Published on: Nov 21, 2020
How to Manage Vendor and Third-Party Risk Effectively
Outsourcing business operations from vendors and third parties is the new norm. It not only saves organizations money but also increases their operational efficiency. Beyond this horizon however, vendors and third parties have risk attached to them. In this article we will cover different types of vendor risk and how to mitigate them.
What's the Difference Between Vendor and Third-Party Risk Management?
Vendors and third-parties typically pose various risks to organizations as they may have access to critical areas within the business including: business operations, finance & customer information, intellectual property, data, critical systems, and other enterprise information.
Vendor Risk Management (VRM)
Vendor Risk Management (VRM) entails the process that organizations use to assure that vendor products do not lead to any type of loss. It involves assessing and vetting all partners, vendors, and suppliers to make sure they meet company expectations, and regulatory conditions. As part of the VRM process, these conditions along with any contractual obligations are specified and include information security and compliance requirements.
While it might seem daunting to apply these processes and best practices to every vendor in your ecosystem, a risk-based approach can make the task manageable and effective. Start by categorizing or ranking your vendors according to the level of risk they pose to your organization’s objectives. For example, focus more attention and resources on vendors who access sensitive data, such as those handling customer financial information or personal data, by conducting regular or even continuous monitoring. On the other hand, vendors who pose lower risks, like a training platform with limited or no access to customer or employee data, may require less frequent reviews.
This risk-based categorization not only streamlines your VRM process but also ensures your efforts are aligned with your organization’s overall information security and risk management strategies.
Third-Party Risk Management (TPRM)
TPRM on the other hand, is concerned with risks that may arise from all external entities that an organization conducts business with, such as partners, government agencies and charities as well as all vendors. TPRM is an extension of VRM that can be applied to all external parties an organization interacts with.
Vendors and third-parties typically pose various risks to organizations as they may have access to critical areas within the business including: business operations, finance & customer information, intellectual property, data, critical systems, and other enterprise information.
What Are the Types of Risks That Come From Third-Parties?
Operational Risk
Is risk of loss resulting from sub-par or failed internal processes, people, and systems or from external events. For instance, a downed management system, a software vendor being hacked or natural disasters such as the recent pandemic all pose a significant risk to the supply chain.
Regulatory Risk
Is risk that arises from violations of laws, rules, or regulations or from noncompliance with internal policies or procedures. This risk exists when the products or operations of a vendor are not aligned with governing regulations or ethical standards.
Reputational Risk
Is risk that arises from negative public opinion. Dissatisfied clients, inappropriate interactions, bad recommendations, legal violations, and security breaches could all seriously harm an organization's reputation among its customers and competitors.
Strategic Risk
Is risk that can be created from adverse business decisions, or a failure to implement appropriate decisions in a way that aligns with the company's strategic goals.
Financial Risk
Risk that a vendor or third party could damage monetary gains. For example, the company could fail to meet revenue goals after a contractor manufactured a defective part.
A Guiding Framework for Vendor/Third-Party Risk Management
A comprehensive vendor/third-party risk management process is more than simply identifying risks, it establishes a systematic approach to due diligence and maintaining continuous oversight over risks. This means:
Thorough Due Diligence: Assessing potential vendors before onboarding, reviewing their security controls, financial stability, and regulatory compliance.
Ongoing Monitoring: Regularly evaluating vendors throughout the relationship, not just at the start. This can involve periodic assessments, real-time monitoring of critical vendors, and updating risk profiles as business or regulatory environments change.
Oversight of Commitments: Ensuring that vendors adhere to contractual obligations, service-level agreements, and compliance requirements.
Minimizing Risks: Implementing controls and response procedures to address any issues that arise from third-party engagements, reducing the likelihood of negative impacts on the organization.
Existing Solutions for Mitigating & Managing Vendor Risk
For effective vendor risk mitigation and management, organizations require clear understanding of vendor risks. They also need to set up appropriate proactive measures and solutions. The common risk-based approach assesses the vendors and identifies potential threats and allows for oversights.
A risk-based approach is particularly useful when dealing with a large vendor ecosystem. Not all vendors pose the same level of risk. So, rather than applying the same scrutiny across the board, organizations can categorize or rank vendors according to their potential impact on business objectives. High-risk vendors, such as those with access to sensitive customer data or critical systems, should be prioritized for regular or even continuous monitoring. On the other hand, vendors with limited access, like a training platform that stores minimal or no customer or employee data, may require less frequent assessment.
This tiered method not only helps organizations focus resources where they are most needed, but also ensures that vendor oversight aligns with broader information security risk management objectives. By tailoring monitoring efforts based on potential risk, organizations can maintain a practical, effective, and scalable vendor risk management program.
The common risk-based approach assesses the vendors and identifies potential threats and allows for oversights. Existing solutions include the following.
In-House Teams
Qualified personnel in an organization can undertake the process of vendor risk management. The personnel are responsible for implementing best practices for mitigating and managing the risks effectively. They can come up with a VRM program to evaluate, monitor and manage the risks. In addition, they should be able to do thorough planning, due diligence, vendor identification, monitoring, and assessment, contractual obligations, plan remediation process, among other implementations.
Part of this process is prioritizing due diligence when selecting vendors and third parties. This means evaluating potential vendors’ security practices, financial stability, regulatory compliance, and overall reliability before any agreements are made.
By establishing clear vendor selection criteria aligned with the organization’s risk tolerance and objectives, in-house teams can ensure that only trustworthy and capable partners are brought onboard. This proactive approach allows organizations to better anticipate potential risks and make informed decisions throughout the vendor lifecycle.
A key part of an effective VRM program is ongoing monitoring of third-party vendors. This monitoring should be tailored to the risk level posed by each vendor and can include a range of activities such as:
Reviewing annual SOC 2 reports (type 1 or type 2) to assess the vendor’s overall security posture and ensure that audit scopes and findings align with your organization’s requirements.
Utilizing continuous monitoring tools to detect early warning signs of compromise or other risks.
Reconciling output reports and performing regular discussions with the third party to stay current on any changes or issues.
Conducting periodic site visits to the vendor’s premises.
Testing controls at the third party, often through your internal audit team.
Monitoring external communications, such as customer complaints or public feedback related to the vendor.
Re-administering vendor security questionnaires at regular intervals.
Regular reviews and communication are critical, especially when there are significant changes to the services or operations provided by the vendor. By combining these practices, organizations ensure a comprehensive approach to risk management, strengthening their overall security and compliance posture.
Software
Vendor risk management software speeds up the VRM process and can be part of or integrated with an organization's governance, risk, and compliance platform. VRM software improves operational efficiency as they identify threats faster and reduce risk exposure.
VRM tools help manage vendor risks by identifying, tracking, monitoring, mitigating, and providing insights in a real-time manner. The tools can also be used to confirm if the organization is compliant with regulations and policies. Generally, they are time and cost-effective due to automation.
Consultants
Outsourcing VRM can be beneficial as compared to using in-house personnel. This can be the case especially when an organization's VRM has become complicated due to many vendors and regulatory requirements. Consultants provide a more cost-effective approach from their expertise. They can also increase an organization's VRM program efficiency. That said, organizations should keep in mind that consultants are third parties, and associated risks can erode their value.
Managing Vendors & Third Parties
Vendor and third-party risk management enables organizations to assess risk and protect themselves while meeting regulatory requirements. Undesired risk outcomes can lead to significant monetary loss and damage to an organization's reputation.
A strong, well-documented vendor risk management policy is the foundation for these practices. Resources from organizations like NIST and SANS can offer helpful templates when designing or refining your approach.
Effective risk management mitigates risks, improves decision making, protects assets, and optimizes operational efficiency for market competitiveness. What's more, it instils proper data management and improves cyber security capabilities within the organization.
Common Contractual Agreements for Data Sharing
When sharing sensitive data with vendors or other third parties, using the right contractual agreements is essential to make sure data remains secure and that both sides understand their responsibilities. There are a few key types of agreements you’ll likely encounter:
Business Associate Agreements (BAAs): Frequently used in regulated industries like healthcare, BAAs set clear expectations for how a vendor handles protected information. They outline requirements for data safeguarding, who can access the data, and how it must be deleted or returned at the end of the relationship.
Data Processing Agreements (DPAs): These contracts come into play when multiple parties jointly decide how and why personal data is processed. DPAs clarify the responsibilities of each party including who ‘owns’ the data, who can access it, and how compliance with regulations like the GDPR is guaranteed. This helps prevent confusion and disputes about accountability if something goes wrong.
Standard Contractual Clauses (SCCs): When data needs to cross borders, especially from the EU to other countries, SCCs provide a legal framework to maintain data protection standards. These are standardized terms approved by regulators, ensuring data transferred internationally receives protections comparable to those provided at home.
Selecting the right agreement depends on the nature of the data relationship. BAAs are best for situations where one party processes data on behalf of another within a specific regulatory context. DPAs are necessary when there’s shared control or joint decision-making about the data. SCCs are vital whenever personal data moves internationally and local protections need to be maintained.
Selecting the Right Agreement for Data Sharing
When sharing information with vendors or third parties, it's essential to have the right legal agreements in place to ensure data is handled appropriately and in compliance with relevant laws. The exact type of agreement depends on the nature of the relationship and the kind of data being exchanged.
Business Associate Agreements (BAAs): These are typically required when dealing with healthcare information in the United States, such as under HIPAA regulations. If your organization entrusts a service provider to process sensitive health data on your behalf, a BAA will spell out requirements regarding data protection, allowed uses, and responsibilities in case of a breach.
Data Processing Agreements (DPAs): DPAs are critical when a vendor is processing personal data on your behalf, especially under frameworks like the GDPR. These agreements clearly define who owns the data, what the processor can and can't do with it, and ensure both parties are accountable for maintaining compliance with data protection obligations.
Standard Contractual Clauses (SCCs): If your data needs to cross international borders, especially outside the European Economic Area, SCCs are often the required standard. These clauses set consistent requirements for data protection and provide the necessary safeguards to ensure personal data receives equivalent protection abroad as it would at home.
To choose the right agreement, closely consider:
The nature of the data being shared (e.g., healthcare, financial, personal data)
The location of your vendor or third-party (domestic versus international)
The regulatory environment (e.g., HIPAA, GDPR)
Whether the arrangement involves joint responsibility for data, or if data is simply being processed on your behalf
Aligning your contract with the specifics of your data-sharing scenario will help minimize compliance risk and ensure clarity in roles and responsibilities.
Frequency of Vendor Monitoring Based on Risk Level
The frequency with which vendors should be monitored largely depends on the level of risk they pose to your organization. A risk-based approach is essential here. Vendors with greater access to sensitive or critical information, such as personal customer data or core business systems, require more frequent and vigilant monitoring. For example, frequent reviews, sometimes quarterly or even continuous real-time monitoring, are recommended for cloud storage providers, payment processors, or partners with deep system integrations.
On the other hand, vendors that present minimal risk, such as those providing generic training materials or basic supplies with no access to sensitive operations or data, can be monitored on an annual or semi-annual basis. This tiered approach helps ensure resources are focused on the most significant risks without overburdening your in-house teams. Overall, vendor monitoring frequencies should always be mapped back to your company’s defined risk profile and overall information security objectives.
Monitoring Emerging Technologies and Associated Risks
When it comes to emerging technologies, organizations should recognize that innovation can introduce new types of risks into their vendor ecosystem. As technologies like artificial intelligence, cloud services, blockchain, and Internet of Things (IoT) solutions become integrated into business operations, the potential attack surface and compliance challenges can increase.
To effectively monitor these technological shifts, organizations should:
Continuously Assess Risks: Proactively evaluate how new technology adoption by vendors could impact security, privacy, and regulatory requirements. For example, using a third-party AI provider may have different data handling risks compared to traditional vendors.
Engage in Collaborative Oversight: Work closely with vendors to understand their approach to managing and securing innovative solutions. Open dialogue allows organizations to spot weaknesses early and require proper safeguards.
Update VRM Processes: Ensure existing vendor risk management procedures accommodate assessments for new technology-specific risks, such as machine learning model transparency or cloud-specific vulnerabilities.
Leverage Established Frameworks: Refer to globally-recognized standards and guidelines—for instance, NIST’s Cybersecurity Framework or ISO/IEC 27001—when guiding vendor assessments involving novel technologies.
Ongoing Training and Awareness: Equip internal teams with current knowledge regarding the risks and controls relevant to the latest technology trends.
Staying informed as technologies evolve helps organizations avoid being blindsided by risks, while allowing them to responsibly harness innovation.
Fostering a Culture of Risk Awareness
Building a robust vendor risk management program goes beyond policies and procedures, it requires a company-wide commitment to risk awareness. Organizations can encourage this culture by providing ongoing training to ensure that staff at every level understand the impact of vendor-related risks and their own responsibilities in mitigating them.
This training could include:
Regular workshops about current vendor threats (think: the latest phishing attacks or high-profile breaches like those at Target or SolarWinds).
Simulated risk scenarios to help employees recognize red flags early.
Clear communication of expectations regarding vendor dealings and risk reporting.
Leaders should also communicate the importance of vendor risk management in protecting everything from company finances to brand reputation. Encouraging open dialogue where employees feel comfortable reporting potential issues helps create a sense of accountability across departments.
With this kind of widespread buy-in, risk management shifts from a specialized function to a shared responsibility, making the entire organization more resilient.
Staying Compliant with Data Protection & Privacy Regulations
To keep up with the ever-changing landscape of data protection and privacy laws, it's essential for organizations to take a proactive and dynamic approach. Here are some practical steps:
Monitor Regulatory Changes: Assign a dedicated team or resource to stay up to date with regional and global regulations such as GDPR, CCPA, and others. This helps organizations anticipate changes and adjust policies accordingly.
Review VRM Processes Regularly: Establish a schedule to revisit and revise your vendor risk management protocols in response to new or updated legal requirements. This ensures your practices remain compliant and effective.
Tailor Compliance for Multiple Jurisdictions: Since vendors may operate across borders, ensure your risk management framework considers the nuances of international laws and adapts controls as necessary.
Continuous Training: Provide staff with ongoing training about compliance obligations and data protection best practices. Well-informed personnel are better equipped to identify and address potential compliance issues.
By regularly refining your risk management strategies, organizations can better manage compliance risks and avoid costly regulatory penalties.
