Sustainable Investment in China
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Sustainable Investment in China

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Jeremy Prepscius, Managing Director - BSR - People's Republic of China ...

Jeremy Prepscius, Managing Director - BSR - People's Republic of China

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  • Good morning, everyone. It’s a great pleasure to be here. I’d like to thank TBLI to provide us this opportunity to allow us to connect to each other and share views and experiences. Today my presentation’s topic is social investment in China. As we are going to discuss about China the whole day, I’d like to start my presentation with a brief introduction on the history of modern China’s financial market . I believe that it will help us better understand the reality of doing business in China and more accurately interpret social investment in China.
  • Modern China’s financial market has a short history, which is about 30 years. For the sake of simplicity, we can distinguish three major phases of the development . The first phase is the establishment of banking market. It started since 1979. Before 1979, the whole financial system has only one bank, which, the People’s Bank of China (PBOC). It served both as a central bank and as a commercial bank, controlling about 93% of the total financial assets of the country and handling almost all financial transactions. It’s result of central planned economy . In 1979, China implemented opening up policies and economic reform . Four state owned banks have been set up and took over commercial business from the People’s Bank of China. The second phase is the establishment of capital market. The key milestone is the formation of two stock exchanges, Shanghai and Shenzhen stock exchanges. Two years later, China Securities Regulatory Commission has been consolidated to supervise the capital market. The third phase is the establishment of legal system. With both banking market and capital market in operation, number of systematic problems emerged. To develop the discipline of the market, China accelerated legislation since 1998. The promulgation of securities law formalized the legal status of capital markets. Afterward, the government also set up a few supervision bodies to oversea different segments of the financial market. This is the short history of China’s financial market. Each phase of the development lasts around 10 years. The beginning of the development was difficult. It started from scratch. ( and it required transmission from a central planned economy to a more market oriented economy.) Before 1979, China’s financial system consisted of a single bank, the People’s Bank of China (PBOC), a central government owned and controlled bank under the Ministry of Finance, which served as both the central bank and a commercial bank, controlling about 93% of the total financial assets of the country and handling almost all financial transactions. After 1979, with China’s opening up and economic reform, the China’s financial market had a real development. Bank of China (BOC): specializes in transactions related to foreign trade and investment Construction Bank of China (PCBC): handle transactions related to fixed investments in manufacturing Agricultural Bank of China (ABC): deal with all banking business in rural areas Industrial and Commercial Bank of China (ICBC): took over the rest of the commercial transactions of the PBOC Another key milestone in the phases is that the Chinese government allowed foreign banks to set up branches in Special Economic Zones (SEZ) in Shenzhen, and in 1985, the Chinese government also legalized their status in the SEZ. Afterward, China enter a quick banking market development. The second phases started by establishing the two stock exchanges [the Shanghai Stock Exchange (SHSE) and Shenzhen Stock Exchange (SZSE)] in December 1990. This is the beginning of China Capital market. Then later on, In Oct 1992, China consolidated the supervision of capital markets and established China Securities Regulatory Commission (CSRC). With the banking and capital market started operating, Chinese government then accelerated its speed on legislation. In 1998, also the start of the third phases, the government promulgated Securities Law. With the issuing of the law, the legal status of China’s capital markets in economy was formalized and strengthened. After that law, there were a number of China Capital market laws released. Another major change is in 2005, when the government initiated reforms on security market, and made non-tradable shares tradable. (Before 2005, state-owned [33.1%] and legal person-owned shares [16.7%] could not be traded on stock exchanges. ) This aligned the interests of large shareholders with that of outside shareholders
  • The financial market developed with Chinese Characteristics. Nowadays, there are two interesting and unique features associated with the market . First, financial market is quite young but growing rapidly . Banking market has only 30 years history, however, its total outstanding loans reached USD 6.7 trillion in 2009, Chinese Bank – Industrial and Commercial Bank of China had became the world’s largest bank in terms of market capitalization and also it is the most profitable lender in 2009. China’s securities market has only 20 years history, but the equity market capitalization has achieved 3 trillion USD in 2007, and Shanghai Stock Exchange has overtaken Hong Kong in terms of market capitalization, became the 6 th largest exchange in the world. China’s legal system has only 10 years history but there are over 160,000 government officials working in this field. All these numbers and facts show that rapid growth. However, there are outcome and issue associate with fast growth, which is less advanced infrastructure and less solid foundations. In banking market, you see loophole in risk management. In securities market, there lacks of independent research and analysts. In legal side, you can find the good laws but the enforcement remains week. If you think about sustainable development, it is also the case. Western countries had 150 years history of industrialization, and had luxury to develop civil society to be professional and efficient and to have the structures to counter ESG problem as they developed the economy . In China, NGOs is new and is really small, has not become the force to balance environmental, social interests and economic development. As opposite to western circumstance, civil societies are not the driving force for sustainability. But the government. This is actually link to the second feature. Which is government in China play a large role in the society. From financial angle, the government is not only the regulator but also the shareholder. According to statistics, 33% public shares in Chinese markets was state owned. Thus, for many companies, the government are their controlling stakeholder and biggest stakeholder. In other words, if you want to make the companies change, the best way and the most efficient way is to engage with their biggest stakeholder – the government. The power is centralized in government side. The outcome is top-down approach works in China. Sustainability development requires to change on corporate behaviors. To make this happen, government’s commitment and buy in are necessary.
  • Now, I would like to focus on today’s topic. Social Investment in China. Recently, we finished a study on Sustainable Investment in China. It was collaboration with IFC. The goal of the study is to investigate the current state of SI market in China and also provide recommendations on intervention solutions to stimulate the market. The study is part of IFC’s multi-year program which is to stimulate SI in developing countries. China report is the third one in the row, and this year we are conducting the fourth one with IFC in middle east and north Africa region.
  • Our methodology of the study is to map the social investment supply chain. For OECD countries their supply chain is quite well developed. A healthy and sustainable ecosystem was created. There are group of asset owners who hold sustainability mandate, and they tend to ask their asset managers to apply responsible investment principles and invested in better ESG performers, and the business on the other side are encouraged to enhance their ESG management to attract more long-term investment. In addition, there are learning network are helping both investors and companies to engage with sustainability factors. Let’s review it. First of all, there are group of investors in western countries holding sustainability mandates. They include pension funds, insurance company reserve funds, mutual funds, endowments & foundations, and high net worth individuals. They sign contract with asset managers and ask asset managers to embed their value into the investment practices. And also some of the asset managers hold the value too and develop products/services to meet the needs of these assets owners. Two extraordinary cases are showed here: Al Gore’s Generation investment, and Goldman Sachs, who do have robust SI methodologies and outstanding performance. And also many excellent asset managers are sitting with us today and later they will share their stories and methodologies. These asset managers are not working alone by themselves. These investors are got assistance by external consultancies and research agencies. There are independent ESG research agencies, such as EIRiS, RiskMetrics who brought Innovest and KLD recently, and Asset 4. Apart from that, You have more sell-sdie analysts providing ESG information beyond financial data. Then, you also have sustainable index providing benchmarking. The two most famous one are FTSE4Good and DJSI. In the same time, securities exchanges and financial market regulators tends to ask listed companies to release more ESG information. (And financial regulators ask some public fund to comply with SI mandate or explain their practices.) All of these investors’ practices are sending signals to business and it influence their ESG behaviors and also how they communicate their sustainability issues with investors. Finally, a good number of voluntary principles and learning network are helping both investors and companies to engage with sustainability factors. It includes PRI, GRI, CDP, Global Compact. – engage with investors to mainstream SI, and also engage with companies to improve their ESG practices. With this sustainable investment supply chain in place, it creates a healthy and sustainable ecosystem where SI investors tend to make investment in companies with better ESG performance and companies are encouraged to further improve their ESG performance due the market premium. Two profound index include FSTE What’s the best practices in these areas.
  • After review of the western SI supply chain, let’s look what we got in China. Actually, our study found a number of encouraging cases, although the market is nascent and the SI supply chain remains undeveloped. In the pension fund sector, though annuity pension funds showed limited interest to SI, the National Social Security Fund listed responsible investment as one of their four core investment principle. In insurance sector, China reinsurance applied negative screening on their investment. Industrial fund and CCB-Principal mutual funds launched the first two social responsible open-end funds in China. Among, qualified foreign institutional investors, STB and Norwegian Pension Fund are applying ESG investing in their China investment. Apart from the investors, the Chinese government also launched innovative policies. They attempt to leverage financial means to support improvements in corporate environmental performance. In 2008, the Chinese regulators introduced green IPO policy, which require companies in certain sectors to pass stringent environmental criteria before being allowed to IPO. and both Shanghai and Shenzhen exchanges stipulate that companies in certain sector needs to issue CSR reports. Also Shanghai exchange set Social Responsibility Index 2009 August, aiming to provide investors a new benchmark and to promote SI concept. On alternative investment side, Tsing Capital, the leading private equity in China, has fully integrated ESG factors into their investment process, from due diligence to monitoring to engagement. They are with us today. During the course of our research, we also found an interesting phenomena that civil society begin to play a role in this field. Here are two cases. One is about Gold East Paper – subsidiary of APP, IPO. Friend of nature, Green Watershed and several other environmental NGOs raised objection to Gold East Paper’s IPO. In light of the evidence they provided, the government repeated the environmental auditing. Also, Bank Track is an international NGO tracking financial institutions and release their dodgy transactions through their website and newsletters. So these days, civil society start playing watchdog role and become increasingly active in this area. They try to pass general public’s expectations to financial institutions. Though we do have a number of encouraging cases, there are weak links in this supply chain. First, the size of sustainable investment is still very small and is hard to make impact to the market. SI has not been adopted by mainstream investors yet. Second, most of investors had not use their shareholders’ power to engage with companies on environmental and social issues, and there is no Chinese proxy voting service company in the market yet. Also, China lacks ESG research and research organizations. Finally, the Chinese companies lack capacity to collect and disclose their ESG data, many of them are also not used to communicate their ESG issues with investors. Gold East Paper – APP subsidiary Green Water Friends of Nature Global Village Green Earth Green Watershed Civil Society Watch Greenpeace
  • The key finding of the presentation are three-folds First, SI is a nascent market in China. Secondly, through talking with the domestic SI investors, we found their SI approach primarily focuses on governance and compliance. Their ESG criteria emphasize on compliance with the law, tax payment and cooperation with government, This is in line with the way of doing business in China, and the top-down approach we mentioned earlier. And SRI domestic investors also tend to believe the relationship with government is important to corporate long-term development. Though these investment methodologies are not that sophisticated, it is a good start and also a homegrown methodology which is consistent with Chinese context. Thirdly, the current SI development is early signs of a growing market in China. While I am saying that, I often got people challenging me. They said that it could be just a flash in the pan. But my other part of job in BSR told me that this is not a flash in the pan. More and more Chinese companies are improving their ESG performance, and integrating ESG issues in their business strategy. For instance, we worked with China Mobile over last three years on CSR. They now had set up CSR risk management system and build the basis of CSR culture all over the company. In addition, there are private companies focused on ESG issues. Last month, I had the opportunity to talk with Broad Air CEO – Mr. Zhang Yue. He said that he was top 10 richest person in mainland China ten years ago, but now he is not even the top 500. His friend asked what happened to you – he said that he wants a healthy and sustainable company rather the biggest company. He want to develop most greenest products rather than cheapest products. All these tell us that today’s Chinese entrepreneurs are changing, becoming more prudent. Chinese companies are moving up the value chain . These change will eventually influence investment market. And investor who stay ahead of the curve will benefit from the change.
  • Now, I would like to share with you what BSR is doing in social investment market in China.
  • Many of you may already aware of, BSR is a non-profit, business membership advisory organization. Our mission is to work with business to create a just and sustainable world. We have 7 office globally, and three of them are in China – Beijing Guangzhou and Shanghai. In total, we have around 100 employees. In terms of CSR advisory org, we are fairly big. Offices in DC, San Francisco, New York, Guangzhou, Beijing, Hong Kong and Paris Founded in 1992 Not-for-profit, business membership advisory organization Board composed of executives from Fortune 500 companies 100 employees Goals Place responsible business practices at the core of the strategies and practices of the world’s leading companies Be a leading provider of innovative business solutions building towards a just and sustainable global economy
  • Our approaches are simple. Based on our member’s needs and demands, we provide consulting services, research and cross-sector collaborations. Independent researches and help business stay ahead of curve
  • We have about 250 member companies. They spread in different sectors. And this slide illustrates our member in financial services sectors. I do think that we have some bias on CSR and we are working with some fairly large companies and fairly leading companies in CSR area. Two ways to work with financial companies Ensuring the company is managing its own social and environmental issues in a sustainable and ethical manner. This includes: Reducing impact of operations Product related issues Transparency and engagement Access to finance and financial education Strategy and materiality Sustainable investment Work with the financial companies to leverage their role in driving corporate ESG and Sustainability performance
  • As for ESG service offering in China, we are trying to be strategic, and trying to use our services to address key challenges of development of social investment market. The first challenge which we focus on is lack of awareness, so we conduct awareness raising and promote the concept of social investment. We are trying to get buy-in not only from both private but also public sector. Secondly, we attempt to focus on the challenge of lack of ESG data and research in China. Chinese companies are like black box. No body knows what happened with them. To this issue, We provide investor the services of ESG news screening, which is to screen ESG news of Chinese public companies and help investor to make more responsible investors. The third challenges which we targeted is lack of ESG capability and skills. As BSR works with many companies in real sector side, we try to leverage our skills and help investors to engage with their portfolio companies.
  • On awareness raising side, we do three things, Firstly, We organize investor workshop and seminars, we get government, investors and NGOs together to discuss about the concept of SI and promote business case of social investment. Secondly, we launched sustainable investment in China Quarterly newsletter, which is supported by UN PRI and they contribute one article to each issues. It is a bilingual newsletter. Thirdly, we conduct independent research and analyze investors perspectives on ESG issues and also identify material issues in different sectors for investors. The key lessons learned from the one year awareness raising process are two. First, it is a long term process. Many mainstream domestic investors have not yet moved from the what and why to the how yet. Secondly, confusion over terminology slows market uptake: like English terms on ESG, there are also many Chinese terms around ESG investing, there are about social investment, responsible investment, green investment. Some of people even think social investment is about investment in cleantech. In one workshop, we got a feedback from a government official. She said, without a clear definition, people would tend to ask what social investment is and why it is important and the government would be skeptical to promote it in China. Thus, building consensus is essential. BSR will also keep playing our role and working on it. We also welcome other organizations to work with us on this.
  • Our ESG news screening services target the issue of lack of ESG data. We monitor and screen the news of Chinese public companies, and provide the information to investors on regular basis. This slide lists the range of the ESG issues we covers, from environmental policies to climate change, to labor compliance to corporate governance issues. The key lessons learned in this work is: first negative news are limited and do disappear sometimes. The negative news are normally less than 20 percent of all news we identified . And we found the cases that some negative news were taken out of the webpage after a few days they are released. So our strategy is to download the whole articles once we identified negative news. Secondly, we found that Chinese government is raising the bar on ESG. In the past 6 months, Chinese central government introduced 16 ESG related regulations and laws in total. They are making extensive efforts to increase level of details on requirements and they remove loopholes in legislation. Which is making it increasingly difficult for companies to commit violations, and also increase the cost for non-compliance.
  • Our ESG engagement services are mainly provided to private equities. They are more active investors. The aim of the services is to facilitate private equities to engage with their portfolio companies and help their portfolio companies to improve their ESG performance. The work is normally divided into three steps – First, learning of client – the PE’s responsible policy and objectives. Second, conduct ESG assessment of their portfolio companies and identify of priority issues, these include documentation review, field-visits, ESG analysis and reporting. (many of the data collected here also could be the input to the report to LPs) Third, after reviewing the ESG assessment report, we partner with PEs and other stakeholders of the company and initiate engagement programs. The key learning here is: Letting the candidate companies understand the consequences are more important than providing them solutions. We made a number mistakes in the past. We provide the companies the solutions right after issue identification. However, they did not take our suggestions. Then, we change our approach. We work with them and identify priority issues and ask them what the consequences will be if they don’t address it. When the companies realize how serious it will be, they turned to us and ask for resources and solutions. Therefore putting the companies into the driving sit is very important. This is about my presentation and our works in China. Welcome any questions you may have.
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Transcript

  • 1. Sustainable Investment in China 28 May 2010
  • 2.
    • Brief History of
    • Modern China’s Financial Market
  • 3. Three Phases of China’s Financial Market Phase I (1979-1989) Establishment of Banking Market Phase II (1990-1997) Establishment of Capital Market Phase III (1998-Present) Establishment of Legal System 1949 People’s Bank of China (PBOC) , served as both the central bank and a commercial bank 1979 Four state owned banks established and took over PBOC’s commercial business 1982 Foreign banks were permitted to set up branch offices in SEZ 1985 Govn’t legalized the status of foreign banks The Shanghai Stock Exchange, and Shenzhen Stock Exchange have been formed 1990 1992 To consolidated the supervision of capital markets, China Securities Regulatory Commission was set up 1998 The promulgation of the Securities Law formalized the legal status of capital markets in economy. 2005 Govn’t initiated reform that made non-tradable shares tradable , aligning the interests of large shareholders with that of outside shareholders China established China Insurance Regulatory Commission China established China Banking Regulatory Commission. 2003
  • 4. Development with Chinese Characteristics
    • Young but growing rapidly
      • Banking market has 30 years history, but
        • Total outstanding loans reached USD6.7 trillion (2009)
        • ICBC became the world’s largest bank in terms of market capitalization, and the most profitable lender (2009)
      • Securities market has 20 years history, but
        • Equity market capitalization has achieved USD 3trillion (2007)
        • Shanghai Exchange has overtaken Hong Kong in terms of market capitalization, became the 6 th largest exchange in the world
      • Legal structure has 10 years history, but
        • China have over 160,000 governmental officials working in this area (2008)
    • Outcome: Less advanced infrastructure
    • Not only regulator but also shareholder
      • Govn’t ownership is common (33% public shares were state owned in 2005)
    • Outcome: Top-down approach
  • 5.
    • Sustainable Investment in China
  • 6. Report: Sustainable Investment in China 2009
    • Objectives
    • Investigate current state of sustainable investment market in China
    • Develop recommendations to stimulate this market
    • Scope
    • Investment in public equity & private equity in mainland China
    • A share market + ADRs
    • Research methodology
    • Desktop research
    • Around 100 interview with government agencies, institutional investors, asset managers, equity research, academic and civil society.
    Source: EuroSIF. “SRI Study 2008.”
  • 7. Sustainable Investment Supply Chain Voluntary principles & learning network Financial market regulators Securities exchanges Insurance company reserve funds Mutual funds Pension funds Endowments & foundations Asset Managers Buy-side research Listed equities Alternatives (Private equity, real estate, etc.) Sell-analysts (broker/dealers) Independent research Stock ownership services e.g. proxy voting Rating agencies & sustainable indexes C O M P A N I E S High Net Worth Individuals
  • 8. Investment Supply Chain Mapping Financial market regulators Securities exchanges Insurance company reserve funds Mutual funds Pension funds QFIIs Asset Managers Buy-side research Listed equities Alternatives (PE) Sell-analysts (broker/dealers) Independent research Stock ownership services e.g. proxy voting Rating agencies C O M P A N I E S Civil Society Tsing Capital NSSF STB Norwegian Pension Fund Industrial Fund China Reinsurance SSE-SRI CCB-Principal Green IPO Policy & CSR Reporting
  • 9. Key Findings
    • Sustainable Investment (SI) is a nascent market in China.
      • SI is still a niche play rather than mainstream strategy
      • SI supply chain has not formed yet, and the market currently remain undeveloped
    • Chinese homegrown SI mythologies primarily focuses on compliance and governance.
    • The current SI development is early signs of a growing market in China.
  • 10.
    • BSR Overview
  • 11. We work with business to create a just and sustainable world We have worked in more than 70 countries from six offices in Asia, Europe, and North America San Francisco Beijing Guangzhou Hong Kong New York Paris Washington DC Languages & Dialects Spoken: Cantonese Dutch English French German Guarani Hindi Italian Japanese Kannada Lao Mandarin Portuguese Russian Shona Spanish Swedish Tagalog Taiwanese Thai Urdu Vietnamese
  • 12. The BSR Approach Member Network Cross-sector Collaboration Consulting Services Research & Innovation
  • 13. Member Network : More than 250 BSR member companies
    • Sample member companies
    • The Allstate Corporation
    • American Express Company
    • ANZ Banking Group
    • Barclays Bank PLC
    • The Bank of New York Mellon
    • Calvert Group, Ltd.
    • Citigroup Inc.
    • General Electric Company
    • Kohlberg Kravis Roberts & Co.
    • The Redwoods Group
    • Risk Metrics Group, Inc.
    • Rockefeller & Company
    • Standard & Poor’s
    • State Street Corporation
    • Sumitomo Trust and Banking Co.
    • Tsing Capital
    • Visa USA, Inc.
    • Wells Fargo & Company
    Industry Focus Areas Agriculture, Food, and Beverage Consumer Products Energy Financial Services Information and Communications Technology Media and Entertainment Mining and Minerals Pharmaceuticals and Biotechnology Transportation and Logistics Travel and Tourism
  • 14. ESG Services in China
    • Strategic Focuses:
    • Awareness Raising
    • ESG News Screening
    • ESG Engagement
    • BSR works with financial institutions to develop sustainable business solutions, and customized support
  • 15. Awareness Raising
    • What We Do:
      • Investor workshops/network
      • Sustainable Investment in China Quarterly Newsletter with support from UN PRI
      • Independent research:
        • Word from The Street” Issue Briefs on investor perspectives on Toxicity and Health (Apr 08) and Water (May 08)
        • ESG: Moving to Mainstream Investing? (Aug 08)
        • ESG in the Mainstream: The Role for Companies and Investors in Environmental, Social, and Governance Integration (Sep 09)
        • Sustainable Investment in China 2009 (Oct 09)
    • Key Learning:
      • It’s a long term process
      • Mainstream domestic investors have not yet moved from the “what” and “why” to the “how”
      • Confusion over terminology slows market uptake
      • “ Without a clear definition, people would tend to ask what SI is and why it is important; and the government would be skeptical to promote it in China” – a government official
  • 16. ESG News Screening
    • What We Do:
      • Screen and classification of ESG news, and providing regular and flash reports
      • What we look at:
    • Key Learning:
      • Negative news are limited and do disappear sometimes
      • The Chinese govn’t is raising the bar on ESG regulation.
      • In the past 6 months, central govn’t introduced 16 ESG-related regulations and laws, making extensive efforts to increase level of detail on requirements and remove loopholes in ESG legislation, which will make it increasingly difficult for companies to commit violations in these areas.
    • Environment:
    • Environmental management and policies : standards, polluting control, waste & recycling, etc
    • Environmental legal compliance
    • Ecosystem impact
    • Climate Change: awareness and reporting, carbon emission, energy efficiency, green products
    • Social:
    • Labor management and standards
    • Healthy and Safety compliance
    • Human rights
    • Community relationship and philanthropy
    • Governance:
    • Commitment and standards on governance
    • Minority shareholder rights
    • Transparency and disclosure
    • Control environment and process
    • Business integrity
  • 17. ESG Engagement
    • What We Do:
    • Key learning:
      • Letting the candidate companies understand the consequences are more important than providing them solutions
    1 2 3 1 Learning of client responsible policy and objectives
    • Conduction of ESG assessment and identification of priority issues
    • Desktop review
    • Field-visits and interviews
    • ESG analysis and issue prioritization
    • Documentation and reports
    • Engagement with candidates
    • Preparation proposals
    • Partnership with stakeholders
    • Initiation of engagement
  • 18.
    • Thank you!