Businesses’ responsibilities to assess and address climate risks

Responding to the iceberg illusion: Businesses’ responsibilities to assess and address climate risks

NICOLE MEAD, SENIOR ASSOCIATE, DMAW LAWYERS AND MEMBER OF THE PLANNING, ENVIRONMENT, AND LOCAL GOVERNMENT COMMITTEE

The iceberg illusion is a phenomenon whereby only a small part, or tip, of a much larger problem is perceptible. More and more businesses are gradually coming to terms with the fact that the consequences of climate change are far greater than they may appear, and they have a duty to figuratively and literally address the iceberg risk. Nicole Mead provides an overview of business obligations to report on the financial risks of climate change.

Climate change continues to move into the boardroom as the obligation on Australian businesses to consider and report on climate risks becomes increasingly clear. A growing number of recommendations and guidelines mean that in order to not be left behind, businesses need to actively consider and report on climate risks, despite this not yet being a legal requirement. The consequences of failing to take these steps include reputational damage, litigation or shareholder resolutions forcing change.

CLIMATE CHANGE AND DIRECTORS’ DUTIES

Any legal obligation for businesses to consider and report on climate impact has historically been unclear in the Australian legal framework. However, in recent years, expectations on businesses have developed to a point where there are indications that directors’ duties extend to a positive obligation to consider and report on climate risks.

Although this expectation is not yet refl ected in legislation or case authorities, the Australian legal system is now at a tipping point where the obligation for businesses to report on and consider climate risks is on the cusp of extending to become a legal requirement (either statutory or in common law), rather than being primarily based in the principles of voluntary corporate social responsibility.

The most obvious place for this to occur is through an extension of existing directors’ duties to encompass consideration and reporting of climate risks. An opinion fi rst published in October 2016 by Noel Hutley SC and Sebastian Hartford-Davis on directors’ duties and climate change suggests this has already occurred. Hutley and Hartford-Davis opined that climate change is a foreseeable risk which can represent risks of harm to the interests of Australian companies, and that directors can and should be taking into account climate change and related economic, environmental and social sustainability risks, where those risks are, or may be, material to the interests of the company1 .

Two updates have been published in March 2019 and April 2021, in which Hutley and Hartford-Davis have clarifi ed their opinion in light of the “profound and accelerating shift in the way that Australian regulators, fi rms and the public perceive climate risk”.2 Against that background, they concluded that “regulators and investors now expect much more from companies than cursory acknowledgement and disclosure of climate change risks”3 , placing emphasis on the necessity of directors not only understanding climate risks, but successfully conveying this to shareholders and the public4. Their most recent opinion goes so far as to say that in particular sectors, simply considering and disclosing climate-related risks and trends is not adequate; directors of listed

companies must also take reasonable steps to see that positive action is being taken5 .

REGULATORY INFLUENCES AND VOLUNTARY GUIDELINES

In circumstances where no case law exists, some guidance can be found from regulators and industry groups who are establishing frameworks around reporting and addressing climate risks. As this guidance is primarily in the form of voluntary regimes, the onus is on businesses to embrace corporate social responsibility and choose to adopt the recommendations.

One such piece of guidance is the amendment to Recommendation 7.4 of the ASX Corporate Governance Council’s Principles and Recommendations6 which, effective from 1 January 2020, recommends that ASX-listed companies (regardless of the industry in which it operates) disclose any material exposure to environmental or social risks, and how the company manages or intends to manage those risks.

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Other similar guidance includes: • the Task Force on Climate-related

Financial Disclosures (TCFD), an international body linked to the

G20, which fi rst released in 2017 its climate-related fi nancial disclosure recommendations7. As referred to below, many other organisations are adopting this standard; • the Australian Accounting Standards

Board and the Auditing and Assurance

Standards Board published in

December 2018 a voluntary guidance statement relating to climaterelated risks and fi nancial statement accounting estimates8; • ASIC has taken steps towards ensuring companies suffi ciently report on climate risk, including confi rming that it considers the law requires climate risk to be reported on where it is a material risk that could affect the company’s fi nancial performance9, and uses the TCFD recommendations as a benchmark for reporting where a

material risk is identifi ed; and • in April 2021, APRA released to banks, insurers and superannuation trustees its draft guidance on managing the fi nancial risks of climate change. This guidance is aligned with the TCFD recommendations and is expected to be fi nalised soon10 .

MOTIVATIONAL CONSIDERATIONS

In addition to these frameworks which encourage reporting on climate risk, there are three other key motivating factors for businesses to adopt an approach of corporate social responsibility and report on climate change.

First, one of the commonly cited motivations for businesses to embrace corporate social responsibility is the possibility of fi nancial and reputational benefi ts. It is becoming increasingly important for businesses to be seen to be doing “the right thing”, especially given the increased popularity and focus on

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environment, social and governance issues. As well as having the potential to improve a business’s reputation, reporting and taking action on climate change has potential to improve the business’s social licence, especially where it operates in an industry that is seen to have a negative impact on climate. These matters can positively affect the business’s bottom line.

Secondly, there is a risk of exposure to litigation if a business (or government) is seen to not be adequately reporting or acting on climate risk. Over time, there may also be penalties applied for this conduct.

Key examples of litigation relating to climate change in Australia have all occurred within the past 12 months and include: • McVeigh v Retail Employees

Superannuation Trust (Rest), where a member of Rest superannuation fund sued Rest in the Federal Court, alleging the fund had not provided him with sufficient information related to climate change business risks to make an informed judgment about the management, financial condition and investment performance of his superannuation, and that Rest had breached its statutory duties to act with care, skill and diligence as a trustee by not having a more developed climate change policy. This case settled before the commencement of the trial, however Rest’s public statement, presumably as a part of that settlement, acknowledged climate change is a material, direct and current financial risk, and stated it would take further steps to ensure investment managers are taking active steps to consider, measure and manage financial risks posed by climate change11; • Sharma v Minister for Environment.

This class action was brought by a small group of high school students in the

Federal Court to prevent the Minister from approving a coal mine expansion, the Vickery Extension Project, on the basis that to do so would breach a duty of care the Minister owes to young people in Australia. In his decisions in

May and July 2021, Justice Bromberg did not grant the injunction sought, but acknowledged a duty of care owed by the Minister to the applicants. The

Minister has announced an appeal.

These examples, together with the increasing number of international examples, indicate how courts may respond to climate change litigation in Australia and offers a starting point for similar cases to follow. The expectation appears to be developing that businesses must take an approach of embracing corporate social responsibility when dealing with climate change.

Finally, aside from the risk of climate change litigation, shareholder activism in relation to climate change action is increasingly prominent, where shareholders propose resolutions for consideration at the company’s annual general meeting. The resolutions sought are often for an amendment to the company’s constitution to permit shareholders to pass advisory resolutions, which resolutions have the effect of allowing shareholders to express a view about how they want the company to deal with particular issues12. There have also been examples internationally of shareholders using their power to vote in directors who are perceived to be better placed to address climate related issues13 .

What this means for business

Clearly, there is an obligation for businesses to report on material financial risks posed or created by climate change. It should also be expected that the regulatory framework and these obligations will only tighten over time. Further, it is not yet clear how, if at all, these obligations may extend to require businesses to take positive action against climate change, for example, by limiting emissions.

There is always a possibility the government will implement or amend legislation to address this uncertainty and provide clarity around the expectations on businesses. Similarly, an express obligation could be included in the ASX Listing Rules requiring particular reporting or action on climate change.

The matters outlined in this article demonstrate the necessity for reporting on climate change to genuinely embrace principles of corporate social responsibility and go beyond lip service, as the consequences of not properly reporting and communicating climate risk include legal action and/or shareholder action, as well as possible reputational damage.

As lawyers, we need to remember how expectations on businesses in relation to climate change are quickly changing, and ensure our clients are aware of these expectations and the consequences of not addressing this matter of corporate social responsibility adequately. B

Endnotes 1 Memorandum of Opinion from Noel Hutley SC and Sebastian Hartford-Davis to The Centre for

Policy Development and Future Business Council, 7 October 2016 <https://cpd.org.au/wp-content/ uploads/2016/10/Legal-Opinion-on-Climate-

Change-and-Directors-Duties.pdf> at [3]. 2 Memorandum of Opinion from Noel Hutley SC and Sebastian Hartford-Davis to The Centre for

Policy Development, 26 March 2019 <https:// cpd.org.au/wp-content/uploads/2019/03/

Noel-Hutley-SC-and-Sebastian-Hartford-Davis-

Opinion-2019-and-2016_pdf.pdf> at [4]. 3 Ibid at [21]. 4 Memorandum of Opinion from Noel Hutley SC and Sebastian Hartford-Davis to The Centre for

Policy Development, 23 April 2021, <https://cpd. org.au/wp-content/uploads/2021/04/Further-

Supplementary-Opinion-2021-3.pdf> at [3]. 5 Ibid at [4]. 6 Australian Securities Exchange (ASX), ASX

Corporate Governance Council’s Principles and

Recommendations (at February 2019) <https://www. asx.com.au/documents/regulation/cgc-principlesand-recommendations-fourth-edn.pdf>. 7 Task Force on Climate-Related Financial

Disclosures, Final Report: Recommendations of the

Task Force on Climate-related Financial Disclosures (at

June 2017) >https://assets.bbhub.io/company/ sites/60/2020/10/FINAL-2017-TCFD-

Report-11052018.pdf>. 8 Australian Accounting Standards Board and

Auditing and Assurance Standards Board, Climaterelated and other emerging risks disclosures: assessing financial statement materiality using AASB/IASB

Practice Statement 2 (April 2019, first published in

December 2018) <https://www.aasb.gov.au/ admin/file/content102/c3/AASB_AUASB_Joint_

Bulletin_Finished.pdf>. 9 See, for example, ASIC, ‘Managing climate risk for directors’ (ASIC news article, February 2021) <https://asic.gov.au/about-asic/news-centre/ articles/managing-climate-risk-for-directors/>. 10 See APRA, Consultation on draft Prudential Practice Guide on Climate Change Financial Risks (22 April 2021),

APRA <https://www.apra.gov.au/consultation-ondraft-prudential-practice-guide-on-climate-changefinancial-risks> and linked documents. 11 Rest Superannuation, Rest reaches settlement with Mark

McVeigh (2 November 2020), Rest Superannuation <https://rest.com.au/why-rest/about-rest/news/ rest-reaches-settlement-with-mark-mcveigh>. 12 See, for example, Lloyd Freeburn and Ian Ramsay,

An analysis of ESG shareholder resolutions in Australia,

SSRN, 4 June 2021 <https://papers.ssrn.com/ sol3/papers.cfm?abstract_id=3859264>. 13 See, for example, Harry Robertson, ‘Oil majors

Exxon and Shell face a climate-change rethink after “seismic’ green activist victories’, Business

Insider (online) 27 May 2021 <https://markets. businessinsider.com/news/stocks/exxonmobilshell-chevron-total-activist-investors-climatechange-strategy-2021-5>.