to protect customer data.
TPRM has become crucial as data privacy is at the top of the minds of more and more organizations. Organizations are still accountable for the protection of customer information when they pass it along to third-party companies. By ensuring that everyone in your network is responsible for data, TPRM reduces the likelihood of privacy issues that could compromise trust in the business.
Common Types of Third-Party Risks
After knowing the different kinds of risks third parties can pose, companies can defend against them appropriately.
- Financial Risks: Vendors may experience financial instability that jeopardizes their service delivery. Operations can be severely disrupted when a supplier faces insolvency or experiences significant cash flow issues.
- Increased security risk: Vendors may introduce harm to the systems. Hackers can use the software provider to access the network if their security is lacking. TPRM looks at how vendors secure their systems and how they interface and connect to the organization’s system.
- Compliance risks: These risks occur when vendors are not compliant with laws or industry standards that apply to their business. If partners are managing the data or operating in their own interests and breaking rules, then the company may suffer penalties.
- Operational risks: These risks directly impact normal business functions. These range from vendors who provide substandard manufacturing facilities, to missing deadlines, to outages affecting critical services.
- Reputational risks: These risks arise when the actions of the vendor reflect poorly on the company’s image. On top of that, if a partner starts doing something untrustworthy or gets bad press for something, people will associate the organization’s reputation with theirs.
Key Components of Third Party Risk Management
A solutions framework provides the multiple, interdependent components of TPRM necessary to build a strong program.
Third-party discovery and classification
Effective TPRM starts with third-party discovery and classification. It consists of drawing up an exhaustive inventory of all third parties that the organization collaborates with and classifying them by the degree of risk they represent. The classification will take into account the type of data they access, how critical they are to the operations, and any regulatory obligations they fall under. This allows resources to be directed against the relationships that contain the most risk.
Risk assessment and due diligence
Effective risk assessment and due diligence enable organizations to understand the unique risks associated with each relationship. This process evaluates vendors’ pre-signature and periodically post-signature. These assessments may include security questionnaires or document reviews, and in some cases, on-site or technical testing. The objective is to discover vendor control gaps that may pose issues for the company.
Contractual security and requirements
These are provisions in contractual agreements that protect the company’s interests. Well-crafted contracts include not only security requirements but also data protection rules, right-to-audit clauses, and clearly outline consequences for failing to meet established standards. They set out expectations and hold third parties accountable who process the data or provide a mission-critical service.
Ongoing monitoring and reassessment
This keeps the organization’s risk information up to date. Where TPRM is effective, it does not wait until contracts are in place to check on vendors, but instead watches for changes that might increase risk. This encompasses monitoring security ratings, financial health indicators, vendor news, and periodic reassessments with frequencies aligned to risk.
Incident response planning
Incident response planning helps organizations plan for issues that arise with third parties. These plans describe the actions to take in the event of a data breach, knowledge mishap, or service interruption that impacts companies directly as the customer of a vendor. This procedure reduces incident damage when incidents happen and makes sure that all response teams are aware of their duty.
Benefits of Effective Third-Party Risk Management
Organizations that implement strong TPRM programs gain advantages beyond basic risk reduction.
Reduced security and compliance incidents
TPRM helps to discover and remediate issues before they cause damage. By recognizing vendor weaknesses and remediating them, they lower the risk of breaches and regulatory violations. By preventing security incidents in the first place, organizations save on the costs and disruptions that can result from carrying out a threat mitigation program from scratch.
Enhanced visibility into extended enterprise risk
It provides leadership with a greater view into responsibilities across the organization. Instead of only seeing internal risks, decision-makers can also see how external relationships have a bearing on the overall risk. Having this broader perspective enables a more informed business decision-making process, alongside a better allocation of security resources.
Improved third-party performance management
Better third-party management performance means vendors serve the organization better. By measuring security and compliance performance in addition to traditional metrics such as costs and delivery times, vendors have added motivation to maintain standards. This elevates the standard of third-party relationships.
Cost efficiencies through standardization
With TPRM, the work to manage vendor work decreases. Standardized TPRM builds uniform processes that can save time and resources instead of the time-consuming, individual methods of working with each relationship. Teams spend less time on routine assessments and more time addressing significant risks.
Strengthened stakeholder confidence
Organizations have control over more extended risks through strengthened stakeholder confidence. Customers, partners, investors, and even regulators have increased trust in the overall risk mitigation when they see companies manage third-party risk well.
Steps to Build a Third-Party Risk Management Framework
The first step to building a TPRM framework is getting support from the leadership team. Leaders need to understand the business rationale for TPRM, such as securing the firm against financial loss, regulatory fines, and reputational harm. This visible support also acts to blunt resistance from teams who may consider TPRM a barrier to vendor engagement.
Establishing a risk assessment methodology injects consistency into the program. This approach outlines how organizations assess vendor risk, what findings are most important to them, and how they remediate different types of findings.
Creating governance structures provides clear ownership of the TPRM activities. That might include specifying roles and responsibilities across departments, establishing approval workflows, and creating committees to review high-risk relationships. Governance systems provide accountability and deter deferring or bypassing crucial steps.
Technology solutions have made TPRM more efficient and effective. With specialized tools, teams can automate questionnaires, track assessment results, capture performance reports from vendors, or any other kind of report. Such systems help to minimize manual effort and human error and enable more insight into the results of the program.
Ensuring staff and vendors understand their TPRM role. Internal teams must understand the assessment tools, how to interpret the results, and when to raise concerns. Companies need vendors to understand what they need from them and how they will be evaluated. Training helps maintain specialized knowledge, as the program continues to evolve.
Metrics and KPIs to Measure TPRM Effectiveness
Measuring program performance provides organizations with insight into their progress and where work is needed.
If an organization’s risk profile changes, it can track it simply using vendor risk scores. Security assessments convert these risk factors into a comprehensive rating for each vendor. This helps companies determine if their program is lowering aggregation risk over time, and identifies managed service vendors that require additional focus.
Program coverage is evaluated with the proportion of assessments completed. Percentage of completed required assessments on time, which indicates the stage/phase of its completion. Low Completion Rate can point to a process issue or a program being under-resourced.
Efficiency is tracked by time taken to complete assessments. It assesses the time taken between initiation and closure of a vendor assessment. Slow assessment periods could delay business projects and create dissatisfaction amongst internal teams and vendors.
Remediation rates are an indication of how well problems are being resolved. It also focuses on the percentage of issues that vendors have successfully addressed in the timeframes agreed upon. Low remediation rates imply that findings are not properly addressed.
Costs of third-party incidents quantify real damages. This includes coverage for incident-related financial losses attributable to third parties, including breach costs, business interruption, and regulatory penalties. Lowering incident costs over time is a sign of an effective TPRM program.
Common TPRM (Third-Party Risk Management) Challenges
Even well-designed TPRM programs face challenges that can limit their effectiveness. Let’s take a look at some of them.
Incomplete visibility of third-party ecosystem
Comprehensive management of ecosystem risk exposure is challenging due to limited visibility into third parties and their extended networks. An even more basic problem is that many organizations don’t have a complete inventory of their vendors and what those vendors provide. This gap usually occurs because of decentralized purchasing, shadow IT, and inadequate record keeping.
Risk assessment scalability issues
Classic assessment methods, such as elaborate questionnaires and on-site assessments, consume substantial time and effort. With the rapid mounting of vendors, teams have run out of steam to continue maintaining assessment quality in tandem with the business demands. This dilemma pushes many organizations to sacrifice quality for speed.
Inconsistent due diligence processes
Unstable due diligence processes provide inconsistent risk coverage. This method of evaluation is often used within the same organization but can be associated differently in different organizations, making the risk signal from such vendors unintegrated and incomparable.
Limited verification capabilities
Low verification capabilities lower the confidence in the assessment outcome. Some organizations take vendor self-assessments and build their practices around the information provided without validating it. Vendors might give wrong answers or exaggerate their security controls.
Resource and expertise constraints
Limitations of available resources and expertise reduce the effectiveness of the programs. Many organizations have a shortage of people with the required skills, resulting in superficial assessments or large backlogs. This is all the more problematic given the technical complexity of modern vendor services.
Third Party Risk Management (TPRM) Best Practices
Organizations should follow some of the best practices below to ensure an effective TPRM program.
Implement a risk-based tiering approach
Use a risk-based tiering approach to focus resources on where they provide the best value. The practice of grouping vendors according to data access levels, service criticality, regulatory impacts, etc. High-risk vendors are subject to deeper assessment and ongoing monitoring, while lower-risk relationships are reviewed with less rigor. It allows the TPRM to be effort-effective due to the correlation between effort and level of risk.
Standardize assessment methodologies
Set up assessment methodologies at the organizational level. Using the same questionnaires, evaluation criteria, and scoring methods across all vendors makes results comparable and easier to analyze. Standardization not only improves cadence on the consulting end but also eases confusion for the vendors that work with various departments within the organization.
Establish clear ownership and governance
Assignment of clear ownership and governance to ensure no gaps in coverage. By assigning ownership across different aspects of the TPRM process, duplication of effort is prevented while making sure nothing gets lost between the cracks. Good governance includes escalation paths for high-risk findings and executive review of the program efficacy.
Leverage automation and technology
Use automation and technology to take care of everyday activities teams need to perform. With current TPRM platforms, organizations can automate the distribution of questionnaires, track responses, calculate risk scores, and generate reports. These tools allow the team to spend time actually analyzing results and working to mitigate key risks, rather than managing documentation.
Develop meaningful metrics and reporting
Set KPIS and reporting that matters. A strong TPRM will report to stakeholders on key metrics that reflect current risk levels and current TPRM effectiveness. The best reports indicate trends and areas needing help without burdening the reader with excessive detail.
Conclusion
In the connected world of modern-day business, third-party risk management has established itself as a critical aspect of how organizations protect themselves. The methods and practices outlined in this article offer a starting point for building risk-reducing yet truly productive TPRM programs. Systematic identification, assessment, and control of third-party risk can help organizations avoid many security and compliance issues upfront.
With the ongoing shift in the business environment towards greater use of external services, sound TPRM will become increasingly critical. Organizations that excel at these will receive better protections as well as greater value from their vendor relationships.
FAQs
Third-Party Risk Management refers to processes and activities that help identify, assess, and manage the risks associated with external organizations such as vendors, suppliers, service providers, and business partners.
TPRM in the context of cybersecurity is all about defending the organization against threats that can make their way in through third-party relationships. This involves investigating how providers manage the data, evaluating their security controls, scrutinizing for breaches or vulnerabilities in their systems, and verifying they comply with security best practices to ensure they do not become an attack gateway.
A TPRM framework helps an organization to strategically define how they are going to manage third-party risks in-house. It encompasses the policies, procedures, roles, tools, and standards they will use to govern their relationships with the vendors.
It involves collecting information on the vendor through the use of questionnaires, documentation reviews, and even on-site visits. Consider this data in comparison to the security and compliance needs. Assess the risk based on these results and the relationship.
It usually involves tons of different teams for third-party risk management. The vendor selection and contracting process is largely led by procurement. Information security determines the technical risk.. Compliance checks are the regulatory requirements. Legal reviews contracts. Operational directions are then fed in by business units that would utilize vendor services.
The risk posed by each relationship is unique, and so should the frequency of the third-party risk review. Others, such as vendors with access to sensitive data or vendors that provide critical services, may require companies to review their performance on a quarterly basis. Vendors with a medium level of risk may be evaluated on a yearly basis.