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Published: 29 May 2024
Contributors: Matthew Finio, Amanda Downie

What is third-party risk management (TPRM)?

Third-party risk management (TPRM) identifies, assesses and mitigates risks associated with outsourcing tasks to third-party vendors or service providers.

In an increasingly interconnected and outsourced world, third-party risk management (TPRM) is an essential business strategy. TPRM identifies and mitigates the risks that organizations face from engaging with external vendors or service providers. These third parties might be involved in various business functions, ranging from IT services and software development to supply chain management and customer support.

The need for TPRM arises from the inherent vulnerabilities associated with third-party relationships. Outsourcing tasks can bring benefits such as cost savings, scalability and access to specialized expertise, but it also exposes organizations to potential issues. TPRM aims to provide organizations with a comprehensive understanding of their third-party business relationships and the safeguards that these vendors employ. This helps prevent problems such as operational disruptions, security breaches and compliance failures.

TPRM is synonymous with terms like vendor risk management (VRM) or supply chain risk management, forming a comprehensive approach to addressing risks across various third-party engagements. It involves universal principles such as due diligence, third-party risk assessment, remediation and ongoing monitoring to ensure that third parties comply with regulations, protect sensitive data, maintain operational resilience and meet environmental, social and governance (ESG) criteria.

Digital risks, a subset of TPRM, encompass financial, reputational, environmental and security concerns. Vendor access to intellectual property, confidential data and personal identifiable information (PII) underscores the importance of TPRM within cybersecurity frameworks and cyber risk management strategies.

No single department universally owns third-party risk management (TPRM); it varies across organizations. Companies might have dedicated TPRM teams or distribute these responsibilities among various roles. Common departments and job titles involved in TPRM include Chief Information Security Officer (CISO), Chief Procurement Officer (CPO), Chief Information Officer (CIO), Chief Privacy Officer (CPO), Information Technology (IT), Supply Chain Manager and others.

Effective TPRM protects organizations from outsourcing risks and builds stronger, more resilient partnerships. Embedding TPRM into their core operations allows companies to leverage external expertise, while maintaining security, compliance and operational integrity. This transforms vulnerabilities into managed risks, enabling secure and compliant growth.

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Why is third-party risk management important?

Third-party risk management (TPRM) is essential because of the significant risks associated with external vendors and service providers. Third-party relationships often involve access to privileged information like customer data and internal systems, making them potential entry points for cyberattacks. The risk extends to fourth parties, which are subcontractors or additional service providers engaged by the third parties. 

Organizations that focus solely on their internal cybersecurity measures without extending these protections to third and fourth parties leave themselves vulnerable to breaches and other security incidents.

TPRM is crucial for several reasons:

Achieving regulatory complianceData privacy and data protection regulations like GDPR and CCPA require organizations to regulate third-party compliance. Breaches at third parties can result in hefty fines and reputational damage for the primary organization, even if that organization is not directly responsible for the breach. 

Driving operational resilience: Third-party disruptions can result in delays, defects and operational challenges. Effective TPRM ensures business continuity by identifying and mitigating these vulnerabilities. This is especially crucial for industries reliant on supply chains, where TPRM helps maintain smooth operations and uphold quality standards.

Managing vendor relationships: Third-party relationships vary in their security standards. TPRM involves thorough due diligence, risk assessments and ongoing monitoring to ensure that vendors adhere to high security and ethical standards.

Mitigating cybersecurity risks: Third parties often have access to sensitive data and internal systems, making them potential entry points for cyberattacks. Robust TPRM extends cybersecurity measures to these external entities and includes data security to protect against breaches and data leaks.

Preserving reputation: The actions of third parties can directly affect an organization's reputation. By managing third-party risks, companies can prevent unethical practices and misconduct that could harm their brand and customer trust.

Protecting business impact: Without proper TPRM, third-party relationships can leave businesses exposed to risks that can have long-lasting impacts on their bottom line. TPRM helps organizations avoid financial losses associated with third-party failures, such as the costs of managing a data breach, legal fees from non-compliance and losses from operational downtime.

Reducing complexity and attack surface: Each third party adds to the organization's attack surface. TPRM reduces complexity by managing the potential vulnerabilities introduced by numerous third-party connections.

By effectively managing third-party risks, businesses can secure their operations and thrive in an interconnected, outsourced environment.

What is the third-party risk management lifecycle?

An effective TPRM lifecycle helps organizations manage third-party risks and create secure, compliant and beneficial vendor relationships. Common TPRM lifecycle phases include:

Phase 1: Vendor discovery

Organizations identify third parties by consolidating existing vendor information, integrating with existing technologies and conducting assessments or interviews with internal business owners. This phase includes building an inventory of the third-party ecosystem and classifying third-party vendors based on the inherent risks they pose to the organization.

Phase 2: Vendor evaluation

Organizations review RFPs and select new vendors based on specific business needs and criteria. This involves assessing risk exposure and may require questionnaires and on-site evaluations to verify the accuracy and effectiveness of their internal security and information security measures. Key factors considered include the vendor's security ratings and posture, compliance with industry standards and overall fit with organizational requirements.

Phase 3: Risk analysis

Organizations conduct thorough risk assessments of selected vendors using various standards (for example, ISO 27001, NIST SP 800-53) to understand potential risks. Some use third-party risk exchanges to access pre-completed assessments, while others employ assessment automation software or spreadsheets.

Phase 4: Risk mitigation

After assessing the risks, organizations conduct risk mitigation. This involves flagging and scoring risks, determining if the risk levels are acceptable within the organization's risk appetite and implementing required controls to reduce risks to acceptable levels. Continuous monitoring is used to identify events that may alter the risk profile, such as data breaches or regulatory changes.

Phase 5: Contract negotiation and onboarding

This phase may overlap with risk mitigation and involves negotiating and finalizing contracts with vendors. Key aspects include making sure that contracts include critical provisions such as confidentiality clauses, NDAs, data protection agreements and service level agreements (SLAs). Contracts should be structured to address key risk management concerns and compliance requirements. Vendors are onboarded by integrating them into the organization’s systems and processes. 

Phase 6: Documentation and reporting

Organizations maintain detailed records of all third-party interactions and risk management activities. Implementing TPRM software can facilitate comprehensive and auditable recordkeeping, enabling better reporting and compliance. 

Phase 7: Continuous monitoring

Continuous monitoring of third-party vendors is crucial as it provides ongoing insights into their security posture and risk levels. Key events to monitor include regulatory changes, financial viability and any negative news that might affect the vendor’s risk profile.

Phase 8: Vendor termination

When terminating vendor relationships, organizations must ensure that all data and assets are securely returned or disposed of and that detailed records of the offboarding process are maintained for compliance purposes. An offboarding checklist can help ensure that all necessary steps are taken.

What are third-party risk management best practices?

Organizations can adopt several best practices for effective TPRM. Here are some key strategies:

Define organizational goals

  • Align TPRM with the organization's overall risk management strategy
  • Create a robust inventory differentiating third parties and identifying necessary protective actions
  • Establish a risk mapping covering multiple areas (financial risk, operational risk, compliance risk, strategic risk, reputational risk and others.)

Get stakeholder buy-in

  • Involve stakeholders early in the process to design and implement the TPRM program effectively
  • Ensure the executive team is aware of and aligned with all third-party risks
  • Ensure cooperation from all relevant parties (risk and compliance, procurement, security and commercial teams)
  • Avoid siloed approaches by having a comprehensive strategy that includes input from all relevant departments

Establish a TPRM program

  • Develop a programmatic approach with a governance structure for consistent and repeatable risk management processes. Regular webinars, for example, can keep involved parties informed and updated.
  • Tailor the third-party risk management program to the organization's specific regulatory, data protection and risk tolerance requirements

Maintain an accurate vendor inventory

  • Implement strategies to keep an up-to-date inventory of all third parties
  • Ensure comprehensive visibility into the third-party landscape to manage security risks effectively

Prioritize vendors

  • Segment vendor inventory into tiers based on their risk and criticality
  • Focus resources on high-risk vendors for more stringent due diligence and ongoing monitoring

Assess security during the contracting process

  • Conduct security assessments on third-party vendors during procurement, not just at the end of negotiations
  • Integrate security requirements into contracts early to ensure compliance and mitigate risks before agreements are finalized

Look beyond cybersecurity

  • Address various types of risks, not just cybersecurity
  • Consider reputational, geographical, geopolitical, strategic, financial, operational, privacy, compliance, ethical, business continuity, performance and environmental risks
  • Understand all relevant risks to build a comprehensive TPRM program

Automate processes by using TPRM software

  • Automate repetitive TPRM processes to improve efficiency. TPRM software can streamline processes such as:
  • Vendor onboarding and risk assessment
  • Assigning mitigation tasks and conducting performance reviews
  • Sending notifications and generating reports

Implement continuous monitoring:

  • Enable continuous monitoring to assess third-party risks in real time
  • Use automated tools to detect security and compliance issues promptly
  • Maintain a constant view of the third-party risk landscape to proactively address changes
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