The worlds of ESG and investor relations are colliding

Whichever way you look at it, there is an increasing overlap between the sustainability and the financial worlds.

Major developments in Hong Kong in the last year include the launch of the Hong Kong Green Finance Association (HKGFA); the Securities and Futures’ Commission’s Strategic Framework for Green Finance; and the Financial Services Development Council’s Environmental, Social and Governance (ESG) Strategy for Hong Kong, to name but a few. Beyond the local market, we have also seen important progress in China, which is set to mandate ESG disclosures amongst listed companies and bond issuers by the end of 2020; while the European Commission is moving towards mandating sustainability risks and impacts disclosures amongst financial market players, which will in turn impact those Asian companies that have existing, or would like to access, European shareholders.

Sustainability and financial worlds are colliding. Fast.

What does this mean for investor relations?

With so many business priorities (profitability, risk, liquidity, and more), sustainability seems a world away at first glance. But when we look closer we find that the impact is much more significant. Many sustainability issues, whether it is global hot topics like climate change or plastics, often play a fundamental role in the profitability of business.

Apart from the Hong Kong Stock Exchange’s updates to its Corporate Governance Code effective from 1 January 2019, it has also published a further guidance to ESG Reporting, indicating higher expectations as ESG reporting continues to mature. Investors will also have higher expectations, as risks such as climate change and ban on single-use plastics start to crystallise, while other ESG risks converge with their mainstream risk-management process. Investors will inevitably sharpen their focus on their exposure to ESG, or be under pressure from their clients to do so.

Just as investor relations (IR) – one of the key contacts of a company with its investors – needs a thorough understanding of, and interaction with, the rest of the business, both at the strategic and operational levels, so sustainability should not be confined to the sustainability team in any organisation. Sustainability is about future-proofing a business and goes way beyond traditional CSR notions that are often defined by activities such as volunteerism or donations made to charities – material issues must be integrated to the core of the business through and through.

In short, IR professionals will have to handle increasing number of questions on ESG, and to a greater depth, as sustainability is increasingly becoming a part of the new business normal.

What should investor relations watch out for?

(1) Corporate governance

At TPB, our experience of engaging investors, both as clients and as stakeholder interviewees, indicates that in Asia, Corporate Governance – in its widest sense, which includes not only how companies are controlled and governed, but also how E and S issues are governed – tends to be at the top of their priorities when reviewing a portfolio company. Although this may be due in part to governance being a more familiar territory than E and S, investors are also using the G as a proxy to assess the robustness of management over E and S issues.

(2) Ownership and oversight of ESG matters

The first step is to gain a full picture of how ESG/sustainability issues are handled internally, starting with identifying where the ownership lies – ideally the Board. It should have full oversight of these issues, with a clear and transparent governance structure. The Board or “sustainability committee” should be charged with providing strategic direction on ESG issues that matter most, overseeing the implementation at the operational level. IR professionals should be involved in this, just as they would for other Board-level discussions such as risks, audit and business strategy. Ultimately, material ESG issues should be fully embedded in the ‘normal’ strategy and risk meetings, if not already.

HKEx’s ESG Guide makes it very clear that “the board has overall responsibility for an issuer’s ESG strategy and reporting…and is responsible for evaluating and determining the issuer’s ESG-related risks”.

(3) Materiality

Like financial reporting, sustainability reporting (hence efforts) is directed by the application of reporting principles. The principle of materiality in ESG refers to “the threshold at which ESG issues become sufficiently important to investors and other stakeholders that they should be reported.” IR professionals should primarily focus on these, especially given limited time and resources. If the sustainability team has already conducted a materiality assessment, IR should be conversant in the material issues, since these will/should be of most interest to investors.

Part of the material issues identification and prioritisation process involves engaging the business’s key stakeholders to understand their perspectives – one of them is likely to be the investor group. Apart from finding out investors’ perceptions and expectations on your current and emerging ESG issues, the engagement process is also a good opportunity to signal your commitment to these issues, further cementing trust with your investors, and in some cases, even educate the investors themselves.

(4) Risk management

Risk management is a crucial part of any investment decision. Investors’ due diligence and ongoing monitoring will likely involve a combination of their own research, third-party ratings agencies, and direct engagement with companies. According to the FSDC, integrating ESG factors will “enhance risk-adjusted returns through identification, mitigation or management of key risks”.

As such, IR teams should also be prepared to discuss various ESG risks with investors, demonstrating an understanding of how ESG risks are identified, why they are/aren’t important, and what the management approach is. Ideally a process is in place to identify ESG risks, using tools such as SWOT analysis, which are then put through the enterprise risk management process alongside other business risks to identify ways to manage them.

(5) Other developments to watch out for

The Taskforce on Climate-related Financial Disclosures (TCFD) continues to pick up pace, especially amongst investors. The Asia Investor Group on Climate Change (AIGCC) – a network of 26 investors representing over over US$2.4trn of asset under management – expects “greater transparency from comprehensive corporate climate disclosure…to deal with the low-carbon transition and identify the business models that will potentially provide sustainable, long term returns.” Investors from the US, Europe and Australia have also used a variety of measures to push companies on climate risks, including shareholder resolutions, voting and divestment. Climate risks discussions are therefore set to intensify and deepen in 2019.
SFC has pledged “to enhance listed companies’ reporting of environmental information emphasising climate-related disclosure, taking into account the Mainland’s policy direction to target mandatory environmental disclosure by 2020, and aiming to align with the TCFD recommendations”. This, along with ESG discussions at events such as the Asian Financial Forum and HKIRA’s 10th Anniversary Summit, is expected to be the direction of travel and a strong signal of commitment from the regulator this year.
The UK’s Green Finance Initiative has been collaborating with China to pilot TCFD reporting, and to promote enhanced environmental information disclosures. As the level of participation develops and deepens amongst Chinese financial institutions, there will be more expectations on corporates to also improve its management and reporting of ESG issues.

The modern IR professional wear many hats – the need to be financially fluent, to have strong business acumen that cuts across business strategy and operations, and to possess articulate yet tactful communication skills required to build long-term trust with the investor community.

In similar vein sustainability professionals wear many hats too, yet our experience often points to sustainability being silo-ed. As the worlds of investor relations and sustainability coalesce more, collaboration will be key, not just between the two teams but across the organisation.

It is only through continued collaboration and communication that ESG issues can be effectively integrated throughout the business, not only to mitigate key risks, but to also exploit opportunities – ultimately for the benefit of the business and its investors.