As more investors turn their gaze and funds towards China, they will be simultaneously assessing the companies’ growth on the Environmental, Social and Governance (ESG) front. However, do the ESG frameworks commonly applied to the West also work in China?
While some metrics are easily classified into ‘positively’ or negatively’ affecting ESG ratings, such as the reduction of carbon emissions being positive and the use of the child labour being negative, gray areas exist that can make an investment beneficial or harmful based on economic and social aspects of different nations.
For example, China has drawn plenty of criticism for being responsible for 27% of the world’s greenhouse gases (2019). However, other countries shifting their manufacturing to China is what has made it the world’s factory. Should different standards then be applied to China, in the context of providing products to the rest of the world?
Another example would be working hours. Would an investor simply rate long hours negatively or base the rating on how such actions might affect the sustainability and financial rewards of the investment? Long working hours may not always signify employee disgruntlement and unsustainability if there are mitigating factors such as good wages, housing and medical compensation that would make them content with the job.
This would be particularly true for China where mass migration from rural regions to cities has been fuelled by a desire for a better material standard of living, and spending more time at work is simply a cultural norm. These considerations affect the weightage of different factors, and so we believe a framework that is more specific to the Chinese market must be put in place.
Looking at how the emphasis in ESG differs by geography, investors focusing on the Chinese market may have trouble finding a framework or rating that fits their aims.
Partnering with APS Asset Management, a firm with multi-decade experience in fundamental analysis of Chinese companies, Nexus FrontierTech has developed a platform that allows organisations to use their own investment frameworks and knowledge expertise to craft a scoring methodology more suited for their workflow. The platform is able to take in custom requirements and assign more relevant factors and weightages to be considered for a comprehensive analysis when assessing a company.
Some unique features of this customisability and its impact are listed below:
Across industries, different factors are given differing levels of importance. Consider carbon emissions. Having low carbon emissions might be much more important to a company in the ‘Oil and Gas’ industry, given that it produces a lot of polluting materials, compared to a firm in the ‘Information Technology’ industry. Hence, a different weightage can be assigned to the different industries, carbon emissions could constitute 80% of the overall score in ‘Oil and Gas’ but only ‘10%’ in ‘Information Technology’. With a third-party ratings company, such customisation would not be possible.
By deciding which factors to consider in the analysis, and what weightage each factor has, the company can then receive a comprehensive single score or band that can help in investment decisions.
To ensure qualitative developments and any changes after the annual reports are published are accounted for, News Crawlers are used to extract the latest news articles into the platform. By assessing whether the news is controversial or non-controversial, positive or negative, and which component of ESG it relates to, the overall score is changed, to ensure a more comprehensive analysis.
To make this process even more efficient, users can tap on a web browser extension that gives them the ability to tag every article as they read it.
As detailed above, investors well-acquainted with the market in China can make a scoring sheet that meets their requirements. However, this ESG solution is not only restricted to them. Fresh investors who are looking at China, can view these base scoring methods in this collaborative platform.
The benchmarking index allows an investor to look at the score other investors and ratings providers have assigned a company and compare it across their own rankings, allowing the investor to make a more informed decision. They can choose to use the experience of other investors to get a better sense of how others are analysing the market and use it as a benchmark. Companies can either licence the frameworks available or tweak them as they see fit.
In this way, the Nexus ESG platform is democratising the investment process where various investors can publish their research and others can layer on their own viewpoints to make the tool best tailored to their needs and focuses.
There is tremendous growth potential in China, with the popularity of ESG commitments growing. With the United Nations Principles for Responsible Investment (PRI) releasing recommendations for primary ESG indicators in China, and China Securities Regulatory Commission (CSRC) pushing listed companies for mandatory ESG disclosure, there was a large increase in Chinese institutions (asset owners, investment managers and service providers) pledging signatory to the PRI.
More companies are focused on displaying and marketing their efforts to be sustainable and socially conscious. Hence, investors need to separate signals from noise. The Nexus ESG platform allows users to decide what matters to them, layer the country’s context and apply professional expertise to analyse companies to invest in.
Nexus FrontierTech believes this will be the key to unlock both responsible and financially rewarding opportunities.
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