The 2023 United Nations Climate Change Conference (“COP28"), convened in December 2023, highlighted certain critical issues that concern China, such as fossil fuels, clean energy, key technologies, food and land use, among others. At COP28, China shed light on both its climate response trajectory and its advances on the environmental, social, and governance (“ESG") fronts. The Chinese government has been taking strides in strengthening environmental regulations, addressing social issues, and improving corporate governance since China veiled its national strategy of the “Dual Carbon" goal in 2020, which aims to peak carbon emissions before 2030 and achieve carbon neutrality by 2060.  

As foreign direct investment (“FDI") has long been recognized as an important source of financing for achieving those goals, foreign investors are increasingly being encouraged by the Chinese government to invest in and support projects that promote ESG. This article aims to provide an overview of the ESG legal framework and initiatives in China and highlight recent legislative developments related to ESG disclosure and greenwashing from an FDI perspective.

ESG-Related Initiatives in China

Chinese sustainability efforts gained momentum in 2016, when the National Development and Reform Commission (NDRC), the People's Bank of China (PBOC), the China Securities Regulatory Commission (CSRC), and other Chinese regulatory authorities launched the Guidelines for Establishing a Green Financial System (《关于构建绿色金融体系的指导意见》), which aim to provide top-down support and direct capital towards environment-friendly economic development. Since then, China has emerged as an active player on the global ESG scene, especially in the financial markets, evidenced by green finance pilot projects and initiatives across the country in recent years.

Notably, in 2021, the Guangzhou Futures Exchange (GFEX) signed a Memorandum of Understanding with the Hong Kong Exchanges and Clearing Limited (HKEX) for strategic cooperation in promoting the sustainable development of the Guangdong-Hong Kong-Macao Greater Bay Area, as well as to explore the feasibility of cooperation on product development in both onshore and offshore markets, in support of China's “Dual Carbon" goal.

ESG Legal Framework

Even though China has become a significant player in the world's ESG markets, the country is relatively late in passing ESG-related laws and regulations compared to peers and has so far established no uniform and specific regulatory standards. As of the moment, major laws of China related to ESG include the Environmental Protection Law (《环境保护法》), the Labor Law (《劳动法》), the Advertising Law (《广告法》), the Law on the Protection of Rights and Interests of Consumers (《消费者权益保护法》), the Anti-Unfair Competition Law (反不正当竞争法), the Antitrust Law (《反垄断法》), etc. These laws cover various industries and a broad range of issues such as climate change, waste and pollution, health and safety, false advertising, greenwashing, as well as bribery and corruption.

In recent years, the following landmark developments have further aligned China's current ESG legal regime:

1) The revised Company Law (《公司法》), which will take effect on July 1, 2024, clearly stipulates that companies shall, in doing business, take into full consideration the interests of their employees, the consumers, and other stakeholders, as well as social and public interests, including the protection of the environment, and shall assume social responsibilities. While further rules and guidance need to be introduced to facilitate the implementation of the revised law, it marks a pioneering effort in establishing ESG-related obligations for all companies.

2) At the beginning of 2022, PBOC, CSRC, China Banking and Insurance Regulatory Commission (CBIRC), and other Chinese regulatory authorities issued the Fourteenth Five-Year Plan for Financial Standardization Development (《金融标准化“十四五"发展规划》), which identifies key tasks and goals for the next five years, including clear and enforceable green finance standards, which are “united at home, internationally aligned," on ESG disclosure and assessment, as well as carbon accounting for financial institutions and other entities concerned.

3) In April 2022, the Carbon Financial Products (《碳金融产品》) released by the CSRC puts forward normative requirements and provides guidance for the classification and launch of carbon financial products.

4) The Guidelines for Green Finance in the Banking and Insurance Industries (《银行业保险业绿色金融指引》) (“Guidelines") , issued by the CBIRC in June 2022, took effect immediately upon its release. The Guidelines is regarded as a milestone in the development of green finance in China as it sets out systematic and comprehensive requirements on ESG management by banking and insurance institutions, as well as a top-down approach with senior management and the board shouldering the responsibility to promote green finance within their organizations.

ESG Disclosure Framework

In recent years, much of the emphasis on ESG in China has been placed on ESG disclosure, which is essential for overall ESG compliance. As such, it is crucial for foreign investors eyeing the Chinese markets to stay up-to-date on the country's ESG disclosure framework and requirements, as these framework and requirements have an overall impact on factors that drive investment decisions, such as corporate governance, financial performance, risk management, etc. 

Currently, China only imposes compulsory ESG disclosure obligations on certain companies, typically “dirty" manufacturing companies and those that have previously violated environmental or labor regulations. For other companies, ESG disclosure is on a voluntary basis.

Mandatory ESG Reporting Requirements

2022 and later years have seen a steep growth in regulations and standards related to mandatory ESG disclosure requirements in China.

The Measures for the Administration of the Legal Disclosure of Environmental Information by Enterprises (《企业环境信息依法披露管理办法》), which was promulgated by China's Ministry of Ecology and Environment (MEE) and took effect in 2022, contributes significantly towards China's corporate social credit system and serves as a tool for the government to hold market entities accountable for violations of environmental laws and regulations. According to the measures, companies that are major pollutant emitters and publicly traded companies that have been penalized for environmental violations within the past year are required to disclose environmental information on a mandatory basis. When preparing the environmental disclosure reports, companies are further required to follow the rules specified in the Guidelines on the Format for the Legal Disclosure of Environmental Information by Enterprises (《企业环境信息依法披露格式准则》) issued by MEE in 2022.

In the same year, CSRC released the Guidelines on Investor Relations Management of Listed Companies (《上市公司投资者关系管理工作指引》) to specifically instruct listed companies to disclose ESG information to investors.

Stock exchanges in China have also been active in developing an ESG disclosure regime and have played a key role in promoting the innovation and development of green securities as well as supporting the listing of green enterprises. For example, in 2022, the listing rules of the Shanghai Stock Exchange made it mandatory for all listed companies to disclose major environmental accidents or other major accidents or events that may exert negative impacts on the performance of their social responsibilities, which had already been a compulsory obligation for companies on the STAR Market (the Science and Technology Innovation Board) of the exchange since 2019.

Voluntary ESG Disclosure Requirements

In addition to the mandatory disclosure reporting requirements, voluntary ESG reporting guidelines have also been released to encourage and assist entities to steadily shift from passive compliance with the requirements to active deployment of certain measures.

In April 2022, the China Enterprise Reform and Development Society, an organization supervised by the State-owned Assets Supervision and Administration Commission of the State Council (SASAC) promulgated the Guidance for Enterprise ESG Disclosure (《企业ESG披露指南》) (“ESG Disclosure Guidance"). The ESG Disclosure Guidance presents an inaugural ESG reporting framework that focuses on enhancing regulation for ESG reporting and sets out comprehensive standards for companies to adapt their ESG strategies at their own discretion. 

Although the standards in the ESG Disclosure Guidance are not mandatory, they attest to China's determination to standardize and mandate environment reporting obligations for companies as part of the country's efforts to reach its environmental targets, such as climate emission reduction. Such standards will potentially raise the bar of reporting for companies that are not subject to specific reporting requirements at the moment.

Greenwashing Risks

Given the growing importance of ESG as a key consideration in investment decisions, there is a potential risk that companies may exaggerate their ESG performance and contribution through incomplete or fabricated ESG disclosures, namely, engage in “greenwashing," to attract investors and obtain additional profits. 

China has not enacted a specialized law to regulate greenwashing, but it has regulated the above-mentioned misconducts through its Advertising Law, Anti-Unfair Competition Law, Law on the Protection of Rights and Interests of Consumers, Trademark Law (《商标法》), etc.

For example, Article 4 of the Advertising Law stipulates that advertisements shall not contain false content and shall not deceive and mislead consumers. Article 8 of the Anti-Unfair Competition Law also stipulates that operators shall not promote a product or service in a false or misleading manner. Another example is that the use of words such as “green," “eco," and “sustainable" to describe products that are not eco-friendly could be seen as greenwashing, which may be considered fraudulent under the Trademark Law.

Therefore, foreign investors are advised to identify the ESG factors that are most relevant and significant to the Chinese companies' operations and their stakeholders, integrate ESG into risk assessments, develop ESG-specific policies and procedures, and implement ESG measures featuring consistent ESG disclosures and in line with their needs and risk appetite.

Conclusion

As awareness of ESG issues grows globally, incorporating ESG factors into investment decisions is likely to remain a prominent trend in China and elsewhere, especially as China is now considering deploying a more comprehensive mandatory ESG disclosure regime. 

Having said so, ESG-related laws and regulations in China are still in the early stages, and the presence of overlapping and sometimes conflicting standards can be a significant obstacle to the sustained development of China's ESG market, as it can create confusion for international investors. 

Foreign investors are advised to take a better look at the regulatory landscape in China and stay informed about changes in laws and regulations that may impact their investments.  Failing to incorporate ESG into their decision-making may not only cost them a competitive edge in the market but also increase the likelihood of exposing them to legal challenges in the future.