ESG Rating Should Become the Basis for Improving Corporate Governance|Decoding China's ESG Rating

Since the entry of A-shares in 2018, ESG ratings and related issues have begun to become a hot topic in society, and stakeholders in various ESG ecosystems, such as regulators, investment institutions, academic and research institutions, technical service institutions and listed companies, have paid attention to them and carried out relevant work from their own perspectives.

On April 12, 2024, the Shanghai and Shenzhen North Stock Exchanges officially issued guidelines for the sustainability reporting of listed companies, which will be implemented from May 1, 2024. The guidelines require sample companies of the SSE 180 Index, STAR 50 Index, SZSE 100 Index and ChiNext Index and companies listed at home and abroad to disclose their 2025 sustainability reports for the first time by 2026 at the latest, and encourage other listed companies to do so on a voluntary basis. This marks a key step for China's A-share market to move from voluntary to mandatory disclosure of sustainability information.

While ESG has attracted much attention, it has also ushered in more questions. Can the rating reflect the real situation of corporate ESG? With many ESG rating agencies, how do investors and stakeholders choose and use ESG ratings?How can rating agencies ensure the accuracy and reliability of their ESG ratings?

CTI Testing & Certification Group Co., Ltd. (hereinafter referred to as CTI) was established in 2003 and has one of the first batch of certification bodies in China that have been approved and accredited by the state. More than 10 years ago, CTI began to lay out low-carbon, energy efficiency, green and sustainable business segments, and by June 2021, CTI completed and released the ESG ratings of the CSI 300 listed companies in the mainland market and the H-share listed companies in the Hong Kong market.

In this interview, Zhou Lu, vice president of CTI Group, said that the core purpose of CTI ESG rating is to truly present the management level and long-term value of the enterprise, and to provide direction and guidance for the management improvement of the enterprise. "Our observation shows that when companies pay attention to ESG ratings, they tend to focus too much on the rating results and ignore the specific ESG performance, which may lead to companies ignoring the core value of ESG ratings - promoting the company's sustainable development capabilities. ”

Build a foundation for ESG rating data

Southern Weekly: Under what background did CTI start its ESG rating service?

Zhou Lu: Most of the institutions involved in ESG rating services in the early stage have experience in sustainable development services or products before this. CTI has also carried out ESG rating services on the basis of more than ten years of sustainable development business.

Unlike sustainable business, ESG rating involves more structured indicators, and formulating a reasonable ESG rating methodology is the primary consideration in carrying out ratings. Due to the large number of ESG rating agencies and standards at home and abroad, and each with its own focus, it is not only necessary to refer to and benchmark internationally accepted ESG reporting frameworks and guidelines such as SDGs, GRIs, and SASBs, but also to continuously follow up ESG development trends and best practices to ensure the scientificity, comparability and applicability of rating methods and standards. The characteristics of CTI's ESG rating standards are that they take into account the two considerations of international mainstream standards and domestic local conditions, and the resulting rating results can be compared with the evaluation results of international rating agencies to a certain extent, so as to find out the reasons for the differences and help enterprises to further improve their management.

At the same time, due to the common problems in ESG information disclosure of A-share listed companies, such as incomplete coverage, inaccurate data, inconsistent standards, and lack of verification mechanisms, it is necessary to integrate multiple information such as independent releases, media reports, and research results of non-governmental organizations when collecting ESG rating data. In the early stage of ESG rating development, many institutions used Excel sheets as rating tools due to cost, and the data processing capacity and accuracy of results were limited. In order to better study the non-financial risks and ESG performance of enterprises, CTI has built an ESG database CTI-ESG DATA based on the rating methodology, becoming the first third-party ESG database to be launched in China.

Up to now, relying on the self-developed CTI-ESG database, CTI has rated the ESG performance of more than 3,000 listed companies in China's A-share market, covering the period from 2018 to 2023, covering all industries and segments, and providing investors with a full range of ESG information and evaluation services.

Southern Weekly: What factors does CTI consider in the setting of ESG ratings?

Zhou Lu: ESG risks and opportunities are different in different industries and regions, and the setting of ESG indicators should be based on the characteristics and needs of the industry, and relevant key issues should be selected and empowered to reflect the actual situation and development trend of the industry. For example, for industries with high pollution and high emissions, such as energy, materials, and industry, the weight of environmental factors should be higher, while for industries with high innovation and high services such as finance, technology, and consumption, the weight of social and governance factors should be higher.

CTI takes into account the influence of industry, region and other environmental factors in the setting of indicators, and on the basis of benchmarking with international standards, it has set up indicators with Chinese characteristics and industry characteristics: the indicators with Chinese characteristics take into account the development stage of Chinese enterprises, and formulate and screen out indicators that can reflect the ESG performance of Chinese listed companies, while the industry characteristic indicators are formulated according to the ESG requirements and specific practices of different industries. CTI's ESG rating index system is divided into four levels, deriving more than 300 underlying index factors, quantifying the index factor data according to the data of each factor and the weight of each index at different levels, and finally obtaining the ESG rating score of the enterprise.

Figure: CTI ESG Rating Methodology

Become the "mirror" of corporate sustainable development

Southern Weekly: How do you assess the problems encountered by companies in their ESG practices?

Zhou Lu: With the increasing global attention to sustainable development, more and more companies have begun to pay attention to ESG information disclosure as an important means to enhance their competitiveness and social responsibility.

However, most Chinese companies still lack attention and understanding of ESG ratings, believing that ESG ratings are not related to their core business, or are only to meet regulatory and investor requirements. This will lead to companies ignoring ESG risks and opportunities, and ESG practices lack the management of strategies and objectives, as well as effective evaluation mechanisms.

Enterprises need to have a deep understanding of the connotation of ESG, systematically understand their own sustainability level by analyzing the performance of ESG ratings, identify strengths and gaps, identify and improve ESG risks and opportunities, and formulate and implement more effective ESG improvement plans and measures. At the same time, enterprises should also understand that ESG practice is not just a matter of one department, but will involve the work of all personnel of the entire enterprise from the strategic level, management level to the executive level, and the enterprise needs to ensure it in terms of mechanism.

Southern Weekly: How can ESG ratings help companies improve their management?

Zhou Lu: In my opinion, ESG is not only a concept, a tool, but also a set of guidelines. ESG ratings are based on this set of standards as a "mirror" to present the management level and long-term value of enterprises for the reference and adoption of stakeholders, especially investors. From this perspective, ESG ratings provide a comprehensive perspective for companies to examine their own operations and management. Through the results of environmental, social and governance (ESG) ratings, companies can identify their own risks and problems in these areas, and then develop corresponding improvement strategies to improve their sustainability capabilities.

As an evaluator, in order to make ESG ratings a "mirror" that reflects the sustainable development ability of enterprises, it is not only necessary to have a solid data foundation, including databases and data assets, but also to have a deep understanding of the underlying logic of the data. As a veteran third-party organization, CTI provides various international management system certification services and low-carbon green energy efficiency professional services, which correspond to the content of ESG detailed indicators, and has an in-depth understanding of each key link of different departments of the enterprise from management to ESG practice.

Southern Weekly: Based on your observations, do companies with high ESG ratings have good ESG practices?

Zhou Lu: ESG rating is an assessment of a company's environmental, social and governance performance and risks, and different rating agencies and standards may have different methods and emphases, but they all try to measure the sustainability of a company's development. Companies with high ESG ratings are often able to use ESG to promote rapid changes in technology, markets, and society, and respond to uncertain and complex external environments. For enterprises that attach importance to ESG practices, ESG ratings have become an important driving force for their innovation and development, and by identifying ESG risks and opportunities, they can promote innovation and transformation in products, services, models, management, etc., so as to improve their ability to resist risks and adapt.

Of course, we also need to pay attention to the phenomenon of "greenwashing" of enterprises around the world. A study released in late 2023 by InfluenceMap, a nonprofit think tank, showed that Glencore, ExxonMobil and Stellantis giants were all lobbying for policies that conflict with their emissions reduction pledges. The report, which evaluated 293 companies on the Forbes 2000 list, found that nearly 60% of those with net-zero emissions or similar climate goals were at risk of "greenwashing" by lobbying for targets.

Enhance professionalism and promote the development of ESG ratings

Southern Weekly: What issues need to be paid attention to in the development of ESG ratings in China at present?

Zhou Lu: In 2023, the scale of ESG investment in mainland China will continue to grow rapidly, with the total scale increasing by 34.4% compared with 2022, hitting a record high. As of the end of 2023, nearly 140 institutions in mainland China have signed up to the PRI principles, and the development trend of ESG investment is good.

The underlying logic of ESG rating is to find companies with long-term investment value for the capital market, not only to be concerned by enterprises, but also to be "seen" by the capital market. However, for China's rating market, whether it is the impact on enterprises or the attention of ESG investment to rating agencies, ESG ratings do not match the development of ESG investment market, and more investors still pay attention to the ratings of international institutions such as MSCI, Standard & Poor's, and Morningstar Sustainalytics. Investment institutions still have concerns about the differences in domestic rating methods and index systems, the completeness of information capture, and the inconsistency of evaluation results.

In recent years, China's ESG information disclosure system has undergone a major transition from voluntary to mandatory, which has not only enhanced the comparability and reliability of China's ESG ratings, but also more effectively rewritten the situation that China's ESG ratings have long been on the margins of the investment community's vision and lack of trust. China's ESG ratings are increasingly becoming a "mirror" that maps the financial soundness and long-term sustainable development potential of Chinese companies, guiding capital to more accurately identify and support companies with excellent ESG performance.

Southern Weekly: Looking ahead, do you have any suggestions for the healthy development of the ESG rating market?

Zhou Lu: In the face of changes in ESG regulatory requirements, ESG rating agencies should deepen the professionalism of the rating system, continuously improve and enrich ESG data products, and provide support for enterprises to accurately identify and plan their sustainable development paths.

At the same time, it should be noted that in order for ESG ratings to effectively play their functions of presenting the deep value of enterprises and effectively screening ESG investment targets, it is obviously not enough to rely on the unilateral efforts of rating agencies, and the entire ecosystem, including investment institutions, needs to work together. Enterprises must build a solid ESG foundation and ensure that they meet high standards in environmental, social and governance by implementing sustainable development strategies and strengthening ESG information disclosure and transparency; rating agencies need to rigorously promote the scientific and impartiality of rating work, and ensure that the rating results are objective and accurate by continuously improving rating methods and strengthening data collection and analysis capabilities; Explore high-quality ESG investment targets and guide capital flows to companies with sustainable development potential.

When those companies committed to sustainable development can be "seen", they can hope to win more development opportunities and create greater social value. This is an ideal sustainable business cycle, and its successful operation requires the joint efforts and efforts of all stakeholders.

Southern Weekly researcher Yan Jing

Editor-in-charge: Sun Xiaowen