Climate change-related D&O claim brought to an end

This article was originally published in Insurance Day, January 2024. 

A recent case before the UK Court of Appeal could have opened a Pandora’s Box for future directors’ and officers’ claims.

A decision handed down by the UK’s Court of Appeal on November 14, 2023 has ended ClientEarth’s “worldfirst” attempt to hold a company’s board of directors personally liable for failing to properly prepare for the net-zero transition strategy that aligned with the Paris Agreement, having regard to the financial risk climate change presents to Shell.

It referred to s172 – the duty to promote the success of the company for the benefit of its members as a whole, having regard to the likely consequences of any decision in the long term and the impact of the company’s operations on the community and the environment. It also pointed to s174 – the duty to exercise reasonable care, skill and diligence

Derivative action denied

In July 2023, the High Court dismissed ClientEarth’s request for permission to pursue such proceedings by way of a derivative action. Despite the court’s comprehensive judgment in the directors’ favour, ClientEarth appealed against the decision.

In November 2023, the Court of Appeal agreed with the High Court. It held ClientEarth had not demonstrated there was no basis on which the directors could reasonably have come to the conclusion the actions they had taken were in the interests of Shell.

In respect of the subjective duty to promote the success of the company for its members, the court considered while Shell faces risks as a result of climate change, it is not for the court to interfere with the management of a business. This was contrary to the principle it is for directors themselves to determine (acting in good faith) how best to promote the success of a company for the benefit of its members as a whole.

There are no further opportunities for ClientEarth to appeal.

The court’s treatment of this claim, including the adverse costs award made against ClientEarth, casts doubt on the future of environment, social and governance (ESG) derivative actions brought by activist shareholders. However, ESG-related claims brought under directors’ and officers’ (D&O) liability policies will continue to rise.

Proactive strategies

Companies should not adopt a passive strategy; instead, they should take proactive steps to avoid them being brought in the first place. This is advised not just because of the cost of defending such claims, but because there may be other means to hold directors and officers responsible for the same failures.

For example, in McGaughey v Universities Superannuation Scheme (a claim very similar to ClientEarth v Shell), the court said the claim should have been brought as a challenge to the company’s investment policy, not a derivate claim.

Companies and boards at risk of such claims in future potentially include those with an overly ambitious and unachievable ESG commitment made by a company. As acknowledged by the courts, directors have a lot of competing priorities to balance when making decisions. Therefore, achieving a company’s ESG targets may not always be possible. Underdelivering on lofty promises may open the door to shareholder claims.

Practical steps can be taken by companies to avoid these claims but, in reality, there may be very little that can be done to prevent claims by determined charities out to publicise their cause, given ClientEarth kept incurring costs in pursuing an oral hearing, written decision and appeal, notwithstanding the clear message from the court in the first decision.

However, it may be possible for boards to mitigate the risk of claims with greater validity by documenting decision-making and shareholder support for business plans; assessing the ESG credentials of the business or trading partners; obtaining expert and legal advice on decisions with ESG elements; and adopting realistic ambitions and policies on environmental issues.

Read other items in London Market Brief - February 2024