This first part of CGj’s review of the Climate Change Conference 2022, held by The Hong Kong Chartered Governance Institute (the Institute) in January this year, focuses on the latest developments relating to the governance of climate-related risks and opportunities.
As the systemic risks resulting from climate change have become better understood, there has been a growing momentum globally to improve corporate disclosures and practices in this area. In January this year, as part of the Asian Financial Forum 2022, the Institute held its first conference dedicated solely to this issue – Climate Change Conference 2022. This first part of our review of the forum focuses on the latest climate-related regulatory trends, the convergence of sustainability reporting standards under the newly created International Sustainability Standards Board (ISSB), and the way institutional investors are incentivising companies to take climate change, and indeed wider ESG and sustainability issues, seriously.
The global regulatory environment has been heading in the direction not only of mandatory reporting on climate change-related issues, but also requirements for firms to publish targets and metrics on decarbonisation and their transition to net zero. In her presentation, Katherine Ng, Managing Director and Head of Policy and Secretariat Services, Listing Division, Hong Kong Exchanges and Clearing Ltd (HKEX), looked at these trends in Hong Kong.
In the decade since HKEX launched its ESG Reporting Guide, an increasing number of ESG aspects have become mandatory or subject to comply or explain. The latest upgrade of Hong Kong’s Corporate Governance Code and Listing Rules, for example, brought in a new requirement that listed issuers consider their climate-related risks. In addition, disclosures relating to the board’s oversight and governance of ESG matters, together with disclosures relating to materiality assessments, are now mandatory.
HKEX has also been raising the bar for IPO applicants. Ms Ng emphasised that companies coming to list in Hong Kong can’t afford to ignore the ESG risks that are material to them. ‘ESG risk should not be an afterthought,’ she said. ‘It’s not something you consider at the end of the first year of listing because you have to be compliant with the Listing Rules. It should be front and centre of your risk assessment before you come to listing.’
In addition to identifying their climate-related risks, she added, listed issuers and IPO applicants also need to ensure effective board oversight of ESG matters. She recommended conference participants look at the guidance published by HKEX on its website relating to Hong Kong’s ESG disclosure requirements and to broader sustainability issues. In particular, she recommended they visit HKEX’s ESG Academy website launched in 2021.
She then gave the conference a tour of the landscape ahead. The biggest story in climate change and sustainability at the moment is the creation of the ISSB. At the recently concluded COP26 – the 26th Conference of the Parties to the United Nations Framework Convention on Climate Change – held in Glasgow, the International Financial Reporting Standards (IFRS) Foundation announced the launch of the ISSB to develop a global baseline of sustainability disclosure standards. Ms Ng said HKEX is looking forward to the launch of the ISSB standards and is committed to making sure that disclosure standards in Hong Kong keep pace with these developments. ‘Our objective is to see better, more transparent and higher-quality ESG practices, in particular relating to climate change, in the coming years,’ she concluded.
Convergence of reporting standards
Global climate change–related reporting standards have been converging for a number of years. The recommendations of the Task Force on Climate-related Financial Disclosures (TCFD), for example, have already become widely accepted as a best practice benchmark in this area. The launch of the ISSB by the IFRS Foundation late last year, however, is a very significant development. The conference was lucky to have the Co-Vice Chair of the IFRS Foundation, Teresa Ko BBS JP, Corporate Partner and China Chairman, Freshfields Bruckhaus Deringer, to speak about the work ahead of the ISSB.
She started her presentation by sketching out the problem that the ISSB has been set up to solve. The ‘alphabet soup’ of different ESG frameworks and scorecards around the world has given rise to ‘rampant and serious greenwashing’, she said. Late last year, the IFRS Foundation published prototype climate and general disclosure requirements intended to start the discussion regarding what an effective global baseline of sustainability disclosure standards might look like.
Ms Ko emphasised that the phrase ‘global baseline’ does not mean that the ISSB is looking to set the lowest common denominator when developing the global standard. ‘Disclosures will need to be meaningful, sophisticated, credible and technically interoperable. The end goal is to produce auditable and decision-useful information,’ she said. The model under consideration would devise interoperable ‘building blocks’ of disclosures that can be built up and integrated into one cohesive set of disclosures, she added.
To conclude, Ms Ko pointed out that the ISSB is only a standard setter and ultimately it is going to be up to domestic regulators and governments to decide on how to adopt and mandate the standards. She also emphasised that there is still a long way to go to tackle climate change and limit global temperature rise to 1.5°C above the pre-industrial levels. The task ahead of us is to build a financial system entirely focused on carbon net zero, she said, quoting Mark Carney, former Governor of the Bank of England. This will require a wholesale rewiring of the global financial system.
‘We only have very limited time and I hope that every one of you will also wholeheartedly support this initiative. We all need to put up the fight of our lives to deliver this outcome, not only for ourselves but also for future generations,’ she said.
An investor perspective
One of the strongest incentives for companies to raise their game in the ESG and sustainability space is the pressure coming from investors. Amar Gill, Managing Director and Head of Investment Stewardship, APAC, BlackRock, shared with conference attendees the ways in which investors will be increasingly holding companies accountable for their governance of climate change-related impacts.
In this regard, institutional investors like BlackRock have the advantage of scale. Of the 16,000 companies globally that BlackRock has exposure to, about 1,100 companies make up 90% of global Scope 1 and Scope 2 greenhouse gas (GHG) emissions (Scope 1 refers to direct GHG emissions that occur from sources that are controlled or owned by a reporting organisation, while Scope 2 refers to indirect GHG emissions associated with its activities and use of its products). These carbon-intensive companies comprise BlackRock’s target ‘climate universe’, Mr Gill said, and are the focus of its stewardship team’s efforts.
One of the key ways in which institutional investors can influence corporate policies and practices in this area is via their support or opposition to director re-elections. Over the last 12 months, BlackRock has put into practice more stringent criteria on whether to support the re-election of directors in its target companies. ‘We are looking for the companies in our climate universe to be giving us disclosure on the actual emissions for the last financial year and their targets for what they expect to achieve in the medium term – not 2050 or 2060, when very few of us will be around anymore, but medium-term targets for 2030. We want to know what they expect to achieve and how are they going to get there,’ Mr Gill said.
He then turned to the urgency of the need to make ESG data comparable across jurisdictions. Blackrock is a strong supporter of the TCFD reporting recommendations and the work the ISSB is doing to harmonise global ESG reporting standards. The current situation has implications, Mr Gill pointed out, not only for individual companies but for the whole financial system. The lack of comparable data in corporate disclosures means, for example, that the correlation between the various ESG ratings currently available is also poor. ‘Because corporate disclosures are still not sufficiently correlated, the third-party consultants that are rating the listed issuers have to extrapolate, interpolate and make estimates to fill in the gaps. Different consultants will be doing this differently so they come up with different results,’ he said.
He added that BlackRock is also a strong supporter of the HKEX initiatives designed to improve climate change and sustainability practices and disclosures by Hong Kong listed companies. Nevertheless, he expressed some concern about the level of commitment in the local market regarding integrating sustainability goals into core business strategies. He questioned, for example, why companies’ sustainability reports are often relegated to the last pages of their annual reports. Sometimes they are not even included in the annual report at all, he said, and frequently the CEO and Chairman statements make no reference to it.
‘That raises questions about whether companies are doing this for the sake of compliance. We need to get beyond compliance to really integrate all of these risks, as well as the opportunities that present themselves in the transition to a low-carbon economy, into core business strategies,’ Mr Gill said.
Another advantage of large institutional investors, when it comes to their influence on policies and practices in this area, is their long-term investment horizons. There is already a significant flow of capital going to companies that take ESG and sustainability issues seriously, Mr Gill pointed out, and this shift of funds towards high-performing ESG companies is only just beginning.
‘This is a multi-decade theme that we’re just beginning to see the start of,’ he said. ‘For companies, there are significant implications for cost of capital and valuations, and we see this as an issue that all the members of the board should be aware of. Directors need to be asking what are the sustainability challenges, the climate risks and opportunities, and how is the company identifying, monitoring and managing the risks, but also how to capture the opportunities as the world moves towards lower carbon processes.’
SIDEBAR: FOLLOW THE SCIENCE
The science relating to the risks resulting from climate change has never been clearer and, in her introductory presentation of the Institute’s Climate Change Conference 2022, Edith Shih FCG(CS, CGP) HKFCG(CS, CGP)(PE), The Chartered Governance Institute Past International President, and Institute Past President, emphasised the importance of ‘staying aligned with what science is telling us’.
Climate Change 2021: The Physical Science Basis, the latest report of the Intergovernmental Panel on Climate Change (IPCC) issued in August 2021, paints a bleak picture of the world we will be living in unless deep reductions in carbon dioxide and other greenhouse gas emissions occur in the coming decades. In addition to the weather and climate extremes we have already been seeing in every region of the globe, the current trajectory of global warming would mean that heat extremes would more often reach critical tolerance thresholds for agriculture and health. Moreover, biodiversity loss and ecosystem degradation, in combination with climate change, are accelerating our current trajectory in a feedback loop that presents systemic threats to the ecosystems we depend upon for our survival.
While the scale of the climate change problem is not to be underestimated, Ms Shih also highlighted the scale of the initiatives already underway to do something about it. This was also the main theme of the second presentation of the conference by The Honourable KS Wong GBS JP, Secretary for the Environment, Hong Kong Special Administrative Region.
Mr Wong reviewed the government’s strategy to address the challenge of climate change. Under the Climate Action Plan 2030, Hong Kong’s overall target is to achieve carbon neutrality by 2050, but Mr Wong told the conference that the government is keen to set itself more ambitious targets. For example, the government’s latest commitment plan sets an interim target to reduce Hong Kong’s overall carbon emissions by half by 2025, using 2005 as the base year. There is also a plan to phase out the use of coal for regular power generation by around 2035. He added that Hong Kong’s transition to zero carbon should not only be regarded as a challenge and risk for businesses. ‘Hong Kong’s green transition will also provide opportunities for the whole society, including the investors, business people and young people,’ he said.