ClientEarth and McGaughey: courts maintain reluctance to interfere in company management decisions

Following the oral hearing of ClientEarth v Shell Plc & Ors, the High Court has maintained its stance and refused permission for ClientEarth to pursue a derivative action against Shell’s directors (the Directors). This judgment, and that of McGaughey only three days earlier, reaffirms that it will be difficult to challenge directors’ strategic decisions via derivative actions and that courts are reluctant to interfere in company management decisions. This should - temporarily at least - provide some comfort to UK corporates and their insurers.

Background

ClientEarth, a non-profit environmental organisation and charity holding 27 shares in Shell Plc sought a declaration that the Directors had breached their Company Act 2006 (CA 2006) duties by not having an adequate strategy in place to protect Shell from climate risks. Full details are set out in our earlier article here.

To bring a derivative action against the Directors, it is a prerequisite for ClientEarth to obtain the High Court’s permission. In doing so, it had to demonstrate that its application established a prima facie case that it would obtain the relief sought.

Mr Justice Trower found that ClientEarth had not demonstrated a prima facie case and permission to progress the claim was refused.

In reaching his decision, Mr Justice Trower considered:

1. ClientEarth’s failure to establish that the Directors were managing Shell's business risks in an unreasonable manner and their failure to provide expert evidence on this point.
2. There was no “single universally accepted methodology” for monitoring progress against the Paris Agreement targets. This made it difficult to assess whether a reasonable board of directors would agree with the proposed strategy to reduce emissions.
3. Shell had considered and determined policy as to the best interests of the company and its shareholders when addressing climate risk.

ClientEarth asked Mr Justice Trower to reconsider several points made by way of oral hearing which was granted.

The High Court’s decision following the oral hearing on 12 July

Mr Justice Trower essentially reiterated his original decision and added the following new points:

• Directors of a company are required to “balance a myriad of competing considerations” and not just climate risks to come to a “classic management decision”.
• “The High Court is ill-equipped to interfere with the decisions of company directors”.
• “There is no appeal on merits from management decisions to courts of law: nor will courts of law assume to act as a supervisory board over management decisions that were honestly arrived at”.

McGaughey v Universities Superannuation Scheme Ltd

Also in July 2023, the Court of Appeal handed down judgment in the matter of McGaughey & Davies v the Universities Superannuation Scheme Ltd. The claimants’ derivative action revolved around similar issues to those considered in the ClientEarth case.

The claimants were the beneficiaries of a pension scheme run by the defendant, a corporate trustee company. The claimants alleged that the directors of the pension scheme failed to create a credible plan to reduce investment into fossil fuels. This allegedly prejudiced the success of the company.

The High Court refused the claimants’ permission to bring a derivative action against the directors of the pension scheme on the following basis:

• The claimants could not demonstrate that they and the company had suffered a loss. Hence, a derivative claim could not succeed.
• The claimants could not establish that the directors had pursued their own interests in breach of the CA 2006 or acted in bad faith.
• The directors had complied with all regulatory requirements.

The Court of Appeal upheld the High Court judgment and specifically said that the claim was a challenge to the company’s investment policy. It should have been brought against the company as just that.

The Court of Appeal was keen to make clear that there was no reason, save perhaps a desire to avoid certain procedural burdens, to bring the claim as a derivative action.

Comment

Both decisions should provide comfort to UK corporates, their directors and their insurers.

The current approach of the courts is that directors of a company have a wide range of discretion to deal with company management decisions, including its climate change objectives. Their decisions concerning climate risk will be seen to be reasonable if they feed all other competing factors into their decision making process to promote the success of the company.

Furthermore, both courts made it clear that they are extremely reluctant to interfere with company management. This is particularly so when directors have multiple competing considerations to consider and when the challenging party may be looking to use the legal action for an ulterior purpose.

However, this is not the end of the story – ClientEarth has indicted an intention to appeal to the Court of Appeal and this temporary relief may therefore be short lived.

Therefore, directors should continue to ensure that climate risk is fully and consistently addressed when making decisions. Directors should also ensure that detailed notes of the decision making processes are properly made and retained. As part of this process, insurers should continue to ask and test their policyholder clients on company management decisions, particularly when it comes to ESG issues.

Related item: ESG shareholder activism on the rise?

Read other items in Professions and Financial Lines Brief - November 2023