Before the end of the decade – ESG reporting from Hong Kong!

On 17 December 2019, the day Australia recorded its hottest-ever day (a record that was beaten the following day), the HKEX published its “Consultation Conclusions on Review of the Environmental, Social and Governance (“ESG”) Reporting Guide and Related Listing Rules” after a three-month public consultation earlier this year.

Tackling ESG reporting (especially climate-related risk disclosure) in the right way has never been more firmly on the radar of regulators, not just in Hong Kong but globally.

A brief history

In Hong Kong, ESG reporting started as a voluntary exercise in 2012 with a Guide, divided into Subject Areas, Aspects and KPIs. This evolved into a “comply or explain” regime with recommended disclosures in 2016. On the whole, Hong Kong’s journey on ESG reporting has been relatively smooth, due to the efforts of company secretaries, HR, CSR, and IR teams who embraced the HKEX training and guidance.

A second periodic review conducted by the HKEX of ESG disclosures made by a sample of 400 issuers during the 2017/18 financial year revealed a “mechanical, box-ticking” approach to ESG reporting, which “lacks a desirable level of quality and depth of detail”.

Against this background, Hong Kong‘s front line regulator, the HKEX, has taken the commendably bold step of requiring boards to issue statements setting out their consideration of ESG issues. Imposing this mandatory obligation is a significant step forward and should drive home the message loud and clear that:

• ESG is not merely a corporate social responsibility or a reputational issue. ESG reporting is a boardroom issue.
• ESG risk management is a board agenda topic and boards must not only take the lead on and oversee ESG issues, but focus on what is material.
• Investors need more relevant, high quality and actionable ESG information (including climate change related information) for their own investment decisions and risk management processes. This is in line with international trends requiring more disclosure of robust information on ESG risks (in particular climate-related risks).

What is new for Hong Kong boards

The concept of Hong Kong boards having overall responsibility for issuers’ ESG strategy and reporting, including management approach and evaluation of ESG related risks, is not new. This is already in HKEX’s current ESG Guide.

What is new is that boards are now required to make a mandatory statement in their ESG report which needs to disclose boards’ oversight of ESG issues, the process used to identify, evaluate and manage material ESG-related issues and how the board reviews progress made against ESG objectives. The statement must also cover disclosure and explain how an issuer has applied the Reporting Principles (namely, "materiality", "quantitative", “balance” and “consistency") in the preparation of the ESG report.

What is expected of listed boards could not be clearer. We need genuine and deep board-level engagement to produce disclosure that is useful, relevant and appropriate. What we do not want to see are more bland, box-ticking statements that are just paying lip service to the requirement or worse still, another flurry of copy and paste disclosures.

HKEX's strong plea to disclose what is material or in the their own words, what is “truly material” should help. It is also helpful for our regulator to come out and say “comply or explain – both are acceptable options” and “an explanation is not a less preferred or secondary option”.

What this calls for is a more thoughtful and proper process to review all the Subject Areas, Aspects, General Disclosures and KPIs in the Guide by management and the board so that the assessment, consideration, determination, and follow-through expected by our regulator can be achieved. For example, we are now expected to set targets in terms of quantitative information with a narrative explaining its purpose, impacts and giving comparative data where appropriate.

This is not expected to be easy, even though some issuers are already doing this and including the required disclosures in their Annual Report. The HKEX knows that more help and training is required and we hope the further Step-by-Step Guide on the expected disclosure and FAQs expected to be published in the New Year will help our issuers to internalise the strategic value of ESG reporting.

Launching climate change-related disclosure

Few should disagree that climate change is an urgent, potentially existential source of risk for businesses, which has an impact across many sectors in which Hong Kong listed companies operate. It is therefore timely that in the Consultation Conclusion, we see for the first time issuers being required to disclose (a) policies on measures to identify and mitigate the significant climate-related issues which have affected or may affect them, and (b) as a specific KPI, a description of such issues and the actions taken to manage them.

The new obligation is again on a “comply or explain” basis with an emphasis on “significant” climate-related issues which will be relevant and material to each issuer’s long term sustainability. This includes disclosure of data on Scope 1 and Scope 2 greenhouse gas (GHG) emissions – a welcome change that helps to align Hong Kong’s reporting regime with international standards. Again, serious board-level engagement will be key to start Hong Kong’s journey for all issuers to tackle this important issue.

Assurance now encouraged

One change that will be good news to accounting firms including the Big Four and other independent experts and associations is that issuers are now encouraged to bring in independent assurance to enhance the credibility and the quality of their ESG reporting.

Where independent assurance is obtained, issuers should describe the level, scope and processes adopted to provide more detail to stakeholders about the assurance given. This encouragement is not intended to give boards an “opt out” to delegate all responsibility to outside consultants: ultimately, the sources and decisions on what information or data to disclose will still have to come from issuers.

Social KPIs upgraded

Social KPIs have been upgraded from recommended disclosures to “comply or explain”, which underlines that they are being approached in the same way as environmental and social risks. This aims to raise issuers’ awareness of possible effects of social issues on their businesses.

A number of social KPIs have also been revised including employment type, work-related fatalities, a description of practices used to identify environmental and social risk along supply chains, including the promotion of environmentally preferable products and services.

Anti-corruption remains important

It is good to see a KPI on anti-corruption training being introduced. Maintaining a corruption-free Hong Kong cannot be more important for us to continue as a major international financial centre. More training will keep this in decision-makers’ minds.

Closing the gap between ESG reports and Annual Reports

Regrettably, there is still no alignment of the publication timeframe of the ESG report with the Annual Report. Although the deadline has been shortened to five months after the financial year-end, a complete alignment would be desirable, as it would enhance the relevance of the disclosed data, providing investors and prospective investors with a holistic picture of the company.

Get ready for the new ESG regime as soon as possible

We do have a fairly long transition period as it is acknowledged that issuers will need to put internal infrastructure in place to capture the data required for additional disclosure, whilst the enhanced ESG disclosure is only required for financial years starting after 1 July 2020.

Whilst the first enhanced ESG reports will have to be published by issuers for any financial year starting 1 July 2020 (i.e. the first enhanced ESG reports will cover the period from 1 January 2021 to 31 December 2021 for issuers that have a 31 December year-end), the HKEX is encouraging issuers to start the process as early as possible to put in place additional systems and resources to collect the relevant information and data so that issuers will be in a position to discharge the additional obligations.

SFC is working hard on this too

Context is important with any reform, and it is interesting to note that a day before the publication of the Consultation Conclusion, the SFC released the result of its Survey on Integrated ESG and Climate Risks in Asset Management. According to the Survey, asset management firms want to step up their efforts and management of environmental and climate risks and we can only expect more alignment towards global expectation and standards being taken by the SFC.

Making progress, step-by-step

With less than a week until the end of another decade during which the world has continued to tussle with a lack of global comparability and standards, it is reassuring to see that the direction of travel on ESG reporting from our regulators, market participants and stakeholders is the right one. This is good news for Hong Kong – onwards and upwards!

On that note, may I take this opportunity to wish everybody happy holidays and a healthy, blessed and bountiful 2020.