Contact us!
Have a question? Contact us!
I agree the Terms of Service
ESG in China 2022
September 4, 2022
i. ESG in China
ESG emerged relatively late in China: ESG investment began to appear around 2015 and initially developed slowly. However, following the introduction of China’s carbon peaking and carbon neutrality goals, ESG development accelerated as public interest in clean energy, the green economy — and the green finance derived from it — and sustainable development increased sharply.
ESG issues of concern to Chinese society draw on international experience while also incorporating distinct local characteristics, including the dual-carbon policy, rural revitalization, common prosperity and population aging.
The Significance of ESG and Its Implications for Chinese Companies
Why is ESG becoming increasingly important? ESG is not only an ethical approach to “doing well by doing good,” but also a response to changing perceptions of value in society, which increasingly considers companies’ environmental, social, financial and corporate governance performance.
Several studies have shown that corporate ESG performance — and the sustainable development value it represents — is positively correlated with business performance and investment value. An empirical study based on a sample of A-share-listed companies also demonstrated that the implementation of ESG practices can significantly improve corporate performance and innovation.
In addition, shares of companies with higher ESG quality tend to have lower volatility and lower beta coefficients — i.e. lower systematic risk — compared with shares of companies with lower ESG quality, while the cost of capital is also generally lower.
Given the growing importance of ESG, Chinese companies — particularly those that have internationalized or are in the process of internationalizing their operations — are likely to accelerate ESG implementation in at least the following areas:
1. Investment and Financing
As investment institutions, companies are considering accelerating the integration of ESG into investment analysis and decision-making processes, reflecting portfolio companies’ ESG performance across all stages, including due diligence, valuation, transaction documentation, post-investment management and monitoring improvements in ESG quality.
Portfolio company executives, in turn, are changing their understanding of how value is created. Depending on their specific circumstances, companies are making efforts in areas such as environmental protection, energy efficiency, clean energy, green transportation and green buildings in order to gain access to additional financial support through green finance.
2. Disclosure by Listed Companies
Within the ESG ecosystem, regulators typically use ESG disclosure requirements as a tool to promote and regulate corporate ESG practices. Listed companies are among the primary targets of ESG disclosure regulation.
The Hong Kong Stock Exchange has mandatory ESG reporting requirements for listed companies, while the CSRC (China Securities Regulatory Commission), SSE (Shanghai Stock Exchange) and SZSE (Shenzhen Stock Exchange) primarily encourage listed companies to disclose ESG information. Mandatory disclosure requirements apply to certain industries and types of companies with respect to environmental and social responsibility.
It is worth noting that the CSRC Guidelines for Investor Relations Management of Listed Companies, issued on April 11, 2022 and effective from May 15, 2022, added listed companies’ ESG information to the scope of communication between listed companies and investors.
Moreover, Fang Xinghai, Vice Chairman of the CSRC, stated at the 2022 Boao Forum annual conference that “developing mandatory disclosure guidelines in China is the next step that needs to be taken.”
Against this background, Chinese companies that have already listed or plan to list in Hong Kong or on the A-share market are preparing for mandatory implementation and disclosure of ESG principles.
3. Corporate Governance Optimization
Among the three dimensions of ESG, governance plays the central role in addressing a company’s internal responsibilities, whereas environmental and social issues primarily relate to its external responsibilities.
Boards of directors should understand ESG concepts and practices and how to mitigate the associated risks, including, but not limited to, board independence, diversity of board composition, establishment of specialized committees and other measures.
They should also consider ownership structure — depending on whether ownership is dispersed, concentrated or balanced — allocation of shareholder risks, related-party transactions, the supervisory role of shareholders, protection of minority and medium-sized shareholders, and other governance issues.
4. Supply Chain Management
ESG supply chain management adds new elements to traditional supply chain management. It requires companies to maximize supply chain efficiency and effectiveness while reducing potential environmental, human-rights and other risks.
For example, the so-called U.S. Uyghur Forced Labor Prevention Act requires importers to conduct due diligence and implement effective supply chain traceability and management measures to ensure that products are not associated with so-called “forced labor.”
Germany’s Supply Chain Act (Lieferkettengesetz) requires German companies — including companies established in Germany by foreign enterprises — to assess their entire supply chains, including suppliers of German companies in China, for compliance with certain human-rights and environmental standards. Otherwise, the maximum fine for a single violation may reach 2% of annual global turnover.
5. ESG Litigation
As ESG concepts and practices continue to develop rapidly worldwide and ESG disclosure rules become more stringent, companies should become more aware of potential ESG-related litigation.
This includes, but is not limited to, claims arising from supply chain management issues, greenwashing, directors’ failure to fulfill ESG-related fiduciary duties and other matters.
ii. Identifying Material ESG Issues 1. Why Identifying Material Issues Is ImportantAs noted above, ESG is comprehensive, but every company is different. There is therefore no single set of ESG issues that can be applied to all companies.
Instead, companies need to identify the issues most relevant to their businesses and operations, as well as the risks and opportunities those issues create. They can then implement and improve ESG practices in a targeted manner from the perspectives of value creation, disclosure and governance optimization, as described in Section I.
2. How to Identify Material Issues
International organizations such as GRI and the Sustainability Accounting Standards Board (SASB) are currently among the main standard setters for identifying and disclosing ESG issues.
For example, 59.6% of A-share-listed companies refer to GRI criteria, while more than two-thirds of companies worldwide that publish ESG reports also use GRI criteria.
In addition, on June 1, 2022, China officially implemented the Guidelines for Corporate ESG Disclosure, developed by the China Enterprise Reform and Development Society together with the Capital University of Economics and Business and dozens of companies involved in drafting the standard, including China Energy Investment Corporation, China Mobile and Ant Group.
The Guidelines are China’s first group standard for corporate ESG disclosure. They localize the identification of material ESG issues and provide a framework for Chinese companies to determine their key ESG issues in the context of China’s national conditions.
(a) GRIThe first edition of the GRI 2021 Standards, representing a comprehensive update of the 2016 edition, was published in October 2021 and was scheduled to take effect on January 1, 2023.
It consists of three sections:
(b) Guidelines for Corporate ESG DisclosureThe Guidelines for Corporate ESG Disclosure consist of a system of primary, secondary, tertiary and quaternary indicators.
The primary indicators cover the environmental, social and governance dimensions — 3 indicators.
The secondary indicators — 10 — and tertiary indicators — 35 — are based on ESG theory, Chinese laws, regulations and standards.
The quaternary indicators — 118 — represent specific methods for measuring and evaluating the tertiary indicators.
For example, they may include such an important issue as “response to national strategies,” which specifically assesses how a company responds to national strategies including rural revitalization, common prosperity and the dual-carbon policy.
It is worth noting that because companies and their stakeholders can change over time, and ESG itself is dynamic, identifying key ESG issues is not a one-time or static exercise. It is a continuous and dynamic process.
3. Case Studies
We selected A-share-listed companies from several industries — energy, finance, high technology and new-energy batteries — and classified them based on their disclosed 2021 ESG reports as follows.
Based on the examples above and our practical experience, we can draw the following conclusions:
1) A larger number of companies refer to the GRI Standards and their methodology while also taking into account stock exchange rules and requirements imposed by government authorities, where applicable, or by industry associations.
2) The identification of material ESG issues may vary depending on several key factors:
Different Industries
For example:
Different Stages of Corporate DevelopmentFor example, small and medium-sized enterprises tend to focus more on economic efficiency.
Different International Business Exposure
For example, companies with significant U.S. or EU involvement are more likely to focus on supply chain management issues.
Each individual analysis should be adapted to the company’s actual circumstances, particularly the situation of its stakeholders.
ConclusionThe broad potential applications of ESG, its close alignment with China’s dual-carbon and sustainable development strategies, and the significant influence of ESG concepts and practices on sustainable development, business performance and valuation will make ESG an increasingly important issue that every company will need to address as part of its business management.
In the coming weeks, we will publish a series of articles on ESG in China. Interested readers are also invited to discuss these issues directly with us.
Who Cares Wins: Those who act first, win first.
ESG emerged relatively late in China: ESG investment began to appear around 2015 and initially developed slowly. However, following the introduction of China’s carbon peaking and carbon neutrality goals, ESG development accelerated as public interest in clean energy, the green economy — and the green finance derived from it — and sustainable development increased sharply.
ESG issues of concern to Chinese society draw on international experience while also incorporating distinct local characteristics, including the dual-carbon policy, rural revitalization, common prosperity and population aging.
The Significance of ESG and Its Implications for Chinese Companies
Why is ESG becoming increasingly important? ESG is not only an ethical approach to “doing well by doing good,” but also a response to changing perceptions of value in society, which increasingly considers companies’ environmental, social, financial and corporate governance performance.
Several studies have shown that corporate ESG performance — and the sustainable development value it represents — is positively correlated with business performance and investment value. An empirical study based on a sample of A-share-listed companies also demonstrated that the implementation of ESG practices can significantly improve corporate performance and innovation.
In addition, shares of companies with higher ESG quality tend to have lower volatility and lower beta coefficients — i.e. lower systematic risk — compared with shares of companies with lower ESG quality, while the cost of capital is also generally lower.
Given the growing importance of ESG, Chinese companies — particularly those that have internationalized or are in the process of internationalizing their operations — are likely to accelerate ESG implementation in at least the following areas:
1. Investment and Financing
As investment institutions, companies are considering accelerating the integration of ESG into investment analysis and decision-making processes, reflecting portfolio companies’ ESG performance across all stages, including due diligence, valuation, transaction documentation, post-investment management and monitoring improvements in ESG quality.
Portfolio company executives, in turn, are changing their understanding of how value is created. Depending on their specific circumstances, companies are making efforts in areas such as environmental protection, energy efficiency, clean energy, green transportation and green buildings in order to gain access to additional financial support through green finance.
2. Disclosure by Listed Companies
Within the ESG ecosystem, regulators typically use ESG disclosure requirements as a tool to promote and regulate corporate ESG practices. Listed companies are among the primary targets of ESG disclosure regulation.
The Hong Kong Stock Exchange has mandatory ESG reporting requirements for listed companies, while the CSRC (China Securities Regulatory Commission), SSE (Shanghai Stock Exchange) and SZSE (Shenzhen Stock Exchange) primarily encourage listed companies to disclose ESG information. Mandatory disclosure requirements apply to certain industries and types of companies with respect to environmental and social responsibility.
It is worth noting that the CSRC Guidelines for Investor Relations Management of Listed Companies, issued on April 11, 2022 and effective from May 15, 2022, added listed companies’ ESG information to the scope of communication between listed companies and investors.
Moreover, Fang Xinghai, Vice Chairman of the CSRC, stated at the 2022 Boao Forum annual conference that “developing mandatory disclosure guidelines in China is the next step that needs to be taken.”
Against this background, Chinese companies that have already listed or plan to list in Hong Kong or on the A-share market are preparing for mandatory implementation and disclosure of ESG principles.
3. Corporate Governance Optimization
Among the three dimensions of ESG, governance plays the central role in addressing a company’s internal responsibilities, whereas environmental and social issues primarily relate to its external responsibilities.
Boards of directors should understand ESG concepts and practices and how to mitigate the associated risks, including, but not limited to, board independence, diversity of board composition, establishment of specialized committees and other measures.
They should also consider ownership structure — depending on whether ownership is dispersed, concentrated or balanced — allocation of shareholder risks, related-party transactions, the supervisory role of shareholders, protection of minority and medium-sized shareholders, and other governance issues.
4. Supply Chain Management
ESG supply chain management adds new elements to traditional supply chain management. It requires companies to maximize supply chain efficiency and effectiveness while reducing potential environmental, human-rights and other risks.
For example, the so-called U.S. Uyghur Forced Labor Prevention Act requires importers to conduct due diligence and implement effective supply chain traceability and management measures to ensure that products are not associated with so-called “forced labor.”
Germany’s Supply Chain Act (Lieferkettengesetz) requires German companies — including companies established in Germany by foreign enterprises — to assess their entire supply chains, including suppliers of German companies in China, for compliance with certain human-rights and environmental standards. Otherwise, the maximum fine for a single violation may reach 2% of annual global turnover.
5. ESG Litigation
As ESG concepts and practices continue to develop rapidly worldwide and ESG disclosure rules become more stringent, companies should become more aware of potential ESG-related litigation.
This includes, but is not limited to, claims arising from supply chain management issues, greenwashing, directors’ failure to fulfill ESG-related fiduciary duties and other matters.
ii. Identifying Material ESG Issues 1. Why Identifying Material Issues Is ImportantAs noted above, ESG is comprehensive, but every company is different. There is therefore no single set of ESG issues that can be applied to all companies.
Instead, companies need to identify the issues most relevant to their businesses and operations, as well as the risks and opportunities those issues create. They can then implement and improve ESG practices in a targeted manner from the perspectives of value creation, disclosure and governance optimization, as described in Section I.
2. How to Identify Material Issues
International organizations such as GRI and the Sustainability Accounting Standards Board (SASB) are currently among the main standard setters for identifying and disclosing ESG issues.
For example, 59.6% of A-share-listed companies refer to GRI criteria, while more than two-thirds of companies worldwide that publish ESG reports also use GRI criteria.
In addition, on June 1, 2022, China officially implemented the Guidelines for Corporate ESG Disclosure, developed by the China Enterprise Reform and Development Society together with the Capital University of Economics and Business and dozens of companies involved in drafting the standard, including China Energy Investment Corporation, China Mobile and Ant Group.
The Guidelines are China’s first group standard for corporate ESG disclosure. They localize the identification of material ESG issues and provide a framework for Chinese companies to determine their key ESG issues in the context of China’s national conditions.
(a) GRIThe first edition of the GRI 2021 Standards, representing a comprehensive update of the 2016 edition, was published in October 2021 and was scheduled to take effect on January 1, 2023.
It consists of three sections:
- Universal Standards
- Sector Standards — standards addressing material issues had already been published for the oil and gas industry, coal industry, agriculture and fisheries
- Topic Standards — 32 topics including emissions, procurement practices, employment and others
(b) Guidelines for Corporate ESG DisclosureThe Guidelines for Corporate ESG Disclosure consist of a system of primary, secondary, tertiary and quaternary indicators.
The primary indicators cover the environmental, social and governance dimensions — 3 indicators.
The secondary indicators — 10 — and tertiary indicators — 35 — are based on ESG theory, Chinese laws, regulations and standards.
The quaternary indicators — 118 — represent specific methods for measuring and evaluating the tertiary indicators.
For example, they may include such an important issue as “response to national strategies,” which specifically assesses how a company responds to national strategies including rural revitalization, common prosperity and the dual-carbon policy.
It is worth noting that because companies and their stakeholders can change over time, and ESG itself is dynamic, identifying key ESG issues is not a one-time or static exercise. It is a continuous and dynamic process.
3. Case Studies
We selected A-share-listed companies from several industries — energy, finance, high technology and new-energy batteries — and classified them based on their disclosed 2021 ESG reports as follows.
Based on the examples above and our practical experience, we can draw the following conclusions:
1) A larger number of companies refer to the GRI Standards and their methodology while also taking into account stock exchange rules and requirements imposed by government authorities, where applicable, or by industry associations.
2) The identification of material ESG issues may vary depending on several key factors:
Different Industries
For example:
- Energy companies are more likely to focus on issues such as energy use, energy transition and environmental protection.
- Financial institutions are more likely to focus on topics with financial characteristics, such as financial inclusion, green finance and support for the real economy.
- Consumer-oriented companies, such as those in real estate, are more likely to focus on customer experience.
- Technology-intensive companies are more likely to focus on topics such as research and development (R&D) and information security.
Different Stages of Corporate DevelopmentFor example, small and medium-sized enterprises tend to focus more on economic efficiency.
Different International Business Exposure
For example, companies with significant U.S. or EU involvement are more likely to focus on supply chain management issues.
Each individual analysis should be adapted to the company’s actual circumstances, particularly the situation of its stakeholders.
ConclusionThe broad potential applications of ESG, its close alignment with China’s dual-carbon and sustainable development strategies, and the significant influence of ESG concepts and practices on sustainable development, business performance and valuation will make ESG an increasingly important issue that every company will need to address as part of its business management.
In the coming weeks, we will publish a series of articles on ESG in China. Interested readers are also invited to discuss these issues directly with us.
Who Cares Wins: Those who act first, win first.
Our Clients
Research | Technology Transfer | China | Scouting | LP in China
Research | Technology Transfer | China | Scouting | LP in China
