Why ESG reporting is important for HK firms

April 30, 2019 16:14
The Hong Kong stock exchange has made it compulsory for companies to release details about how they are addressing environmental, social and governance issues. Photo: AFP

Hong Kong has just been through the earnings season, the period when many listed companies announce their previous year’s financial results. It is a routine many of us are familiar with: accountants and auditors finalize the details, a board meeting officially accepts them, press releases are sent out, and soon after the annual report is published.

In Hong Kong, as elsewhere, the regulatory authorities are extending the range of information companies must disclose as a part of this exercise. In particular, they are requiring corporate management to compile and release details about how companies are addressing environmental, social and governance (ESG) issues.

In 2016, Hong Kong’s stock exchange made it compulsory for companies to release details on these three areas. The environmental category includes things like the company’s energy efficiency and the quantity of its carbon emissions. Social impact covers impact on the community and stakeholders like suppliers, employees and customers. And governance covers top management oversight, business ethics and even things like the company’s policy on whistleblowers.

Surveys have suggested that some companies are taking these requirements seriously. I think many senior managers find ESG reporting useful as it forces them to ask how the business might be affecting the wider world.

But the same surveys show that others (especially smaller companies) take a “box-ticking” approach just to comply with the rules. In a way, this is understandable. Not all ESG issues are relevant to every company. For example, some environmental issues would only apply to natural resources companies or manufacturers – not financial services companies.

The fact is that not everyone in the corporate world is convinced there is a purpose to ESG reporting.

A recent review by Our Hong Kong Foundation might make management think otherwise. The report makes the point that in the long term, the creation of shareholder value will increasingly be linked with a company’s treatment of a wide range of stakeholders and the environment.

This is not news. The “G” in ESG stands for governance. I think most senior management teams understand that potential investors are increasingly concerned about management transparency, internal controls and overall corporate governance. The rise of shareholder activists in recent years has led to far greater awareness of governance issues.

We are now seeing something similar happen in the environmental and social responsibility areas.

For example, it should be clear that companies face direct potential risks from environmental issues like climate change. Indeed, many business premises in Hong Kong’s main commercial districts are directly vulnerable to such effects as flooding and landslides. Many of the neighborhoods where their employees live are probably also exposed. At a very basic level, therefore, the rising incidence of extreme weather poses a business continuity risk for many Hong Kong companies, as well as liability, asset-revaluation and other risks.

Climate change of course threatens more than just individual localities or cities – it is a worldwide phenomenon. International pressure is growing on whole industries to take action. This is not just about energy or transport companies. For example, the financial sector is increasingly expected to play a part in ensuring that capital markets encourage green investment projects.

The Our Hong Kong Foundation report identifies several problems with Hong Kong ESG reporting. As well as “box-ticking”, companies have trouble identifying ESG risks and conducting materiality assessments. Because of this, and other reasons, the quality of ESG reports is uneven.

The Foundation’s report makes a number of recommendations. Some are fairly modest, like allowing companies to focus on the items that are most relevant to their own sector. Others could be controversial. One is that the stock exchange should allow other recognized international ESG reporting frameworks to be used alongside the local one. Another is that government should subsidize independent assurance costs (like external auditing) to encourage companies to deepen ESG reporting.

The report’s authors also recommend various measures to encourage asset managers, MPF funds and public bodies to integrate ESG factors into investment policies.

Not everyone will agree with all of these – like many such reports, the idea is to put forward ideas and invite discussion.

The essential point is that other jurisdictions are moving in this overall direction. And institutional investors are increasingly under pressure to consider ESG compliance when picking bonds and stocks for their portfolios.

If Hong Kong companies want to attract investors – and if the city wants to consolidate its position in activities like fund management – we need to think more seriously about these ideas.

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Executive Council member and former legislator; Hong Kong delegate to the National People’s Congress