To meet rising investor expectations, Alibaba and HKEX must both provide roadmaps to deeper engagement with environmental, social and governance issues
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|Alibaba’s secondary listing on HKEX represents a significant milestone for the bourse, and for Chinese issuers listed in New York and London. But it also represents missed opportunities and raises questions about the pace of ESG reform in Hong Kong SAR. Alibaba’s ESG disclosures reveal concerns about corporate practices and the adequacy of exchange disclosure rules. The fact it is the HKEX’s first wholly electronic offering begs the question why environmentally damaging printed prospectuses are still being used.|
Alibaba Group's secondary listing on the Hong Kong Stock Exchange (HKEX) on November 26 2019, raising over $11 billion (around 2.3% of Alibaba's market cap), represents the most significant offering on the bourse this decade. It opens up an important pathway for Chinese issuers listed in New York and London who may now be looking to Hong Kong SAR as a venue for tapping into pools of Chinese capital. However, the high-profile listing also raises important questions related to environmental, social and governance (ESG) concerns.
As a central actor in the internet economy, Alibaba's ESG disclosures and the HKEX's disclosure requirements applying to new listings deserve closer scrutiny. It is suggested that both fall short of legitimate investor expectations. As HKEX's first wholly electronic prospectus, the Alibaba offering returns the market to the question of whether printed prospectuses remain justifiable in an era of electronic connectivity and heightened awareness of environment concerns.
Following HKEX's rejection of Alibaba in 2014 because of its weighted voting rights (WVR) shareholding structure, the secondary listing now represents the third company with WVR to be admitted to the exchange's relatively new listing regime for WVR companies, which was introduced in April 2018. Alibaba's subsidiary, Alibaba.com, had previously been listed in Hong Kong SAR in 2007, until it was privatised in 2012.
It is also the first company with WVR to list following a change to the southbound Stock Connect Scheme, which now allows the stock of eligible WVR companies to be traded. Stock Connect is an important consideration for a mainland China enterprise choosing to list on the HKEX because it permits investors in mainland China to participate in the Hong Kong market via their local brokers. WVR stock trading was previously banned on the basis that WVR structures are not permitted on the Shanghai or Shenzhen exchanges, and that it presents investor risks.
While it is widely expected that Alibaba's shares will eventually be traded via Stock Connect, the situation is at present unclear as the WVR eligibility rules are relatively new.
A milestone for all Greater China issuers
Until recently, the joint policy of the HKEX and SFC [Securities and Futures Commission] had been that companies with a centre of gravity in China (Greater China entities) which were already listed on a foreign exchange – typically the New York Stock Exchange or Nasdaq – would not be allowed to take out a secondary listing. The stated objective of the restriction was to avoid regulatory arbitrage. A consequence of the introduction of the Stock Connect Scheme in November 2014 was that the joint policy effectively prevented foreign-listed Greater China entities from accessing mainland China capital via the HKEX.
Alibaba's secondary listing is a milestone as it is the first Greater China entity to obtain a secondary listing in Hong Kong SAR following the introduction of Chapter 19C of the listing rules. As such it paves the way for qualifying innovative Chinese companies listed on the NYSE, Nasdaq, or the main market of the London Stock Exchange to seek a secondary listing on the HKEX.
In a typical year in Hong Kong SAR, over 750 tonnes of paper are consumed in printing IPO prospectuses. That paper production equates to more than 10 football pitches of forest land and consumes around 70 megalitres of water (28 Olympic size swimming pools). Yet these figures are conservative when one considers the other paper-based offering documents used in the public capital market.
That Alibaba's prospectus, which is entirely electronic, is the first public offering in a HKEX listing sans a major print-run of prospectuses might come as a surprise to international readers. While this is the second notable feature of Alibaba's listing, it is premature to regard it as a milestone. The prospectus suggests it was necessary to obtain a waiver from strict compliance with provisions requiring copies of the prospectus in printed form (page 133).
There is nothing in Hong Kong SAR's prospectus law that requires a prospectus to be produced as a paper-based document. The law merely refers to concepts such as publication and distribution, and the usual process of statutory interpretation suggests nothing that would demand a prospectus to be printed on paper in order to fulfil the purposes of the statute. Indeed, the waiver obtained is from HKEX's non-statutory listing rules, which require copies of listing documents to be 'available in printed form'.
While the prospectus makes it clear that it can be downloaded and printed, this somewhat vague listing rule appears to be interpreted by the regulators as if it mandates a printed copy of the prospectus to be made widely available to the investing public. The other waived provisions of the listing rules do not refer to printed documents, but are concerned with ensuring adequate accessibility.
The US and the UK, both competitor markets for Hong Kong SAR, allow wholly electronic public offerings (ePO). In 2005 the US moved to an access-equals-delivery model for prospectuses, in which investors are presumed to have access to the internet. When implementing Rule 172, the US SEC specifically recognised 'the need to modernize the [prospectus delivery] obligations in view of technological and market structure developments'.
The UK complies with the EU's Prospectus Directive, which also permits a prospectus to be delivered in electronic-only form, provided it is easily accessible, searchable, downloadable and printable (Art. 6, Commission Delegated Regulation (EU) 2016/301).
Hong Kong SAR has not been entirely devoid of progress. Emphasis on access (over means of delivery) was reflected in the SFC/HKEX 2008 consultation paper for mixed media offerings. The concept of an ePO has been in place since at least April 2003, however, this is generally understood as only applying to the components of a traditional paper-based offering that take place over the internet.
Despite these developments, prior to Alibaba there has been no other indication of a shift away from producing tree-guzzling prospectuses. The jurisdiction's relatively high retail investor composition (compared to other international markets) is sometimes cited as a relevant consideration. To what extent the Alibaba ePO will set a precedent is not known, but the market will now be looking to the regulators to make the position clear for other companies.
The question left on the table is whether any potential damage done to the investing retail public in an ePO is outweighed by the environmental damage incurred under a paper-based prospectus regime. Failing to pave the way for a waiver-free ePO option may render Hong Kong SAR not only less competitive – printing prospectuses is another cost burden – but also environmentally out of date.
Shortcomings in listing disclosure requirements
As noted above, qualifying Greater China entities listed on the NYSE, Nasdaq or LSE are eligible to apply for a secondary listing in Hong Kong SAR. Although all four exchanges have signed up to the UN's Sustainable Stock Exchanges Initiative (SSE) commitment letter, the landscape for ESG disclosures varies across each exchange. Only the listing rules for HKEX and LSE subject issuers to ESG disclosure requirements, in each case on a comply-or-explain and recommended disclosures approach – an enlightened approach in the context of global exchanges. In Hong Kong SAR these are expected to be strengthened with the addition of mandatory disclosure requirements (per HKEX's consultation paper in May 2019). In the UK, amendments to the Companies Act have, since October 2013, required ESG matters to be covered in the directors' strategic report. This includes information about environmental matters, employees, and social, community and human rights issues. The NYSE and Nasdaq both only provide ESG-related training, although Nasdaq has committed to publishing guidance on ESG reporting.
The HKEX's listing rules do, however, come with an ESG disclosure gap: the ESG disclosure obligations that apply to listed issuers do not apply to listing applicants, who are not required to make ESG disclosures. While Alibaba may be congratulated for volunteering ESG disclosures, they fall well short of the disclosures the company will be required to make annually as a listed issuer pursuant to Appendix 27 of HKEX's listing rules. This includes: identification and statement of board responsibility for ESG matters, enunciation of ESG strategy and how it relates to the company's business, determination of materiality of specific ESG issues for business operations, key performance indicators, and identifying specific environmental and social categories that the company tracks and reports.
None of the four exchanges have as yet recognised that the absence of ESG disclosures in an offering document denies investors the opportunity to gain insights about a company's ESG practices at the time of listing. How the company, once listed, will be positioned to comply with ESG disclosure requirements and expectations of investors is unknown. In the case of Alibaba, because it is not subject to ESG disclosure requirements under its NYSE listing, investors in the secondary listing have no information beyond its voluntary disclosures. This amounts to an inexplicable gap for exchanges (HKEX and LSE) where listed issuers are subject to ESG disclosure obligations.
Setting the tone of an issuer's ESG practices from the outset is arguably more likely to foster higher standards of real compliance. Analysis by Grant Thornton in 2015 and 2016 of corporate governance practices in the UK suggests that it takes around four years for a majority of newly-listed issuers to begin to address the underlying intent of the new provisions applicable to them. In the interim, the issuer engages in box-ticking.
As such, there is a strong argument that ESG compliance would be fostered by requiring a listing applicant to disclose its current ESG practices, and how these will be developed in view of listing rule requirements that will apply following its listing. This should be seen as part and parcel of getting a company prepared for life as a listed issuer, much as other elements of a company's management and internal controls are. A similar argument has been made, in relation to corporate governance, in recommendation C4.7.1 of HKICPA's Report on Improving Corporate Governance in Hong Kong of December 2017.
The quality of Alibaba's ESG disclosures
One of Alibaba's core strategies, reflected in its use of proceeds statement, is to 'facilitate digital transformation and improve operational efficiency' (page 391 of the prospectus). The company appears attentive to 'acting in a socially responsible way' (page 216), including environmentally. The prospectus specifically references: Alibaba's poverty relief programme, efficiencies brought about via cloud computing, Cainiao's green packages and green delivery initiatives, and inclusive financial services initiatives provided by its related party Ant Financial (pages 209, 216-218).
Such disclosures indicate the power of Alibaba's infrastructure to create potentially strong linkages between its business model and sustainable development principles. The positive intent that management is capable of bringing to social objectives is of particular relevance given that Alibaba is one of the world's 10 most valuable companies by market cap.
However, disclosures in the prospectus provide no specific metrics about the scale of such commitments, nor the resulting beneficial outcomes. Alibaba's first ESG report issued for the US market in 2018 provided only marginally more information. For example, while initiatives in cloud computing can be seen as environmentally beneficial in reducing individual companies' on-site equipment, there is no indication of whether this has been benchmarked against industry norms, even while other technology companies such as Google have attempted to do so across their entire operations.
When examined more closely, disclosures in the prospectus provide scant information on matters that a discerning investor might want to know. Ten such matters, typically of concern to investors, include:
- Does Alibaba have a clear policy and system of accountability for ESG stewardship that identifies who at Alibaba is responsible for ESG strategy, evaluation and reporting, and which provides for dedicated human resources for implementing these initiatives?
- Are examples such as innovative water cooling to reduce energy consumption merely demonstration projects, or do they represent companywide commitments?
- What are Alibaba's contributions to greenhouse gas emissions?
- Given Alibaba's significant involvement in logistics, packaging, and delivery systems for a wide range of products, is Alibaba able to assess the scale of its transport and packaging footprint, and design metrics for improvement?
- How does Alibaba source power, especially for its power-intensive cloud computing activities, and is there a renewable energy target or programme?
- Are there other key discharge issues, including generation of hazardous waste, or requirements pertaining to water access and use?
- How does Alibaba address ESG concerns in managing its diversified supply chain?
- How do employment and labour practices meet or exceed local or international best practice standards?
- What are worker safety/accident metrics?
- How does Alibaba intend to respond to its ESG obligations under Appendix 27 of the HKEX listing rules – does it intend to comply or to explain?
Investors might also ask whether Alibaba and industry peers have established guidelines for ESG performance, and if and how they benchmark with competitors. It may be too lofty a comparison (and unfair to expect Alibaba to implement similar so-called beyond compliance measures), but looking at Google's ESG reporting there are notable differences.
Google: maintains design efficiency and sustainability standards for all of its data centres; uses machine learning to operate the data centres to optimise energy use and reduce impact; matches its electricity consumption 100% by purchases of renewable energy; commits to re-use of components for machine upgrades; and seeks to design worker environments for health and wellbeing.
Leadership, from where?
Globally, investors are demanding more information on the ESG profile of a company. It is now widely accepted that how issuers manage ESG risks goes beyond questions of reputation or social responsibility, and can present risks to the financial condition or sustainability of the company.
As one of the world's leading technology players, one might ask why Alibaba did not choose to provide a more comprehensive roadmap of its ESG responsibilities and group-wide strategy to demonstrate ESG leadership. As such, Alibaba missed an opportunity to provide disclosures that would enable investors to ascertain whether its ESG policies and commitments are proactively or reactively designed, and whether its current ESG status is de facto or merely aspirational.
One might also ask why the HKEX, which has actively moved on its SSE commitments and is a global IPO leader, remains wedded to paper-based prospectuses and does not require ESG disclosures from listing applicants. The latter represents a shortcoming in the gateway mechanisms that ensure minimum standards for newly-listed companies. It also means that investors are deprived of information relevant to their investment decision, and capital may be misdirected to companies with substandard ESG practices.
In a time of rising expectations, both HKEX and Alibaba are missing leadership opportunities to provide a roadmap for deeper ESG engagement.
Keel Consulting, Hong Kong SAR
Founding managing director
Olympus Capital Asia, Hong Kong SAR