Go out Think Tank (CGGT) to observe
With the rapid development of ESG investment, in recent years, countries** and regulators have gradually strengthened their supervision in this field. 2023 is a milestone year for ESG development, and many ESG-related policies and regulations have begun to be implemented.
The CGGT has observed that in terms of transparency and disclosure of ESG information, countries** and regulators require companies to provide detailed ESG information, including environmental, social and governance data, so that investors can make more informed investment decisions. In particular, in order to combat "greenwashing", regulators have developed stricter standards and review procedures to ensure that the ESG information provided by companies is authentic and credible, and to prevent companies from attracting investors by falsely advertising or exaggerating their ESG performance.
Under strong ESG supervision, what measures can companies take to deal with risks? Today, CGGT is authorized to publish an analysis by Eversheds Shundelun International Law Firm for ESG-focused readers.
Bullet point:
1. Without a carefully considered international ESG guidance plan and international ESG compliance guidance that keeps pace with the times, there is a high probability that enterprises will passively violate global ESG laws and regulations and face unexpected legal risks or business losses.
2. When assessing the workload of developing ESG and sustainability plans, companies should first clarify the scope and goals of their plans, and whether specific components are needed.
3. Reporting ESG information to the outside world can improve the transparency of the company's business operations and ensure that stakeholders understand the company's compliance with relevant laws and regulations and the achievement of goals, which is an important part of ESG and sustainable development plans.
Body
Global events in recent years have triggered great interest in ESG, among institutions, businesses and the public. The 2019 Inter-Panel on Climate Change (IPCC) Special Report on Global Warming led to the declaration of a climate emergency in the United Kingdom and Europe, the outbreak of the new crown epidemic in 2020 brought attention to workers' health and working conditions, the ongoing discussion of racial and gender issues further raised the society's attention to an equal and inclusive workplace environment, and the war in Ukraine in 2022 once again caused the global community to pay attention to humanitarian, economic crisis, environmental damage, Attention to the Renewable Energy Transition and Business Ethics.
There has also been a lot of talk about ESG in China. However, most Chinese companies still have great limitations in their understanding of ESG, most of them only focus on the specific requirements of relevant domestic regulators, passively accept relevant obligations in financing and commercial contracts, and do not have a unified ESG guidance plan, or have an ESG plan but do not achieve international standards due to limitations. However, no company is an independent island, and all kinds of activities of enterprises participating in**, cross-border transactions, investments, and operating overseas subsidiaries and projects may involve ESG regulation in one or more countries or regions. With the rapid development of ESG legislation in various countries around the world, even if a company is not directly bound by the investigation and disclosure obligations under ESG regulations, it will still be affected by relevant laws and regulations around the world through its first-chain partners.
Without a well-considered international ESG guidance plan and international ESG compliance guidance that keeps pace with the times, there is a high probability that companies will passively violate global ESG laws and regulations and face unexpected legal risks or business losses. For example, the EU will trial run the carbon border adjustment mechanism since October 2023, requiring importers to report the carbon emission data embodied in the goods, and from 2026 onwards, importers will be required to purchase certificates according to the carbon emissions of the goods according to the EU carbon market**, commonly known as the "EU carbon tariff". In addition to commercial compliance risks, companies and directors may also receive penalties or claims for non-compliance with ESG-related responsibilities or obligations, for example, in Europe, in February 2023, Shell shareholders filed a lawsuit in the UK against all Shell directors for failing to effectively address the risks of climate change by believing that directors had failed to effectively address the risks of climate change by breaching their obligations to promote the success of the company and their duty of care under the Companies Act; Previously, Shell and its directors were also sued in the Netherlands for carbon emissions. At the same time, in addition to legal and contractual risks, more and more companies are actively implementing ESG strategies in order to build their corporate image, for example, although the UK currently only requires large companies to conduct ESG reporting, many small companies choose to stay ahead of the law and competitors, voluntarily adopt ESG and sustainability standards and disclose ESG information, and demonstrate their purpose and value proposition to the public and potential investors, in order to improve corporate reputation and attract consumers and investors.
With regulators, banks, investors, and rating agencies all paying attention to and implementing sustainability strategies, only companies that do a good job in ESG-related responses can adapt to evolving regulatory and market requirements, ensure legal and compliant operations, grasp better financing opportunities, maintain a favorable market position, obtain long-term growth and profitability, and achieve the goal of corporate sustainable development.
To achieve this goal, it is necessary to first understand the concepts and boundaries of ESG and ESG plans, grasp the ESG policy trends that are closely related to the international compliance of Chinese enterprises, and the second step is to formulate ESG and sustainability plans that are suitable for the actual operation of enterprises.
1. The concept and boundaries of ESG
1.What is ESG and Sustainability Program?
ESG and sustainability plans are a value system that focuses on the performance of enterprises in the three aspects of environmental, social and corporate governance, rather than investment concepts and corporate evaluation criteria for financial performance, aiming to examine the potential of corporate sustainable development. As the name suggests, ESG and sustainability programs cover three major areas: Environmental, Social and Governance:
Environmental- Whether the company pays attention to environmental protection and implements environmental protection strategies in all aspects of its operations to reduce its impact on the environment. Environmental issues range from climate change, carbon emissions, waste management, pollution control, biodiversity, etc.
Social- Whether the company pays attention to the connection with and impact on society, the safety, health and treatment of employees, the diversity of employee structure, the relationship with the upstream and downstream of the industrial chain, and the needs of different social groups to bring positive impact to the community in which it operates.
Governance- How to maintain the credibility of the enterprise and help the company develop its business by complying with business ethics, anti-corruption, anti-bribery, legal compliance, diversity and structure of the board of directors, the structure of executive compensation, and whether the rights of minority shareholders are protected in the course of business operations.
As an important criterion for measuring the non-financial indicators of enterprises, the level of ESG development of enterprises will affect the evaluation and confidence of the public, investors and the market. ESG evaluation has become an important consideration in global capital assessment. Maintaining a balanced development of the three aspects of ESG will help enterprises enhance their competitiveness and obtain long-term benefits of sustainable development.
2.Trends in ESG compliance policies
(1) An overview of the latest developments in international ESG compliance policies
Regulators in countries and regions around the world have put forward ESG and sustainable development requirements for enterprises - implementing ESG policies from the perspectives of financial institutions' investment guidance and enterprises' own regulatory compliance, and promulgating a series of evaluation systems and standards and norms for information disclosure, specifically:
Regulate business behavior with ESG policies
The United Kingdom, the United States, the European Union and other developed countries and regions have successively issued and implemented a number of laws and regulations related to environmental protection, energy conservation and emission reduction, labor rights and other related laws and regulations.
In the case of climate change, the EU has a number of significant new initiatives, including:
The Carbon Border Adjustment Mechanism (CBAM) will be piloted in October 2023 and will be fully implemented in 2026, imposing carbon tariffs on imported products that emit greenhouse gases during manufacturing, so as to require goods exported to the EU to pay the same level of carbon costs as EU companies according to their carbon intensity.
In July 2023, regulations on new and used batteries were enacted, requiring carbon footprint information for industrial rechargeable batteries, light vehicle batteries, and electric vehicle batteries above 2 kWh.
The EU is the first region in the world to respond to climate change in the form of carbon tariffs, which will influence the decision-making and operations of enterprises in countries around the world from a business and market perspective. As the world's largest exporter and the largest exporter of lithium batteries, the EU's carbon border adjustment mechanism will increase the cost of relevant Chinese companies and affect the competitiveness of Chinese products in the EU market.
Propose ESG information disclosure requirements for enterprises
Recently, a number of international ESG disclosure standards have been published, setting a global baseline for future international financial reporting, including:
The Organisation for Economic Co-operation and Development (OECD) has updated its Code of Responsible Business Conduct for Multinational Enterprises on corporate responsibility issues such as the environment, human rights, bribery, and information disclosure
IFRS** meets IFRS Sustainability Disclosure Standard 1 General Requirements for Sustainability-related Financial Disclosures (IFRS S1) and IFRS Sustainability Disclosure Standard 2 Climate-related Disclosures (IFRS S2).
In the wave of ESG sweeping the world, companies participating in the global ** chain cannot ignore the ESG compliance obligations of the corresponding jurisdictions and industries and markets, including multinational companies headquartered in China, Chinese companies participating in overseas projects and investments, and Chinese companies seeking global investors.
Financial institutions lead ESG investment
The United Nations convened the Net Zero Banking Alliance (NZBA) in 2021 to commit to achieving a net-zero carbon footprint across its portfolio by 2050. For example, the United Kingdom** proposed to become a net-zero financial center, promulgated a number of sustainable finance regulations for the realization of green finance, and put forward sustainable requirements for the investment of financial institutions, which in turn put forward requirements for enterprises, including requiring enterprises to disclose green transformation plans, requiring the establishment of a sustainable development information reporting path from enterprises to investors, etc.
Financial institutions and investors are important participants in the business process of enterprises, and the policy requirements for the investment of financial institutions will eventually be transmitted to enterprises in the form of investment conditions, so as to put forward further requirements for corporate ESG.
(2) The latest trends in China's ESG compliance policies
At the same time, ESG regulation is also being strengthened in China. In September 2020, China** put forward a commitment to peak carbon emissions by 2030 and carbon neutrality by 2060 at the United Nations General Assembly
The capital market has put forward high ESG regulatory requirements
China's capital market has gradually increased ESG-related requirements for listed companies
Since 2006, the ESG information disclosure system has been established, and initially only voluntary disclosure is required.
Since 2016, the Hong Kong Stock Exchange has required all listed companies to prepare and disclose ESG reports on an annual basis, and has increased the disclosure requirements several times.
In 2018, the China Securities Regulatory Commission (CSRC) revised the Code of Corporate Governance for Listed Companies to require listed companies to disclose their environmental performance and fulfill their social responsibilities such as poverty alleviation.
In 2021, the China Securities Regulatory Commission (CSRC) revised the annual report format standards and semi-annual report format standards for listed companies, and the Shenzhen Stock Exchange and the Shanghai Stock Exchange respectively promulgated and implemented guidelines for social responsibility, standardized operation, and information disclosure.
Among the listed companies, the listed companies of central enterprises are the vanguard of implementing ESG obligations and strengthening information disclosure
In 2022, the State-owned Assets Supervision and Administration Commission (SASAC) issued the "Work Plan for Improving the Quality of Listed Companies Controlled by ** Enterprises", requiring ** enterprises to establish and improve ESG systems and achieve "full coverage" of ESG special report disclosure of listed companies controlled by central enterprises within one year
In August 2023, the General Office of the State-owned Assets Supervision and Administration Commission (SASAC) issued the Notice on the Research on the Preparation of ESG Special Reports of Listed Companies Controlled by Central Enterprises, which provides specific disclosure standards for the preparation of special reports, and constructs an indicator system of 14 first-level indicators, 45 second-level indicators, and 132 first-class indicators from the three dimensions of environmental, social, and governance, covering all key ESG topics, providing guidance for qualitative or quantitative disclosure of enterprises, and at the same time providing a reference template for special reports, and setting two disclosure levels—— The "Basic Disclosure" includes the ESG requirements of the policy documents and national standards of the China Securities Regulatory Commission, the Ministry of Ecology and Environment, various exchanges and other departments, while the "Recommended Disclosure" integrates international standards such as GRI (Global Reporting Initiative), TCFD (Task Force on Climate-related Financial Disclosures), SDGS (United Nations Sustainable Development Goals), ISO (International Organization for Standardization) and other international standards, providing a reference direction and flexibility for the development and deepening of ESG management of listed companies controlled by central enterprises.
Regulators have put forward ESG requirements for the overall market
In addition to capital market regulators, various ministries and agencies, including the Ministry of Finance, are also promoting ESG assessment, disclosure, and governance of various types of companies and projects, such as:
"Environmental protection" requires key pollutant discharge units to disclose environmental protection information such as pollutant discharge information, construction and operation of pollution prevention and control facilities, and environmental self-monitoring programs.
The People's Bank of China (PBoC) issued the Guidelines for Environmental Information Disclosure by Financial Institutions to clarify the framework for environmental information disclosure in the financial industry.
The China Banking Regulatory Commission (CBRC) vigorously promotes green finance and green credit, requires banks and other financial institutions to formulate green credit development strategies and goals, guides financial institutions to support environmentally friendly and sustainable development projects and industries such as low-carbon economy and circular economy, and urges enterprises to manage environmental and social risks in financing terms.
In the context of the rapid development of ESG-related laws, systems, and policies, it is imperative for companies to put the formulation and implementation of ESG and sustainability plans on the agenda in order to adapt to the changing environment and requirements.
2. The process and steps of building an international ESG and sustainability plan
In the context of Chinese enterprises' deep participation in the global ** chain, the ESG strategy of Chinese enterprises is a global business and legal issue. While the size of the company, the type of business, the way it impacts on the environment, the composition of the ** chain and value chain and the links involved, the parties involved and the jurisdictional area will affect the specific components and requirements of the ESG and sustainability programs required by the company. But overall, building an international ESG and sustainability program requires the following steps:
Step 1: Review the existing governance framework
A sound governance system is the foundation for the effective implementation of ESG and sustainability programs, and can help companies identify, assess and address environmental and social risks and opportunities, manage their stated goals, monitor and evaluate the implementation and effectiveness of corporate decisions, and detect and deal with violations or misconduct in a timely manner.
In order to upgrade ESG and sustainability initiatives, companies should focus on the following points when reviewing and refining their existing governance frameworks:
Companies should constantly review and adjust their governance frameworks to keep pace with ESG developments and adapt to changing needs.
A company's governance framework should not only be implemented at the management level, but should also ensure that governance rules are implemented at all levels of the organization (see step 2).
The governance framework should ensure that stakeholder feedback is received so that the business can effectively respond to consumer and market needs and obtain the necessary information for the development of the company's business strategy.
Ensuring an effective whistleblowing and complaint process, identifying potential legal risks, and promoting the development of corporate ethics and reputation, thus ensuring the basis for effective ESG implementation.
Establishing or updating a misconduct investigation process, ESG requires a more integrated approach to multi-dimensional investigation of misconduct, which may require an upgrade of the existing investigation process (see step 10).
Step 2: Assemble a team
As mentioned above, ESG has a wide range of connotations, integrating matters that have traditionally been handled separately by different professional departments. As a result, companies need to carefully consider who will develop, implement, and manage their ESG and sustainability programs, and consider the following options:
Use external consultants: For businesses that lack internal resources, external professional consultants can solve this pain point, but they still require significant resources and internal support. Particular attention needs to be paid to the proper allocation of consultants' tasks and roles in the planning process to ensure that the work of external consultants is integrated into the corporate culture and operational processes.
Leverage existing functions where possible: Many ESG-related risks and opportunities have traditionally been managed by a company's compliance or legal (e.g., anti-corruption and commercial bribery, money laundering, etc.), audit, human resources (e.g., an equal and inclusive workplace, etc.), and environmental, health and safety (EHS) departments. Ensure that the collaboration between departments can better adapt to the comprehensive requirements of ESG.
Establish an integrated team: Designate an ESG and sustainability leader who is responsible for integrating the program into the organization's business management processes, ensuring that existing functional expertise is leveraged while preventing each department from operating in silos, and that ESG and sustainability programs can be broadly applied to the organization's business strategy and operations. At the same time, it is possible to consider setting up a special working group at the board or senior management level to include representatives from different functional departments to ensure that all relevant departments within the board can participate in the formulation and implementation of the plan.
Step 3: Create a work plan, timeline, and budget
Timelines and budgets will largely depend on whether a new ESG and sustainability plan is developed from scratch or modified and updated within the existing framework. For example, some companies already have risk and compliance programs and **chain compliance programs, and may only need to supplement the content required by the new ESG regulations and integrate them on the basis of the original system to complete the upgrade to ESG and sustainability programs.
When assessing the effort to develop an ESG and sustainability plan, companies should first clarify the scope and goals of their plan, and whether specific components are needed. For example, a work plan and budget can be developed by first determining whether a net-zero plan is needed or that requires compliance with specific due diligence or reporting requirements, and after clarifying the core content of the plan.
Step 4: Identify the problems your business is facing
Identifying potential problems in a company is the starting point for assessing ESG and sustainability risks and setting ESG goals, which are divided into three main stages:
1) Collect key data: typically including energy usage, carbon emissions, how waste related to operations and products such as packaging is disposed of, other environmental impacts (biodiversity, land, air and water pollution, etc.), community impacts, employee wages and working conditions, value points of concern to employees and consumers, merchants and investors, etc.
2) Analyze key data: Key considerations include the size of the business, operating model, industry, geographic scope, risk appetite and applicable laws, regulations and policies.
3) Prioritize the implementation of ESG programs in different areas based on the severity of the risk and the size of the opportunity.
Step 5: Set goals
There are two phases of goal setting: first, long-term strategic goals are set, and then they are translated into specific short- and medium-term goals and key results. The sustainability strategic goals chosen by a business may typically include the following:
Optimize performance and products in key areas**: e.g., achieving carbon emission reduction targets, improving energy efficiency and renewable energy utilization, reducing or improving product packaging, optimizing employee structure and treatment, etc.
Optimize the chain: For example, optimize the proportion of sourcing specific sustainable goods and ensure that the chain partners meet the standards they set for environmental impact, working conditions, labor rights, etc.
Obtain certifications or certificates in the field of sustainability: e.g. ISO standard certification, country-specific corporate certification.
Particular attention should be paid to ensuring the participation of all stakeholders in setting goals. The team formed in Step 2 already includes representatives of internal stakeholders, and the company should also consider the input of external stakeholders such as customers, merchants, and investors based on the data collected in Step 4. In addition, the targets set should not be limited to existing legislation and regimes, but should also take into account the laws and regulations to be implemented, as well as the impact of legislation in the jurisdictions and locations where the participants in the **chain may be involved. At the same time, the setting of goals should also be accompanied by a corresponding performance evaluation mechanism. Companies can also research the goals of other companies in the industry and revise their perception of the industry or market.
Step 6: Review or develop an internal institutional framework
As mentioned at the beginning, ESG and sustainability are very broad, and the institutional framework that companies should have in place should usually include:
Multiple internal systems: Some companies have developed some internal systems based on regulatory requirements or operational needs, such as core risk systems such as anti-bribery and corruption, gifts and entertainment, conflicts of interest, discrimination and harassment. Depending on the nature of the business and the business model, identify other regimes that may be required, and seek advice from legal, business or financial advisors if required.
Processes, agendas, and strategy documents required to implement internal systems: e.g., net-zero transition plans, diverse and equal workplace systems, etc.
Code of Conduct and Ethics: Contributes to the implementation of corporate governance and is an important foundation for ESG and sustainability initiatives.
Companies can choose to publicly release internal systems such as ESG to demonstrate their corporate culture and social commitment to investors and the public.
Step 7: Strictly follow the plan
To embed ESG and sustainability initiatives into corporate culture and day-to-day operations, companies should consider the following:
Strengthen internal communication and training: Promote ESG programs as an opportunity to redefine corporate culture and internal systems, and find entry points for employees to pay attention to and actively implement ESG programs. At the same time, it is important to ensure that internal communication and regular training are carried out across all functions and at all levels of the business, so that ESG initiatives are embedded in all parts of the company.
Plan execution should be top-down: Setting standards for the board or management that meet employee expectations, and leading by example to implement the principles and provisions of an ESG program from the top will go a long way toward implementing relevant internal systems in the general workforce. Legislation in some countries supports a top-down approach, such as the UK Companies Law, which obliges directors to manage the company's operations for the benefit of shareholders, taking into account ESG and sustainability considerations.
Establish a network of internal business ethics champions: Internal advocates are responsible for promoting ethical standards and keeping an eye out for potential ESG compliance issues.
Employee motivation: Companies can consider linking ESG and sustainability goals directly to employee compensation performance to enhance employee execution of ESG initiatives.
Step 8: ESG and sustainability assessment and information reporting
An increasing number of companies, especially large multinationals, are making sustainability information or reports publicly available on ** that include detailed audit analysis of the company's social and environmental impacts, as well as climate and sustainability risks and opportunities, some of which are mandatory reporting requirements and some of which are voluntary. Reporting ESG information to the outside world is an important part of ESG and sustainability plans to improve the transparency of a company's business operations and ensure that stakeholders are aware of the company's compliance with relevant laws and regulations and the achievement of goals.
Step 9: Monitor and audit the operation of ESG and sustainability programs
Companies need to review their ESG and sustainability plans regularly to ensure that they keep up with legislative developments and changes in business models, and that they meet the business needs reflected in their business data. The audit can be conducted by the internal audit department or the external auditor for a specific part or the entire enterprise, and may include:
Conduct regular reviews and updates of internal systems after major incidents.
Track relevant key figures and evaluate goal achievement against key performance indicators (KPIs).
Conduct internal reporting to the board of directors or senior management.
Conduct regular system tests and spot checks.
Conduct questionnaires or interviews with ESG compliance personnel.
Conduct regular self-assessments and certifications as required by applicable law.
Step 10: Investigate misconduct
Establish a misconduct investigation process in the corporate governance framework to maintain high standards of integrity, transparency and accountability throughout our operations. If there is a credible report of misconduct, it should be promptly investigated and handled appropriately to minimize organizational risk.
Revelation
ESG is not only the legal compliance of laws, regulations and policies of a single country, but also a topic that enterprises must pay attention to to maintain market competitiveness. Eversheds has established a global ESG team to help a large number of multinational companies improve their ESG systems, including recently assisting Rolls-Royce in implementing human rights and environmental standards under Germany's new **Chain Due Diligence Act, and assisting Finite Carbon, the largest forest carbon offset developer in the United States, to establish a carbon offset program for smallholder forest landowners. Eversheds has the ability to provide Chinese enterprises with a global ESG perspective and a full range of services, support Chinese enterprises to complete ESG compliance, ESG system design and implementation plan formulation on the basis of the implementation steps described in this article, and assist Chinese enterprises in various ESG due diligence, internal investigation and crisis response during the implementation of ESG plans.
*: Eversheds Shun Delun International Law Firm.
Disclaimer:
This article only represents the views of the original author and does not represent the position of the think tank.