Thrive by strategically navigating EU sustainability rules

Dr Agnes KY Tai, Director of Great Glory Investment Corporation and Senior Advisor of iPartners Holdings Ltd, highlights the implications for Hong Kong businesses of the latest sustainability regulations in the European Union (EU).

In today’s globalised economy, businesses are increasingly interconnected across borders and Hong Kong companies are no exception. With a significant portion of Hong Kong’s exports going to the EU, it is crucial for businesses to be aware of and adapt to the EU’s evolving regulatory landscape. In particular, the Carbon Border Adjustment Mechanism (CBAM), the Corporate Sustainability Due Diligence Directive (CSDDD) and the Corporate Sustainability Reporting Directive (CSRD) are key regulations that Hong Kong businesses need to understand if they are to maintain their competitiveness in the EU market.

Carbon Border Adjustment Mechanism 

The EU’s CBAM is a pivotal policy aimed at ensuring that goods imported into the EU are subject to the same carbon pricing as goods produced within the EU. This mechanism is designed to prevent ‘carbon leakage’ – the danger that EU-based companies might move production out of the EU to take advantage of less stringent climate policies elsewhere, or the danger that EU products might be replaced by more carbon-intensive imports from overseas. The EU also hopes that the CBAM will encourage global partners to adopt similar carbon pricing measures.

While Hong Kong companies are not directly obligated to comply with the CBAM, their customers who operate businesses in Europe are. The requirement to disclose Scope 3 greenhouse gas (GHG) emissions will drive these customers to seek carbon footprint and GHG emissions reduction targets and results from Hong Kong exporters.

The CBAM was adopted on 1 October 2023 by the EU, with the first reporting period for importers ending on 31 January 2024, to put a fair price on the carbon emitted during the production of carbon-intensive goods that are entering the EU. Sectors that are covered in the first phase are cement, iron and steel, aluminium, fertilisers, electricity and hydrogen.

Corporate Sustainability Due Diligence Directive 

A proposal for the CSDDD was adopted by the European Commission on 23 February 2022 to ensure that businesses uphold strict sustainability standards throughout their value chains both inside and outside Europe, and to address any adverse impacts of their operations. This includes assessing and mitigating environmental and social risks, such as human rights violations and environmental degradation. Again, while Hong Kong companies are not directly subject to the CSDDD, their European customers will be required to comply. The CSDDD is expected to encourage greater transparency in suppliers and drive Hong Kong businesses to align with sustainability standards to maintain access to the EU market.

Corporate Sustainability Reporting Directive 

In addition to the CSDDD, the EU’s CSRD, which took effect on 5 January 2023, aims to enhance transparency and accountability by requiring large companies first, and smaller ones later, to disclose non-financial and sustainability information in their annual reports. This includes data on ESG factors, providing stakeholders with a comprehensive view of a company’s sustainability performance.

Reporting under the CSRD is expected to commence for fiscal year 2024 to help investors, civil society organisations, consumers and other stakeholders to evaluate the sustainability performance of companies as part of the European green deal. The customers of Hong Kong firms will be required to comply, impacting the transparency and sustainability reporting expectations for their businesses.

Although most Hong Kong companies exporting to the EU are not directly subject to this directive, any non-EU firm that has the following characteristics will be subject to this disclosure regime:

1. having listed securities (for example stocks or bonds) on a regulated market in the EU or 
2. having annual EU revenue of more than €150 million, and an EU branch with net revenue of more than €40 million, and/or 
3. having an EU subsidiary that meets two of the three criteria: (i) more than 250 EU-based employees, (ii) a balance sheet over €20 million, or (iii) local revenue above €40 million.

Implications for Hong Kong businesses 

The implications of these EU regulations for Hong Kong businesses – listed or not – are significant. While not directly obligated to comply, Hong Kong exporters will face increasing pressure from their European customers to align with sustainability standards, and to disclose from carbon footprint and GHG emissions reduction targets to labour practices. Failure to meet these expectations could result in eventual exclusion from EU supply chains and loss of business opportunities.

Strategies for success 

Despite the challenges posed by the new regulatory landscape in the EU, there are several strategies that Hong Kong businesses can adopt to thrive in the EU market.

1. Board accountability. To fulfil their fiduciary duties, board directors will need to gain perspectives on the latest legal and market developments, and adapt their decisions and processes accordingly. For example, they will need to review their organisations’ strategy, plans, resources utilisation and even their business models to stay competitive. A strong and clear tone from the top is essential to mobilise the entire company.

2. Embrace sustainability. Proactively integrating sustainability into operations, including assessing and reducing the carbon footprint of products, will be essential to meet the expectations of European customers. Having a sustainability team built across business units and departments can enhance effectiveness. 

3. Collaborate with EU partners. Building strategic partnerships with EU-based companies and stakeholders can provide valuable insights and support in navigating the complexities of EU regulations and sustainability expectations. Learning from peers and capital providers who are knowledgeable about EU practices will also be helpful. 

4. Invest in data and technology. Leveraging data and technology solutions to track and report on sustainability metrics effectively will be vital in meeting the increasing transparency and reporting requirements. Data software that properly collects ESG data and the provision of limited assurance can instil confidence in customers. 

5. Seek professional guidance. Engaging with sustainability and legal professionals with expertise in EU regulations can provide tailored guidance and support in meeting the evolving requirements of the EU market.

Conclusion 

In conclusion, the EU’s evolving regulatory landscape presents both challenges and opportunities for Hong Kong businesses. By understanding and proactively addressing the CBAM, CSDDD and CSRD regulations, Hong Kong exporters can position themselves for success in the EU market. Embracing sustainability throughout the organisation with a clear tone from the top, collaborating with EU partners, investing in data and technology, increasing transparency and seeking professional guidance are essential strategies for navigating the EU rules, as well as for ensuring long-term competitiveness and resilience for Hong Kong businesses.

Dr Agnes KY Tai, PhD CCB.D SCR®, ESG Investing, FRM CAIA MBA FHKIoD 

Director of Great Glory Investment Corporation and Senior Advisor of iPartners Holdings Ltd

Dr Tai is a Governing Board member of the Climate Governance Initiative (established by the World Economic Forum in 2019) and a Steering Committee member of the Climate Governance Initiative Hong Kong Chapter. She is an Expert Review Panel member for the MTR Corporation sustainability reports, a Council member, Publishing Board of Magazine member and a Deputy Chair of the training committee of The Hong Kong Institute of Directors, an Advisory Board member of Asia Climate Forum, faculty of Competent Boards, CSIA and FITC, a lecturer of The Chinese University of Hong Kong, a board member of Hope of the City, and an advisory council/committee member of GARP (HK), BlueOnion and FarmacyHK. More details of her 44 years of experience can be found here: https://www.linkedin.com/in/agnestai.