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25 Jun 2019

Peter Barnett, Litigation Lawyer, Climate Programme, ClientEarth

Shareholder litigation as the next frontier in shareholder climate action

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Shareholder litigation is emerging as the next frontier in shareholder climate action, as investors respond to the scale and urgency of the threats posed by climate change. Climate change threatens devastating environmental and human impacts. It also threatens investment returns. Studies estimate that the financial value at risk could be up to 17% of global financial assets.

Investors are responding increasingly forcefully to require companies to better disclose and manage climate-related risks. This has led to stepped-up engagement and greater use of shareholder rights, such as voting against director re-appointments and shareholder resolutions.

The next step for driving climate action at recalcitrant companies is shareholder litigation. Two factors underline this direction of travel.

First, it is now firmly established that climate change poses material financial risks to businesses and investors. This is recognised by central banks, regulators, institutional investors and, increasingly, businesses. Climate-related risks can also be near-term. This was vividly illustrated by Californian utility PG&E’s bankruptcy following wildfires and liability fears last year, described by The Wall Street Journal as “The First Climate Change Bankruptcy, Probably Not the Last”.

The materiality of climate-related risks has an important legal consequence. Fiduciaries – such as company directors and investment fund trustees – are legally required to consider and manage such risks with reasonable care, skill and diligence. Courts will have the final say on whether fiduciaries are discharging their duties.

Second, institutional investors are exercising shareholder rights more and more robustly as the urgency of acting on climate change is better understood.

This is reflected most recently by investor initiative Climate Action 100+, made up of over 340 investors representing more than USD 33 trillion in assets under management. It focuses on systemically important greenhouse gas emitters representing up to two-thirds of industrial emissions.

Climate Action 100+’s recent successes include persuading Glencore to cap coal production, Shell to aim to halve its carbon footprint by 2050 (including emissions from the use of energy products by its customers) and BP to support a shareholder resolution requiring it to demonstrate how its capital expenditure and business strategy align with the Paris Agreement goals.

This increased shareholder activism is a welcome and promising development. But the Intergovernmental Panel on Climate Change (IPCC) 1.5°C Special Report describes a narrow window in which to make the necessary “rapid and far-reaching transitions” to energy and other systems. This will require shareholders to use every tool at their disposal to drive greater climate action and protect company and portfolio returns from the impact of climate change.

Escalating shareholder action leads us to shareholder litigation. This differs according to the jurisdiction but is likely to fall within one of two categories. First, public companies are generally required to disclose material information (including material climate-related information) in their financial filings. Second, directors are generally required to act in the best interests of the company and its shareholders and consider and manage material risks to a company’s business. Shareholders can challenge companies and/or boards of directors for failure to do so.

There are early examples of both. In August 2017, two shareholders sued Commonwealth Bank of Australia (CBA), alleging that its failure to report on climate change business risks and its management of those risks failed to give a “true and fair view” of the bank’s financial position and performance as required by Australian legislation. Following the lawsuit, CBA published its 2017 annual report in which it recognised climate change as a material business risk and committed to heightened climate disclosure. Exxon Mobil is also facing a shareholder class action in the United States, claiming damages for failure to disclose climate-related risks.

There has also been the first direct challenge to a company’s management of climate-related risks. In October 2018, environmental law organisation ClientEarth sued Polish energy company Enea in its capacity as a shareholder of the company. It argued that Enea’s consent to construction of Ostrołęka C, a €1.2 billion 1GW coal-fired power plant in north-eastern Poland, would harm the economic interests of the company and its shareholders, given increasing EU carbon prices and competition from cheaper renewable energy sources. This echoed earlier concerns of major institutional investors including Legal & General Investment Management. The claim seeks the annulment of the company’s consent to construction of the new plant and the case is ongoing. 

We expect to see increased shareholder scrutiny (and in time, litigation) not only of major fossil fuel capital expenditure decisions such as this, but also companies’ broader climate change governance, strategies and emission reduction plans, particularly where inconsistent with the Paris Agreement goals. As the Financial Times recently put it, “now that central banks have said the issue [climate change] is linked to financial stability, no executive can ignore this without facing the risk of shareholder suits”.

As investors respond to the scale and urgency of the threats posed by climate change, shareholder litigation is set to become an important adjunct to broader shareholder engagement in securing the clean energy transition and protecting future returns.

This publication is for general information only and is not intended to provide legal advice.