Grant Thornton believes that proactive contingency planning is crucial for achieving sustainable business operations in the current evolving environment.
Grant Thornton Hong Kong Corporate Governance Review 2020 (the “Review Report”) finds that 47% of the HSCI companies claimed that they had fully complied with the code provisions of the Corporate Governance Code (the “Code”) issued by Hong Kong Exchanges and Clearing Limited (“HKEx”), representing a slight drop from 50% in 2018. For the HSCI companies that did not comply with the CG Code, almost all of them provided explanation for the non-compliance. The common areas of non-compliance were the separation of roles of chairman and chief executive, attendance of chairman, non-executive directors (“NEDs”) or independent non-executive directors (“INEDs”) at general meetings, and the re-election issues of NEDs.
In 2018, the HKEx published conclusions from its consultation on the CG Code and related Listing Rules. The new measures introduced by the HKEx took effect on 1 Jan 2019. It is encouraging to see that many companies are adopting these new requirements. For example, 95% of the HSCI companies adopt the new requirement regarding disclosing a policy concerning diversity of board members. Besides, the revised CG Code requires issuers to disclose the process used for identifying newly appointed INEDs. In 2019, 50% of the HSCI companies adopted this new requirement, reflecting a rise of 41% compared with 2018. However, only 24% of them disclosed the reasons why they considered the individual to be independent and 10% disclosed the perspectives, skills and experience that the individual could bring to the board.
Eugene Ha, Deputy Managing Partner of Grant Thornton Hong Kong commented, “Overall, the adoption of the new CG Code requirements is worthy of applause, and we expect the disclosure rates to increase further in the following years especially in terms of the transparency of the election of INEDs. Also, we are glad to see that the overall corporate governance and ESG practices and levels of disclosures has shown improvement comparing to 2018.”
Grant Thornton Hong Kong studied the 2019 annual reports of 462 HSCI companies and 2019 Environment, Social and Governance (“ESG”) reports of 412 HSCI companies to assess how they discussed the impact of the COVID-19 crisis, as well as their business continuity plans for tackling the coronavirus outbreak.
Business continuity plans are crucial to ensure stability and build resilience in times of uncertainty
The Review Report reveals that 95% of the HSCI companies discussed the impact of COVID-19. It revealed that the majority of the listed companies did experience repercussion during the pandemic. For the HSCI companies that discussed the impact, 54% of them also provided descriptions of their mitigation measures in managing the outbreak, which included deploying epidemic prevention measures, responding to government policies, changing investment and financial decisions, offering customer support, monitoring risks and exploring potential business opportunities.
While most of the HSCI companies outlined the impact of COVID-19, only 31% of them stated that they had a business continuity plan in their annual reports. Such plans serve as a guide for organisations to respond, recover, resume, and restore to a pre-defined level of operations following business disruptions. Although business continuity plans could not guarantee full and immediate resumption of business operations, creating a sound framework as well as implementing strong processes and controls could help an entity and its employees handle and manage significant disruptions caused by COVID-19.
Disclosing the principal risks and uncertainties faced by a company enables shareholders and investors to assess the company’s performance and prospects. In 2019, 74% of the HSCI companies disclosed their principal risks, representing a slight increase from 71% in 2018. The common principal risks faced by the HSCI companies were market risk (85%), financial risk (71%), operational risk (60%) and compliance risk (51%). It is worth noting that the percentage of companies disclosing disease risk as one of their principal risks doubled, from 13% in 2018 to 27% in 2019, which might have been contributed by the impact of COVID-19.
Mian Wong, Advisory Director of Grant Thornton Hong Kong commented, “The outbreak of COVID-19 caught the globe unprepared and brought unprecedented challenges. Listed companies are facing significant pressure and challenges to transform their businesses so as to evolve with this dynamic business environment. Under the present circumstance, the quality of annual reports and the disclosure of business contingency planning become more important than ever for markets and investors.”
Revised ESG Guide requires disclosure of impact climate-related issues
In December 2019, the HKEx published the revisions to ESG Guide, requiring issuers to provide disclosure of a board statement setting out the board’s consideration of ESG matters; application of the Reporting Principles; ESG reporting boundaries; significant climate-related issues which have impacted and may impact the issues and ESG targets. Overall, a majority of the HSCI companies did not early adopt the new ESG reporting requirements. For example, only 19% of the HSCI companies early adopted the new requirement regarding providing board statements setting out the board’s consideration of ESG matters in the ESG reports.
The increasing magnitude of global warming has led to higher occurrence of extreme natural disasters, serious threats to the global economy, which may have a significant impact on the long-term sustainability of listed companies. In December 2019, the HKEx introduced new disclosure requirements mandating listed companies to discuss their policies on the identification and mitigation of significant climate-related issues, only 12% of the HSCI companies provided such disclosures. For discussion on the impact of climate-related issues, conglomerates companies had the highest disclosure rate, standing at 75%. However, information technology companies lagged significantly behind, and only 19% of them made such disclosure.
Besides, the Review Report finds that the reporting boundaries in ESG reports do not generally cover all aspects of the company’s business activities. Given that issuers could determine their own ESG reporting boundaries and decide the extent to which an impact is included or excluded in sustainability reporting, this may lead to a weak correlation between reporting quality and actual ESG performance.
Mian Wong said, “We look forward to further guidance and directions for assisting companies in the ways of expressing and defining their ESG reporting boundaries. We believe this would be crucial for producing reliable, unbiased and consistent ESG reporting, and ultimately assist investors with their decision making and comparison process.”
Rising awareness on IT security to tackle the ever-evolving cybersecurity threats
Significant technological advancements occurred over the decades. In 2019, 67% of the HSCI companies disclosed that they had improved their technologies, where the disclosure doubled from 30% in 2018. The Review Report reveals that Mobile Technology, Cloud Computing and AI were most commonly applied among the 8 technology megatrends, namely Mobile Technology, AI, Cloud Computing, IoT, Blockchain, FinTech, Chatbot and RPA. The development of these technologies is undoubtedly seen as a benefit to society. Nevertheless, it also brings a number of risks and challenges to corporations. Since cases of data breach and cyber-attacks have been increasing year over year, it is encouraging to see that the disclosure of improvements on IT security boosted from 12% in 2018 to 54% in 2019. This is a sign that more companies are heightening their awareness on IT security.
Pressing need to improve the gender diversity on Hong Kong boards
With respect to gender diversity, women only constituted 12% of the boardrooms in the HSCI companies. From an industry perspective, companies in the healthcare industry showed the greatest gender diversity, with 19% of directors being women. On the contrary, gender diversity in the materials industry was less prominent, with only 6% of board members being women. Overall speaking, boardrooms in Hong Kong listed companies are still male-dominated. As to age diversity, the average age of the board remained the same at 56 years old. Among the industries, information technology companies recorded the highest number of young boards members, with 32% of directors aged 50 or below.
Eugene Ha said, “Over the past years, board diversity has attracted great attention in corporate governance since it is one of the essential elements of achieving sustainable business operation. However, we have yet to see significant improvements in board diversity these years. An increasing number of jurisdictions have adopted measures to promote women’s participation in corporate boards. Countries such as Norway, Spain, France, and Iceland have laws requiring that women comprise at least 40% of boards at publicly listed companies. In Hong Kong, HKEx has started to strengthen the requirements on gender diversity of boards in recent year, yet gender diversity on Hong Kong board is still lagging behind its global counterparts.”
Investor protections measures should keep up with market evolution
From a forward-looking perspective, while listed companies are preparing themselves to respond to the ever-changing market conditions, Hang Seng Indexes also reviewed its indexes in response to the evolution of the Hong Kong stock market. Since the Hong Kong stock market has shifted from being locally focused to having a more diverse exposure, Hang Seng Indexes decided to add weighted voting rights (“WVRs”) companies and secondary-listed companies from the Greater China region into HSI and the HSCEI universes.
Eugene Ha concluded, “With such improvements and the inclusion of Greater China WVRs and secondary-listed companies in the HSI and HSCEI universes, we expect more capital inflows from Mainland China and abroad, thus bringing fundraising opportunities to listed companies. On the other hand, safeguard measures should be put in place to protect the interests of minority shareholders.”
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