Sustainable Investment in China | As Environmental Protests Increase, New Implications for Business and Investment

In recent years, growing public awareness of environmental violations by companies and a fear of potential environmental impacts from large projects in China have led to an increasing number of protests across a range of industries, such as manufacturing, chemicals, waste incineration, and transportation. As they have increased in scale, these protests have resulted in projects being cancelled, postponed, or relocated, with significant financial consequences for companies and their investors.

A 2007 protest against a paraxylene (PX) chemical plant project in Xiamen, which was being built by the government, involved 10,000 people who feared the impacts of a potential spill. The action, which was organized by text message (SMS) before the advent of social media, resulted in the relocation of the project. A waste incinerator project was cancelled in Guangzhou in 2009, as was a different PX chemical plant in Dalian in 2011.

However, it was the protest against Sichuan Hongda’s copper plant in Shifang in 2012 that really grabbed headlines. In this case, the project developers had undertaken an environmental impact assessment, but this did not satisfy the public—even when a summary of that assessment was released. The protests turned violent and only ended once the government agreed to terminate construction. The company’s stock price fell 9.2 percent following the protests. Protests related to environmental issues have become more frequent since then, with notable incidents in Qidong, Weifang, Kunming, and elsewhere.

In response, and to prevent future protests, the government increased regulations to strengthen environmental impact assessments, updated industry-specific guidance on environmental risk assessments (for the chlor-alkali industry, for example, in January 2010), and encouraged companies to undertake social risk assessments in August, and again in November 2012.

Challenges with Policy Implementation

Despite this activity, the government continues to face challenges in implementing regulations related to environmental protection or social performance. Reasons for this include:

• The primacy of economic growth over environmental protection when assessing local government performance: For example, Xie Zhenhua, the official in charge in 2005 when toxins flowed into the Songhua River, cutting off the water supply to ten million people, was promoted two years later, becoming the vice chief of the country's main economic planning bureau.
• The manipulation and poor quality of environmental assessment reports: For example, last year the environmental ministry punished more than 88 environmental assessment firms and required them to improve their methodologies. Two firms were disqualified from performing assessments at all.
• The low transparency of environmental information: For example, the Institute of Public and Environmental Affairs (IPE) rates 113 cities annually on their implementation of the government’s Open Environmental Information Measuresand in 2012 only 19 have met the minimum requirements.

Regulatory compliance alone is not sufficient evidence that companies are effectively managing social, environmental, or governance risks. Increasingly, companies need to meet higher expectations.

Recent Trends

Despite this gap in policy implementation, four trends are increasing the risks for businesses that perform poorly in environmental protection:

1. A growing willingness to assert citizen rights: These large-scale environmental protests reveal a growing rights consciousness among Chinese citizens. Concerned about environmental issues, they are willing to take physical action. Environmental issues are increasingly affecting social and political stability, as well as financial stability of companies.
2. Social media is facilitating campaigns against environmental pollution. Social media provides a platform to quickly spread information, unite locally affected people to act, and garner nationwide support. According to the University of Hong Kong's China Media Project, between July 1 and 4, 2012, approximately 5.25 million posts on Sina Weibo mentioned the word “Shifang,” and of these, 400,000 used images and nearly 10,000 used video. Video and images in social media have been crucial to spurring people to action.
3. A lack of transparency has eroded credibility of government and business. The public is increasingly susceptible to believing rumors rather than official government statements. In some cases, even if an industrial project is not harmful to the environment (as in Shifang) or has obtained all legal approvals, rumors of potential risks persist and can arouse panic among the public and unite opposition. It is no longer enough to follow appropriate procedures with the authorities; it is necessary to invest in communicating transparently and credibly with local citizens.
4. Government officials are becoming responsive to environmental issues because of social and political consequences. The government cares deeply about social stability. When environmental issues cause large-scale protests, they become social and even political issues, gaining the attention of the local government and senior leaders who therefore act quickly to resolve the problem, often meeting protestors’ demands.

Implications for Investors

In general, BSR believes this increase in action from the public—and consequently from the government—is a positive trend, applying greater pressure on companies to be responsible and penalizing those that are not. At the least, these companies will suffer direct losses from fines and enforced work stoppages while they resolve problems. At the worst, entire investments may be written off, significantly affecting a company’s business.

Investors should look to industries that might benefit from increased environmental regulation and corporate responsibility, such as water treatment and air purification, as demand for these services and products will increase. They should also look for companies that are well prepared, with credible environmental impact assessments and appropriate technology to meet regulations, and that have trust from the local communities surrounding larger projects. Finally, investors should be wary of investing in industries with large environmental footprints, which will face increased scrutiny and costs to comply with the law.

In light of this, BSR recommends that investors update their research, due diligence, stock evaluation process, and engagement strategies accordingly. Investors need to understand the quality of companies’ environmental assessments and their ability to engage with local communities and communicate transparently to build trust. They also need to adjust the risk profile of certain companies and industries and stock evaluation and selection criteria.

If investors take these steps, they can seek to mitigate their exposure to environmental, social, and governance risks affecting portfolio company valuations, while identifying well-managed companies that will outperform their peers.