Is Chinese business on the cusp of a ‘leapfrog moment’ in ESG reporting?

China’s ambition to reach peak carbon before 2030 and achieve carbon neutrality by 2060 will require Chinese companies to start transitioning to a lower-carbon business model today. Corporate reporting of a complete set of environmental, social and governance (ESG) metrics, including making emission data visible and comparable, will be a key ingredient to help regulators make timely policy decisions, guide capital flows, and enable customers to make informed decisions.

ESG reporting is now a global trend. Assets under management (AUM) by signatories to the United Nations Principles for Responsible Investment (PRI) surpassed $100 trillion in 2020, an increase of 75% on 2015. In China, ESG queries from investors have increased noticeably in the past two years. But how quickly is the transition to ESG measurement and reporting occurring in Chinese companies, and what are the barriers and opportunities to embed ESG strategies and solutions in the mainstream of Chinese business practices?

To answer these questions, the World Economic Forum brought together Chinese business leaders, senior executives and ESG practitioners over the past nine months to explore the state of ESG reporting in China and map the key opportunities and challenges for Chinese companies and investors moving forward. Together with our knowledge partner PwC China, the findings have been published in a recent white paper entitled A Leapfrog Moment for China in ESG Reporting.

The good news is that there is a positive trend of voluntary ESG reporting in China. As of mid-2020, 1,021 Chinese A-share companies (that is, companies listed in RMB on the Shanghai and Shenzhen exchanges) had published annual ESG reports (including those labelled as “sustainability”, “CSR”, etc), up from 371 companies in 2009. Of these, about 130 A-share companies have dual listings in Hong Kong, where ESG reports are required (see figure below).

The largest Chinese A-share companies are more likely to issue ESG reports: 86% of the CSI300 companies (the 300 largest and most liquid A-share stocks) had published reports as of mid-2020, nearly matching the 90% rate among S&P 500 companies.

Domestic regulators are also helping to drive the momentum for corporate ESG reporting in China. Hong Kong’s stock exchange (HKEX) has required listed companies to issue ESG reports since 2016, and disclosure requirements were upgraded in July 2020. Market participants expect that regulators will issue new ESG reporting requirements for companies listed in Shanghai and Shenzhen.

Hong Kong’s regulators recently announced that climate-related disclosures aligned with the TCFD recommendations will be mandatory for financial institutions and all relevant sectors, including asset managers and insurers, by 2025. In February 2021, the China Securities Regulatory Commission (CSRC) issued a market consultation that proposed a revision to investor relations guidelines. It added ESG information to a list of issues on which listed companies should update investors.

However, Chinese companies and industry sectors are spread across a range of ESG performance. MSCI assigns ESG ratings to around 700 Chinese companies. Their ESG ratings are normalized globally by industry. Between 2018 and 2020, the MSCI ESG ratings for Chinese companies improved, but the majority are still at the lower end of the seven-tier AAA-CCC scale (see figure below).

What are successful Chinese companies doing today to put them ahead of their peers and competitors, and what can other companies do to catch up? Here are three key insights that emerged from a series of discussions and interviews:

1. Board-level commitment is a primary and indispensable key to Chinese companies’ effective reporting and management of ESG issues. The integration of ESG factors into business strategy formulation and the management of ESG risks and opportunities provide more meaningful information for investors than the traditional corporate social responsibility (CSR) approach.

2. High-growth companies must graduate from a focus on near-term revenue to a purpose-driven strategy that considers a wide range of stakeholders and their interests. Successful companies focus their ESG efforts on the issues that are most relevant to their business, as identified in their 'materiality assessment'.

3. As Chinese companies ramp up their ESG reporting, they often find a shortage of ESG professionals and a lack of ESG knowledge across their business units and supply chains. More training, peer-to-peer sharing and continued consolidation of the disclosure requirements and data will be needed to make ESG reporting mainstream in China.

Chinese companies are approaching a leapfrog moment in ESG measurement and reporting. Leapfrog opportunities arise when a developing or emerging economy has the opportunity to utilize new technologies or innovative practices to bypass slower stages of development.

Chinese companies are seeking to emerge from the COVID-19 economic crisis and attract domestic and global capital investment at a moment when there is a global convergence of views that companies must move beyond generic statements of corporate responsibility and toward concrete, comparable and financially relevant ESG reporting in order to secure easy access to financing and maintain their public and social license to operate.

Strong ESG practices can pave the way for more resilient businesses, open up entirely new markets for sustainable products and services, and help Chinese companies attract new sources of capital. We hope this paper can strengthen the call to action for business leaders across China to further enhance their ESG reporting capabilities and communicate their holistic performance more effectively to domestic and global stakeholders.