What to expect from Asia Pacific's burgeoning ESG market

The region will present much opportunities as it plays catch-up to the global sustainable finance market, but firms should not be holding back ESG data until regulators call for them.

hong kong cityscape
The illuminated skyline of Hong Kong by night. The city is positioning itself as a green finance hub for the region. Image: GordonCC BY-NC-ND 2.0

As in so many other sectors, the Asia-Pacific (APAC) region may have started the race behind the U.S. and Europe in environmental, social, and governance (ESG) investing. However, as in every other sector, the APAC region will catch up, and catch up fast. Given the sheer size of the APAC market, it may well be the world leader in this space before long.

This welcome change is happening fast. Corporate leadership and asset managers in the region are quickly embracing ESG.

Indeed, while the region may generally be considered an ESG laggard, both in terms of the quantity and size of investment funds with an ESG mandate and the number of companies making investment-grade ESG disclosures, its sustainable fund inflows and corporate ESG disclosures are growing quickly.

The regulatory interventions that these trends promise to activate, however, are less clear than those anticipated in Western markets. Admittedly, this uncertainty can largely be attributed to the fragmented nature of capital markets governance in Asia; there is no strong, unifying regional regulator akin to, for instance, the European Commission. But we’re not completely in the dark.

We know that APAC issuers face the same challenges as their Western counterparts in not only measuring, managing, and reporting their ESG performance, but also in verifying its financial outcomes. And we know that APAC investors, like their peers in New York in London, cite the resultant dearth of investment-grade ESG data as a primary barrier to incorporating ESG factors into their investment approaches.

By the same token, in 2022 we can expect APAC governments, like those in Washington and Brussels, to step up their efforts to bring greater transparency and credibility to ESG investments, and for good reason. Global companies often have the lion’s share of their production and manufacturing in the APAC countries, meaning their ESG efforts can make the greatest impact in the region.

Governments in the region, through their capital markets regulators and other means, will likely act to strengthen the quantity and quality of company ESG disclosures. And as evidenced by China and Japan, Asia’s emerging sustainable investment hubs, near-term changes to APAC’s ESG regulatory landscape will mirror the global focus on improving climate-related disclosures and, uniquely, ushering in a new era of corporate governance.

China

While governments in a handful of APAC markets, including Hong Kong, India, Japan, Malaysia, SingaporeSouth Korea, and Thailand, have made recent strides in improving companies’ management and disclosure of climate-related ESG issues, China is poised to become the region’s next trendsetter.

China’s relevance to APAC’s ESG journey stems largely from its status as the world’s largest greenhouse gas emitter. The business and financial implications of Beijing’s multi-pronged effort to discard that title, specifically, are what ESG-focused companies and investors should keep an eye on.

Key among these efforts is the likely expansion this year of China’s recently established mandatory carbon market, which will make maintaining high-emitting business practices more costly for more companies and, in turn, less attractive to their investors. Beyond adding incentive for corporations to prove they’re reducing emissions, the perceived early success of this program may encourage copycats across APAC, giving rise to a host of new ESG investment opportunities in the region.

For their part, Chinese companies are steadily increasing their rate of voluntary ESG disclosures. But without a unified ESG disclosure standard, the quality of companies’ ESG data remains a concern, especially in the absence of a mature domestic ESG rating industry.

To that end, China’s ongoing efforts to improve the accessibility and quality of companies’ ESG data will be something to watch. Most important is the Ministry of Ecology and Environment’s plans to mandate ESG disclosure rules beginning in 2022 for a select group of listed companies and bond issuers. Focusing on environment-related data, these obligatory disclosures would be included within a publicly accessible database on Chinese firms.

Together with the semi-mandatory ESG measurement and reporting standards for listed companies that China’s securities regulator implemented in 2021, Beijing appears to be making steady progress towards the nationwide mandatory environmental disclosure system it hopes to have up and running by 2025. 

Furthermore, China has cooperated with the E.U. to develop a “Common Ground Taxonomy” (CGT) for sustainable business activities and green finance. Drawing upon the E.U. Taxonomy Regulation, which provides investors a template for assessing companies’ ESG performance, and China’s own classification system, the CGT is meant to provide issuers and investors a better roadmap for understanding and comparing the criteria for sustainable investments in each market.

While the framework is currently non-binding, potential enforcement of the CGT could become a tremendous driving force in ESG markets, especially as efforts to develop and align local “green” taxonomies get underway.

Asia Pacific

The prioritisation of the “E” pillar of ESG by APAC issuers and investors notwithstanding, corporations engaged in the region mustn’t overlook the importance of sustainable corporate governance and investment-grade disclosures of the corresponding data.

For their part, APAC’s issuers have historically performed well here, not least because governance data is a mandatory disclosure item in most countries. But legacy concerns over business ethics and corruption are converging with emergent concerns over the capacity of APAC’s corporate boards to handle their financially-relevant ESG issues, a trend only accelerated by the COVID-19 pandemic.

These concerns are manifest in the investment approaches of APAC’s ESG investors, who place greater emphasis on corporate governance than their Western counterparts.

It’s likely that the region’s regulatory landscape will better reflect that sentiment in the coming years, particularly with respect to board and workforce diversity – an area where APAC companies are notable laggards, the representation of independent directors on corporate boards, and transparent governance of sustainability issues.

Japan

While this dynamic is playing out across the region, China included, Japan is the most likely trendsetter for the near term. Specifically, it’s the Japan Financial Service Agency’s (FSA) latest revision to the Corporate Governance Code (CGC), devised in conjunction with the Tokyo Stock Exchange, that companies should be watching.

Broadly, the CGC is intended to advance regulated firms’ management of ESG issues through a series of governance reforms. Among other things, these reforms require that corporate boards assume greater responsibility for identifying and managing ESG issues, improve the diversity and independence of their composition, and importantly, develop and disclose initiatives that promote positive ESG outcomes.

Given the size of Japan’s economy, companies may be well served to adapt their entire compliance structures to fit new Japanese rules. Competition for desirable listings on one of Asia’s largest exchanges, then, will precipitate an uptick in the quantity and quality of ESG disclosures among issuers engaged in Japan.

This trend will be further entrenched beginning in 2023, when all companies that submit annual securities reports will be required to make climate-related disclosures, an update the Japan FSA elected following internal review and stakeholder consultation regarding the revised CGC.

India

Finally, no discussion of the APAC economy should neglect India. It appears to be taking ESG and the environment very seriously.

Prime Minister Narendra Modi made a surprise announcement at COP26 last year, to bring Asia’s second-largest emitter to net-zero by 2070. It came on the heels of an earlier move by the Securities and Exchange Board of India (SEBI) to expand the number of listed companies expected to make voluntary Business Responsibility and Sustainability Reports. These reports will become mandatory in FY 2022-23 and thereafter.

This requirement, along with the latest proposal by SEBI to regulate ESG rating providers, is tied to the government’s recognition of the outsized role its private sector must play in addressing India’s multi-trillion dollar climate finance needs and, in turn, the need to ensure well-intentioned ESG investments are allocated appropriately.

The big picture

“By disclosing accurate, timely, complete, and otherwise investment-grade ESG data, APAC issuers can expect to attract ESG investment, as long as the systems used to produce those data are adaptable to regulatory requirements as they come.”

Naveen GV, Corporate Officer and Managing Director, APAC, Benchmark Digital Partners

But the APAC economy is more than China, Japan, and India. Catching a ride on the swelling ESG wave will require issuers and investors engaged in APAC to keep an eye on the adherence of the region’s regulators and securities exchanges to the guidelines of leading voluntary reporting frameworks in their rulemaking.

A good rule of thumb will be to prepare to disclose ESG information in line with the guidelines of the Task Force on Climate-Related Financial Disclosures (TCFD), elements of which are already shaping listing requirements for issuers in Singapore and Hong Kong, as well as disclosure rules and guidelines in Malaysia and Thailand.

Otherwise, firms engaged in the APAC region can rest knowing that the forthcoming guidelines of the recently established International Sustainability Standards Board (ISSB) will bring some much-needed clarity and direction, especially considering the region’s healthy uptake of financial accounting standards produced by the International Financial Reporting Standards (IFRS) Foundation, the ISSB’s parent organisation.

However, while issuers in the region would do well to keep an ear to the ground and pre-empt APAC’s regulatory actions, doing as much would prove arduous for even the most well-heeled multinationals. While the provision of relevant taxonomies, as in ASEAN, and facilitative technologies, as in Singapore, may ease the burden of producing and using investment-grade ESG data in the near term, a wait-and-see approach to APAC’s ESG governance landscape will ultimately prove disadvantageous.

By disclosing accurate, timely, complete, and otherwise investment-grade ESG data, APAC issuers can expect to attract ESG investment, as long as the systems used to produce those data are adaptable to regulatory requirements as they come.

Because if APAC’s inconsistent rules and irregular enforcement of ESG investing have so far failed to eliminate the real and growing incentives for companies to produce such information, then what’s stopping them?

Naveen GV is Corporate Officer and Managing Director, APAC, of Benchmark Digital Partners.

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