On this swelteringly hot Saturday with catastrophic bush fire conditions forecast all over the country yet again, it seems an opportune moment to reflect on what the change to Australia's climate means to boards of directors. As explored below:
a director's obligations are multi-faceted and apply to directors of companies big and small across all industries, not just those on the boards of global resources companies who are directly physically impacted.
ASIC, APRA and the ASX are becoming increasingly vocal about a company's need to be attuned to its obligations in managing climate change risk and to keep investors and other stakeholders properly informed.
several court cases have already been commenced in relation to climate change disclosures and directors' duties in the management of their company. This trend is expected to continue.
A recap on the debate so far
The debate on directors' duties began in earnest in Australia just over 3 years ago, when Noel Hutley SC and Mr Sebastian Hartford-Davis were briefed by Minter Ellison on behalf of the Centre for Policy Development and the Future Business Council. They were asked to provide a legal opinion (the Hutley Opinion) on the extent to which Australian law requires, or permits, Australian directors to respond to "climate change risks". The Hutley Opinion was published in October 2016 and subsequently tabled at a round table of business, regulatory and investment leaders. It was also reported upon widely in the main stream press and industry journals.
The Hutley Opinion defines "climate change risks" as having two distinct and separate limbs, namely:
the physical risks associated with rising global temperatures - eg. an increase in the frequency of extreme weather events such as bush fires and floods;
transition risks arising from the changes that may (or may not) occur as a business adapts to changes in climate and a lower-carbon economy - eg. a failure to respond to changing consumer and investor sentiment by continuing to engage in poor sustainability practices leading to damage to reputation.
For a director, climate change risks manifest in the risk of litigation if they fail to exercise their directors' duties by responding to such risks, particularly when exercising their duty of due care and diligence. This duty is owed to the company, and accordingly its shareholders. It has an objective element which means that when evaluating whether or not a director has met their duty of care, their actions (or inactions) will be measured against the degree of due care and diligence that a reasonable person holding the role of director would exercise in similar circumstances.
The Hutley Opinion concluded that:
climate change risk includes risks which may harm the interests of a company and is a risk that a Court would consider reasonably foreseeable (and is therefore actionable at law);
a director could consequently be found liable for a breach of duty by failing to take the impact of such risks on their company into account when making strategic business decisions.
The Hutley Opinion represented a watershed in that it moved the focus on climate change risk from an ethical issue addressed through a company's ESG policy squarely into the arena of financial risk and potential liability where a board fails to grapple with climate change risks as part of its decision making processes. The Hutley Opinion was updated in March 2019 (Revised Opinion) to address key material developments that had occurred since it was first published, namely:
A fundamental change in the regulatory environment, with ASIC, APRA and the RBA all aligned on the economic and financial significance of climate change risk.
Significant changes in statutory financial reporting frameworks, most notably the publication by the Taskforce for Climate-related Financial Disclosures (TCFD) of a proposed reporting framework which would be mandatory for certain companies.
A material step-change in investor and community sentiment, with investors abandoning companies with poor climate risk mitigation practices and pressuring institutional investors (most notably in the superannuation industry) to do the same.
Developments in the state of scientific knowledge, for example the Intergovernmental Panel on Climate Change's report "Global Warming of 1.5℃"
Developments in "event attribution science" - in other words, the ability of science to demonstrate more readily that particular events are caused by climate change - and the benefits that will be derived by this advance by plaintiff litigation lawyers in proving their case.
The Revised Opinion stated that the identified developments meant that the standard of the duty of care of a director in respect of climate change risk was being elevated; furthermore, that the benchmark would continue to rise as knowledge in this area developed. The Revised Opinion concluded "As time passes, it is increasingly obvious that climate change is and will inevitably affect the economy, and it is increasingly difficult in our view for directors of companies of scale to pretend that climate change will not intersect with the interests of their firms. In turn, that means that the exposure of individual directors to “climate change litigation” is increasing, probably exponentially, with time."
So, what should I be doing as a director ?
There is no doubt that the landscape on this topic is rapidly evolving and that directors should ensure that they are across the implications of climate change risk for their company. It is recommended that you:
request that senior management present the board (if it has not done so recently) with a detailed overview of the key exposures of the company to climate change risk - both physical and transitional - and ensure that these risks are being prudently managed, captured on the company's risk register and also incorporated within the company's risk appetite statement.
ensure that board decisions give sufficient emphasis where relevant to climate change risk when developing strategy or evaluating a business model - particularly with regard to transitional risk and potential economic impact to shareholders. This is particularly acute given the ongoing lack of energy and climate policy at a Federal governmental level and increased shareholder litigation in this area.
keep abreast of investor and community sentiment and be pro-active rather than reactive. Recent research by Deutsche Bank observed a link between company performance and stock price associated with "good" news on sustainable practices and good climate citizenry.
consider available regulatory guidance and conduct a self-assessment against the guidance to measure if the company's governance and disclosure regimes are up to scratch.
carefully monitor regulatory developments in this area, particularly as regulatory focus looks increasingly from optional to mandatory disclosure. Important regulatory developments include ASIC's update to RG 247 "Effective disclosure in an operating and financial review", RG 228 "Prospectuses : effective disclosure for retail investors" and changes to Information Sheet 203 "Impairments of non-financial assets". APRA has also announced its intention to scrutinise disclosure in this area and note also the amendment in the ASX Principles, 4th edition to the commentary in recommendation 7.4 with the ASX Corporate Governance Council noting that "Council would encourage entities to consider whether they have a material exposure to climate change risk by reference to the recommendations of the Financial Stability Board’s Task Force on Climate-related Financial Disclosures (“TCFD”) and, if they do, to consider making the disclosures recommended by the TCFD."
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