Directors' duties and the expanding risk of climate litigation
03 November 2022
A recent letter before action sent by ClientEarth to Shell’s board of directors raises the question of whether directors are required to take positive steps to address climate change or face personal liability for failing to do so.
ClientEarth action against Shell
In March 2022 ClientEarth wrote to Shell expressing its intention to pursue shareholder litigation against 13 of its executive and non-executive directors, alleging they failed to put in place adequate policies to implement the Paris Agreement. This follows on from the landmark ruling from the Court of the Hague in May 2021 ordering Shell to reduce its global CO2 emissions by 45% by 2030.
ClientEarth is not relying on any new regulation or principle of law to launch its claim against Shell’s board. The proposed action is based on the current UK legal framework on directors’ duties and specifically section 172 of the Companies Act 2006. This requires directors to act in a way most likely to promote the success of the company and requires directors to think about the impact on the community and environment of the company’s activities. In doing so directors must exercise reasonable care, skill and diligence. The crux of ClientEarth’s case is that the board’s alleged failure to put in place adequate policies that truly align with the Paris Agreement exposes Shell to long-term economic risk (including the risk of asset stranding) and breaches the directors’ duties under the Companies Act.
It also utilises an existing mechanism in the Companies Act– a derivative action – by which shareholders can bring claims against directors on the companies’ behalf. The proposed action demonstrates the tactic used increasing by NGOs of buying minority stakes in corporates for the purpose of launching shareholder litigation. Often the real purpose of that litigation is not financial compensation but to change behaviours through targeting of senior decision makers. It also demonstrates a wider strategy of relying on the potential negative financial consequences for companies and their shareholders of not adequately addressing climate risk.
Implications of the claim
If the claim proceeds, it will be the first UK case seeking to hold directors personally liable for failing to manage climate risk properly, but it seems unlikely to be the last. This is a significant development for directors, not least because of the gaps in the corporate protection afforded to directors: UK companies are prohibited from indemnifying directors for liability for negligence or breach of duty. A company may pay the legal costs of a director defending civil proceedings in these circumstances, but the director must repay these costs if final judgment is given against them.
Insurance may be available to fill these gaps. In their Climate Biennial Exploratory Scenario’ exercise (CBES) the Bank of England expressed the view that Directors’ & Officers’ (D&O) insurance policies were the most likely to respond to climate litigation, in particular to greenwashing claims and claims based on breach of fiduciary duties. These policies insure executive and non-executive directors against their liability for, and the costs of defending, claims against them in their capacity as directors of the company.
Although climate-related derivative actions such as those threatened by ClientEarth are novel, they are squarely within the types of causes of action for which D&O policies are designed to provide an indemnity for.
Given this evolving type of risk, policyholders must closely examine insurance cover to make sure it meets the director’s and company’s needs. D&O policies will typically contain various exclusions that limit the types of risk insured. Common exclusions include:
• Claims in the courts of the United States and/or Canada. As the United States leads the way in climate litigation against directors and officers, whether your policy contains a geographic exclusion for North America may be critical for the effectiveness of your cover for climate risks.
• Claims alleging deliberate, wilful, and/or fraudulent acts or omissions of directors.
• Fines, whether criminal or civil.
Claims against multiple directors
Finally, even if in principle the policy responds to a piece of climate litigation, policyholders must consider the risk that the policy limits are inadequate or already exhausted. To date climate litigation has typically targeted boards as a whole rather than individual directors, so it is likely that multiple individuals may be seeking cover under the company’s policy at the same time for the same risk. D&O policies will specify a limit on insurers’ liability, both for individual claims and overall for all claims. As these policy limits will generally apply on a first come, first served basis, it is important to consider whether they can provide sufficient protection for further members of the board, for example, where a claim has already been brought in respect of one or more directors for the same risk.
ClientEarth is waiting for a response from Shell’s board before seeking the permission it needs from the UK High Court to continue its derivative claim.
Policyholders seeking cover for these types of claims should be aware of the risk that, as an expanding area of risk for insurers, insurers may impose tighter terms with more exclusions and potentially lower limits available.
Policyholders should develop and maintain good relations with their insurers and brokers and have conversations before each renewal on the nature of the risks faced by the entity and the policy wordings available to ensure that their business is protected.
Further information and a helpful checklist as to what to look for in a D&O policy can be found on our website, as can information about the differences between the protection provided by company indemnities and D&O policies. A more thorough consideration of the issues considered here can be found in this article.
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Authors: Russell Butland, Orla Fox and Lily Redpath.