Introduction and Background
In the recent decades, the world has undergone significant transformations, largely driven by a series of global events such as the trend of de-globalization, the unprecedented COVID-19 pandemic, wars, and geopolitical conflicts. These events have initiated a ripple effect, causing shifts and changes in global investments and supply chain, and profoundly impacting investments, manufacturing, and the service industry worldwide. As a practicing lawyer based in China, I have personally witnessed these transactions in every aspect of my work, from daily interactions with stakeholder in various businesses and legal professionals in different jurisdictions.
Despite the various conflicts prevalent in military power, international trade, and values, one theme has consistently emerged as a common factor in legislative activities, economic activities, and academic research in most major jurisdictions. This theme is ESG (Environmental, Social, and Governance). ESG has transcended cultural and national boundaries to become a global consensus. In China, the importance of ESG issues is becoming increasingly prominent year by year, shaping both public discourse and government policies.
However, beneath this overarching consensus, individuals from different countries and regions still have divergent views on certain areas of ESG, such as human rights, forced labor, and gender issues, even environmental issues. Therefore, I would like to share my views on the development of ESG in China, the motivation of Chinese companies to improve their ESG performance both domestically and overseas, and the challenges they face. My goal is to provide an in-depth analysis on how these companies can navigate these complexities while contributing positively to society and the environment.
Part I: A Deep Dive into China’s Progress in ESG Legislation
From 2020 to 2024, China has made significant strides in ESG legislation. The country has introduced quite a few laws and regulations that demonstrate its commitment to environmental conservation, social development, and good governance. Here are some key developments:
1.1 Legislation on Environmental Protection: China has embarked on a comprehensive revision of its laws and regulations on the ecological environment. This has led to the establishment of a relatively complete legal system for ecological civilization. This includes an environmental protection legal system, with the Environmental Protection Law at its core, and pollution prevention and control laws for various areas such as water, gas, soil, solid waste, noise, nuclear and radiation. In terms of natural resource protection, there are laws such as the Land Management Law, the Water Law, the Forest Law, the Wildlife Protection Law, the Grassland Law, and the Wetland Protection Law. In terms of energy laws, a number of laws such as the Mineral Resources Law, the Coal Law, the Electricity Law, the Energy Conservation Law, and the Renewable Energy Law have been formulated successively.
1.2 Legislation on Sustainable Development: The Civil Code1 has established the green principle, stipulated the green development obligation of relevant subjects, put forward the behavioral requirements of green development, stipulated the responsibility system for guaranteeing green development, and formed a systematic green principle, system, and norm. Following the principles in the Civil Code, some cities with higher level of development have been exploring the green development in finance and other practices. For example, the Green Finance Regulation of Shenzhen Special Economic Zone, China’s first regulation on green finance, requires that listed financial companies registered in Shenzhen disclose environmental information, starting from 2022. China also launched a national emission trading scheme in 2021, which reveals the country’s desire to improve its environmental outlook and to win a sustainable future.
1.3 Legislation on Social Concerns: China has enacted several laws to protect personal rights and promote gender equality. For example, the Civil Code prohibits sexual harassment and protects personal rights, allowing victims to seek legal remedies including injunctions and compensations. The Women’s Rights Protection Law ensures equal rights for women in education, technology, culture, health, and sports, and prohibits any form of discrimination, insult, abuse, or violence against women. The Criminal Law stipulates penalties for sexual harassment and insult of women. The Labor Contract Law protects women’s rights during pregnancy, childbirth, and breastfeeding, prohibiting employers from terminating contracts or changing working conditions due to these factors. The Employment Promotion Law enforces an equal employment system, prohibiting employment discrimination. These laws collectively aim to safeguard personal rights and dignity in China.
1.4 Legislation on Governance: The Company Law of the PRC is the fundamental legislation applicable to all companies in China, and it has providing the baseline for company governance. And recently, China adopted significant amendments to the Company Law on December 29, 2023. These revisions to the Company Law aim to address loopholes in corporate governance and prevent financial risks. The revised Company Law will take effect from July 1, 2024. Further, securities Law of the PRC provides requirements for information disclosure and corporate governance procedures for public companies. And, the China Securities Regulatory Commission (CSRC) and stock exchanges in Shanghai, Shenzhen and Beijing respectively issue detailed provisions for listed companies’ governance issues, including the Governance Guidelines and Articles Guidelines. The above laws and guidelines play a crucial role in shaping the behavior of companies, promoting transparency, and safeguarding investor interests. The country continues to refine its corporate governance landscape to align with global standards.
1.5 Legislation on ESG disclosure: ESG reporting requirement is also evolving. A growing body of regulatory guidance for ESG reporting has been emerging in China, most of the developments have been fragmented and some of the guidelines remain voluntary, instead of compulsory. The Securities Law, amended on March 1, 2020, added a special chapter on information disclosure and a special chapter on investor protection, emphasizing that listed companies should fully disclose information necessary for investors to make value judgments and investment decisions. On Feb. 8, 2024, the three stock exchanges in China (in Beijing, Shanghai and Shenzhen) published the new guidelines for sustainable development reporting (these new guidelines are published for comments and do not come into force yet as of April 2 , 2024) which requires the listed companies included in certain indexes of Chinese capital market to disclose their sustainable development report on an annually basis, on or before April 30 of each year. And, in the sustainable development report, double perspectives are required, which means the financial sustainability perspective and the ESG impact perspective. However, the other non-index-included listed companies and the private companies in China are not required to report their performance in sustainable development. In comparison, the European Union has been proactive in creating mandatory frameworks for reporting ESG issues, while in China, companies face fewer mandatory but more voluntary disclosure requirements.
These legislative advancements reflect China’s commitment to ESG principles and its efforts to integrate these principles into its legal framework.
Part II: An Examination of Chinese Companies’ Performance and Challenges in ESG
2.1 Increasing awareness and efforts in ESG disclosure:
According to a survey2 of 262 executives from Chinese listed companies, around the end of 2023, over half (53%) of those Chinese listed companies have publicly announced their commitment about ESG. The disclosure of ESG information varies greatly among companies, depending on their industry, size, and other factors. However, it’s clear that Chinese companies are making significant strides in ESG reporting, with a growing number of companies voluntarily disclosing ESG information each year. I believe that the number of companies that disclose ESG reports will show an upward trend, especially after the relevant disclosure rules are becoming more and more well-established and the regulatory attention is closer.
According to a finance media and research institution’s report3, as of June 2023, a total of 1,714 companies listed on China’s A-share market have made commendable progress by disclosing their ESG (Environmental, Social, and Governance) information for the year 2022. This represents an impressive increase of 285 companies from the previous year, with the number of reporting companies accounting for 32.9% of all A-share listed companies, a growth of 3.3% from the previous year. Within these progressive 1,714 companies, 581 have published ESG reports, accounting for 33.9% of the total; 947 have released Corporate Social Responsibility (CSR) reports, making up 55.3%; and 82 have issued Sustainable Development (SD) reports, comprising 4.8% of the total. These companies have primarily disclosed their ESG information voluntarily or based on regulatory recommendations, rather than being compelled to do so. Notably, many Chinese companies have subsidiaries located overseas or conduct significant business activities abroad. Therefore, the ESG disclosures of these Chinese listed companies also encompass the ESG performance of these companies and their subsidiaries overseas. This demonstrates the growing commitment of Chinese companies to transparency and sustainable practices, contributing to a brighter future for all stakeholders.
2.2 ESG challenges faced by China-rooted companies when doing global business:
Some China-rooted companies have been developing international business and facing ESG challenges outside of China, including regulatory investigations, lawsuits, negative press reports.
A well-known example is TikTok. TikTok, a social media platform, has faced significant scrutiny in Western countries due to concerns over network security, data privacy, and human rights. TikTok faced restrictions and bans in several countries due to non-compliance with local laws and regulations.
Another example is Shein. Shein, a Chinese fast-fashion company, has faced several controversies in overseas markets due to its supply chain and low pricing strategy. Among them, Shein has been criticized for poor environmental sustainability, social justice, and corporate governance practices. The company has been accused of using forced labor in its supply chain and violating labor laws, wasteful environmental practices ingrained in its business model. Shein has reportedly filed paperwork for an Initial Public Offering (IPO) in the US around the end of 2023. However, some people believe that the company’s IPO process has faced challenges due to these ESG controversies.
These Chinese companies engaged counsels from China and other jurisdictions to assist them in handling the ESG related tasks. As a PRC practicing lawyer, I’ve also accumulated experiences, skills and observations when working on those ESG related tasks faced by my Chinese clients running global business.
Part III: Exploring Chinese Companies’ ESG Strategies in Global Businesses
As a PRC lawyer, I often work together with Chinese companies’ global legal team, as well as lawyers from many other jurisdictions, to help the Chinese companies to implement their ESG strategies, and to solve the ESG related problems and challenges. I believe, based on my experiences, the aforementioned representative cases provided several key lessons for Chinese companies looking to expand globally. Here are some of the key lessons.
3.1 Importance of Data Privacy and Security: TikTok has been accused of aggressive data harvesting, with concerns that user data could end up in China. This highlights the importance of robust data privacy and security measures for companies operating globally. In mid-March of 2024, the U.S. House of Representatives passed a bill to restrict TikTok by a majority, requiring Byte Dance to choose between selling TikTok to the United States and a ban of TikTok in the United States, which caused great controversy. In fact, not only does TikTok face a potential ban in the United States, but the Biden government recently reported that the import of Chinese electric cars may be banned, one of the reasons is that Chinese electric cars will collect information. Big data, computing power and algorithm are the three most important elements in the development of artificial intelligence in the foreseeable future, and the global business competition in the future will also focus on these three aspects. Many countries have been enacting laws and rules to restrict data collection and cross-border data transmission. In fact, the purpose of the discussion on global big data governance is to create an open, transparent and fair competition environment, which still has a long way to go. Thusly, companies should take the data protection as one of their most important topics of governance and get well prepared for a changing regulatory environment for data management.
3.2 Compliance with Local Laws and Regulations: Many bitter experiences of Chinese companies have underscored the need for Chinese companies to understand and comply with the legal and regulatory frameworks of the countries they operate in, and the potential consequences of non-compliance. For example, some of my clients doing construction business out of China have been debarred by multinational banks, due to the failure in compliance with the multinational banks’ regulations in biddings. These clients are paying heavy prices for the weak awareness of legal and regulatory frameworks in other countries and regions. But hopefully the adverse impact could turn out to be a drive for improving the
3.3 Transparency and Communication: TikTok’s shareholding structure, controlling rights and operational rights have been triggering some western countries’ concerns. TikTok’s crisis has also shown the importance of transparent operations and effective communication with stakeholders and regulators. Companies need to proactively communicate their policies and actions to build trust with users, regulators, and the
3.4 Human Rights Considerations: Allegations of human rights violations can have significant reputational impacts. Companies need to ensure their operations respect human rights and adhere to international standards. Companies have been impacted by the US’ Uygur Forced Labor Protection Act (UFLPA). For example, on June 9, 2023, the U.S. banned imports from China’s Ninestar Corp. laser printer manufacturer) and eight of its China-based subsidiaries4. The ban was instituted by U.S. Customs and Border Protection (CBP), a unit of the Department of Homeland Security (DHS), using authority prescribed under the UFLPA, 19 U.S.C. §1307, signed by President Biden on December 23, 2021. Some companies are now challenging this law, which requires companies to prove that no forced labor was involved in their supply chains. Before there is a material change in this law, Chinese companies still need to get prepared for challenges arising out of this law and other similar laws, regulations and policies from other jurisdictions. The Australian Modern Slavery Act entered into force on 1 January 2019 and requires companies to commit themselves to actions to address the risks of modern slavery in their businesses and their supply chains, in order to make an annual public report on their actions. New Zealand issued the Action Plan Against Forced Labor, Human Trafficking and Slavery in 2021, which outlines 28 actions to be taken by 2025. These actions are divided into three pillars: prevention, protection and law enforcement, and cover a wide range of topics, including awareness-raising and training, the elimination of modern slavery from the supply chain and the effective and efficient provision of support services to victims. On May 3, 2023, the Canadian Parliament passed the Bill S-211 Act (an Act to enact the Fighting Against Forced Labor and Child Labor in Supply Chains Act and to amend the Customs Tariff), which aims to reduce forced and child labor in the supply chain by improving the transparency of the supply chain. The first part of the Bill S-211 Act is the enactment of the Fighting Against Forced Labor and Child Labor in Supply Chains Act, which requires Canadian government agencies and specific enterprises to trace, document and report on forced and child labor in the supply chain in order to prevent and reduce the risk of forced or child labor in the operation of the relevant parties. The second part of the Bill S-211 Act is to amend the Tariff Code to prohibit goods exploited, manufactured or produced wholly or partly by forced or child labor from entering the Canadian market. In addition, some other jurisdictions have implemented similar modern slavery legislations. Companies must pay close attention to the modern slavery legislations applicable in their business locations, to avoid the direct risks from violation as well as the indirect risks of being eliminated from the supply chains.
3.5 Contingency Planning: Given the geopolitical tensions and regulatory uncertainties, Chinese companies need to have contingency plans in place. A contingency plan is an action plan that’s meant to help organizations mitigate the negative effects of risks. For example, there are some key risks that companies should prepare for, to improve the resilience: (1) supply chain shortages; (2) machinery breakdown; (3) failure for meeting the schedule; (4) breach by important business partners.
In conclusion, Chinese companies looking to expand globally can learn from the successful or bitter experiences of companies like TikTok. By prioritizing data privacy, complying with local laws, maintaining transparency, respecting human rights, and planning for contingencies, they can navigate the challenges of global expansion more effectively.
Part IV: ESG-related Challenges Faced by Foreign Invested Companies in China
4.1 Supply Chain Restructure Driven by ESG Concerns
Over the past few years, a confluence of global events, including the worldwide pandemic, trade and export control measures, geopolitical tensions, and clashes in principle of values, have posed significant challenges to foreign companies operating in China. These challenges have been further exacerbated by the rising manufacturing costs and uncertainties in China.
Since 2019, several Chinese companies have been sanctioned by the United States and the European Union due to allegations of “human rights violations” or “forced labor”. Products implicated in “forced labor” have also been detained at customs in the EU and the US, preventing their importation or integration into the supply chain systems of Europe and America. As a result of the above, many of these companies have been compelled to relocate their supply chains to other countries, such as those in Southeast Asia.
For example, multinational companies such as Tesla and Amazon have also experienced supply chain shocks, given that such a large portion of international trade is processed through Shanghai. These shocks, coupled with increasing scrutiny over human rights issues, have led some companies to consider moving their supply chains out of China. Apple has been encouraging its suppliers to move production out of China. Parts of the iPhone’s production lines have been moved to India, some MacBooks are now assembled in the U.S, and Vietnam has been rising as an essential hub to produce Air Pods. Samsung stopped its smartphone manufacturing in China in 2019, and its TV and PC factory in 2020. Its global production is now based in Vietnam. Adidas, along with other major brands like BMW, Gap, H&M, Inditex, Marks & Spencer, Nike, North Face, Puma, and UNIQLO, have been implicated in reports on forced labor of ethnic minorities from Xinjiang, assigned to factories across provinces. This has led to increased scrutiny and pressure on these companies to ensure their supply chains are free from forced labor. These examples illustrate the complexities and challenges involved in supply chain relocation. They also underscore the critical role of legal services in navigating these transitions.
During this process of supply chain relocation, these foreign enterprises may encounter a host of derivative issues. These include the closure of their factories in China, layoffs of workers, sale of company assets, and even liquidation. These issues, in turn, have led to an increased demand for legal services.
4.2 Costs are Rising to Satisfy the ESG Regulatory Requirements in China
For those companies that choose to continue their development in China, they may need to consider the increasing costs for their business in China in response to the rising regulatory requirements in ESG.
For example, BASF, a German company, is committed to ESG reporting in China. One of the environmental challenges they face is adhering to China’s ambitious climate goals, such as a sharp reduction in CO2 emissions by year 2030 and achieving climate neutrality by year 2060. This requires significant investment in green technologies and practices.
Similarly, Disney has also faced environmental challenges in China. To comply with China’s increasingly stringent environmental regulations, Disney has had to make substantial investments in upgrading their facilities and operations. This includes implementing waste management systems, energy-efficient technologies, and other environmentally friendly practices.
These examples highlight the significant investments that foreign companies must make to comply with China’s environmental regulations. Failure to comply can result in penalties from the environmental authorities or even production stoppages. Therefore, it’s crucial for these companies to continuously invest in equipment upgrades and other measures to ensure compliance. The increasing cost may bring pressure to some of the companies, but such investment will facilitate the sustainable development, which may in turn improve the long- term performance of the companies.
4.3 ESG is Driving the Transition from Traditional Industries to New and Sustainable Industries In the contemporary era, traditional industries that contribute significantly to environmental degradation and high energy consumption are increasingly recognized as incompatible with the global push towards sustainability. These industries directly contradict the principles of Environmental, Social, and Governance (ESG), which stress the importance of sustainable business practices that respect the environment, society, and strong corporate governance. Furthermore, they conflict with the long-term goals of humanity, which encompass preserving our planet for future generations and promoting social and economic Hence, the upgrade and replacement of industries are imperative to align with these goals. Outdated, conventional industries must be phased out and replaced with more advanced, sustainable ones. However, this transformation process is not without its challenges. Both companies and stakeholders face various difficulties during this transition.
For instance, during the transition to new industries, companies often face the predicament of job losses, especially for workers who lack the skills or expertise needed in the new industries. In these instances, companies are obligated to provide these workers with adequate compensation, which can be a substantial financial burden. Companies may need to pay large severance packages to laid-off employees, which can severely strain their financial resources. Additionally, companies may have to dispose of obsolete production equipment at low prices, further impacting their financial health. The machinery and equipment used in traditional industries may have little to no value in the new industries, resulting in companies selling their assets at a loss. In some cases, the costs of transitioning to new industries can be so high that some companies may not be able to bear them. Bankruptcy may be the only feasible option for these companies, further highlighting the potential financial challenges involved in the transition.
We are glad to support foreign-invested companies in facilitating their transitions in China. One example is the US industrial giant, General Electric (GE). GE has made significant commitments towards ESG goals, aiming to achieve carbon neutrality across its operations by 2030. As part of this commitment, GE announced its decision to exit the market for coal-fired power plants, a traditional industry, and instead focus on greener alternatives.
As part of this strategic shift, GE decided to shut or sell sites as it prioritized its renewable energy and power generation businesses. This commitment, which covers more than 1,000 facilities worldwide, focuses on new operational investment, waste elimination, and smart power sourcing. Among these changes was the decision by GE to sell its shares in a subsidiary in China, Wuhan Boiler Company, which primarily manufactured boilers for thermal power plants. The move was driven by GE’s strategic shift away from the thermal power market, rendering the subsidiary no longer valuable but rather a burden to the company.
The process of selling the subsidiary was far from straightforward. Given the declining attractiveness of the thermal power sector, it took us a considerable amount of time to find a suitable buyer willing to take over the operations of Wuhan Boiler Company. Moreover, the transaction involved more than just the transfer of ownership. We had to address a myriad of issues to ensure a smooth transition and to secure the approval of the local government. How to communicate with the stock market is also critical and challenging in this case because Wuhan Boiler Company is a public company. These issues ranged from employee resettlement to community stability. We had to engage with local government officials, community leaders, shareholders and other stakeholders to address their concerns and to ensure that the transaction would not adversely affect the community.
Despite these challenges, the upgrade and replacement of industries are crucial for the long- term sustainability of our economy and society. Companies and other stakeholders must be prepared to face these pains in order to achieve the greater good of environmental preservation, social equity, and sustainable economic growth. The transition may be painful, but it is a necessary step towards a more sustainable and equitable future.
Part V Chinese Legal Professionals’ Services in ESG
Chinese companies and foreign-invested companies in China or conducting China-related business often require advice from Chinese legal professionals on various ESG aspects. These services include reviewing and advising on ESG disclosure, assisting companies in investigations, litigations, and arbitrations triggered by ESG-related issues, helping advance the ESG management rules and procedures internally, monitoring and improving the ESG performance from a legal perspective, and providing assessments on the legal risks of certain ESG-related events or transactions.
Some Chinese legal professionals are encouraged to explore ESG, a very promising area with booming opportunities for Chinese legal professionals to cooperate globally with legal professionals from other jurisdictions, consulting firms, credit rating agencies, and so forth. As a result, legal professionals may not only need to improve the knowledge and skills in law and the changing legislation in different jurisdictions, but also the understanding of the business and technologies, for example, the carbon emission and carbon transaction, new energy and related business sectors. I believe the cross-border cooperation in ESG provides opportunities for legal professionals to get deeply involved in making a more sustainable future and contributes significantly towards global environmental preservation, social equity, and sustainable economic growth.
Footnote(s):
1 PRC Civil Code was published in May 2020 and took force since January 1, 2021.
2 Beyond rankings: charting the course of ESG in China (daxueconsulting.com) https://daxueconsulting.com/esg-in-china/
3 https://finance.sina.com.cn/esg/2023-09-05/doc-imzksaax8420662.shtml
4 Ninestar: Printers and Politics Don’t Mix • The Imaging Channel: https://theimagingchannel.com/ninestar-printers-and-politics-dont-mix/