Legal development

ESG-inspired disputes - recent developments

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    This analysis was first published by Lexis®PSL on 15 December 2021 and can be found here (subscription required).

    Dispute Resolution analysis: ESG increasingly dominates the business landscape and, with it, the associated litigation risks to those who fail to deliver on their ESG credentials. This update considers the types of ESG inspired disputes and issues that have most commonly arisen in the recent past and considers the way ahead for 2022 and beyond.

    ESG - what is it?

    Environmental, social and governance (ESG) is an umbrella term used to refer to the environmental, social and governance issues or aspects of an activity. The term is closely aligned with the concept of corporate social responsibility (CSR)—a business management or governance concept whereby an organisation aims to create a positive impact, through its commercial activities and ‘responsible investment’, on its environment, consumers, employees, and other stakeholders.

    CSR and ESG issues are becoming increasingly important parts of the corporate agenda and businesses ignore these considerations at their peril. Society, the media, customers, employees and investors now increasingly weigh up the measurable and comparable aspects of CSR and ESG considerations when judging a business or a board of directors. Attendant ESG-litigation risks inevitably follow.

    Types of ESG-related claim

    COP26 has brought greater focus to climate issues. Public awareness of sustainability and ESG factors is higher than ever. It is therefore no surprise that we are seeing ESG-inspired disputes involving governments and corporates occurring more rapidly than ever before.

    Although it is difficult to generalise, the main types of claims being brought under English law (and that of many other common law jurisdictions) include:

    • claims brought in tort (such as negligence, nuisance, conversion of property, and trespass to the person)
    • statutory claims (such as human rights claims against public authorities under the Human Rights Act 1998 (HRA 1998), claims under consumer protection legislation, claims against issuers of securities who may have misled investors about ESG risks under section 90 or 90A of the Financial Services and Markets Act 2000, and claims based on breaches of directors’ duties under the Companies Act 2006 (CA 2006))
    • equitable claims (such as unjust enrichment and breach of fiduciary duties by directors or trustees)
    • criminal claims (such as facilitation of modern slavery or child labour, participation in money laundering, acquisition of criminal property)
    • administrative law claims (such as challenges to planning decisions or environmental permits and approvals)

    Of course, ESG factors also inspire contractual claims: as ESG becomes ever more important, ESG standards are being incorporated into supply contracts, manufacturing contracts and joint venture agreements, leading increasingly to disputes about the application of such standards.

    In this update, we set out some key developments in ESG disputes over the past year.

    Parent company liability

    In recent years, there have been a number of cases brought in the English courts against UK-based companies with subsidiaries operating in jurisdictions perceived to present access to justice concerns, such as certain countries in Africa and South America. The claimants seek to recover damages from the UK-based parent company on the basis of alleged pollution or environmental damage, or alleged violations of human rights, by its subsidiaries abroad. The claimants typically base their claims on the level of control exercised by a UK parent over its subsidiary, which they say is evidenced in statements in the parent company’s public documents made on behalf of their corporate group.

    In Lungowe and others v Vedanta Resources plc and another [2019] UKSC 20, [2019] 3 All ER 1013, the UK Supreme Court provided useful guidance as to when a parent company can be held responsible for tortious acts committed by its overseas subsidiaries under English law. It emphasised that the liability of the parent company mainly depended on the extent to which, and the way in which, the parent company involved itself in the control, supervision or in advising the management of the relevant operations of the subsidiary, or alternatively whether it publicly held itself out as so doing (regardless of whether it in fact did so). In Okpabi and others v Royal Dutch Shell plc and another [2021] UKSC 3, [2021] 3 All ER 191, the UK Supreme Court recently affirmed this reasoning and found that the question of how Shell’s vertical corporate structure operated in practice and the extent to which authority was delegated raised real issues to be tried in relation to whether Shell had assumed a duty of care for the acts of its subsidiary.

    In Mariana and others v BHP plc and BHP Ltd [2021] EWCA Civ 1156, the Court of Appeal granted permission to appeal against the decision of the High Court to strike out 235,000 claims against an international mining company as an abuse of process on the primary basis that the claims would be ‘irredeemably unmanageable’. The claims were brought following the collapse of the Fundão dam in Brazil in 2015, which destroyed many villages and affected communities along more than 400 miles of the Rio Doce. It is thought to be the largest group claim brought before the English courts to date.

    Each of these cases illustrates a willingness on the part of the senior English courts to entertain allegations of parent company responsibility for tortious claims in circumstances where claimants outside the UK allege they have been adversely affected.

    Human rights and climate change litigation

    Climate change litigation is a live issue and environmental activists have successfully brought claims against both governments and corporations. With the agreements reached at COP26 widely viewed as a mixed success at best, this trend is likely to continue. Non-governmental organisations (NGOs) and pressure groups are increasingly looking to the courts to advance a pro-environmental agenda, in circumstances where they express frustration at the slow progress of measures voluntarily undertaken by governments and corporations.

    Claimants increasingly advance human rights-based arguments when bringing climate change litigation. The vast majority of rights-based cases are aimed at pressurising governments and corporations to increase their efforts to reduce greenhouse gas emissions. We set out some of the most important developments over the past year below:

    • in Milieudefensie and others v Royal Dutch Shell plc C/09/571932 / HA ZA 19-379, the Hague District Court found that under section 6:162 of the Dutch Civil Code, as informed by Articles 2 (the right to life) and 8 (the right to private and family life) of the European Convention on Human Rights (ECHR), Shell was obliged to reduce its group carbon emissions by 45% by the end of 2030 (compared with 2019 levels). Although subject to appeal, this is a watershed decision, representing the first time claimants have successfully challenged the business model of a company like Shell (Note: the ECHR is found in Part 1 of Schedule 1 to the HRA 1998).
    • in March 2021, the German Federal Constitutional Court ordered the German Government to improve measures under the Federal Climate Act in order to meet its 2030 emission goals sooner (1 BvR 2656/18, 1 BvR 288/20, 1 BvR 96/20, 1 BvR 78/20). The court reasoned that the German constitution contained a principle of inter-generational fairness and that the young claimants’ constitutional protections would be in danger if the government did not implement more robust measures to reduce emissions. From September 2021, environmental NGOs also brought claims against Volkswagen, Mercedes-Benz and BMW. These claims are modelled on the Dutch Milieudefensie decision. The claimants seek to prohibit the car manufacturers from producing combustion engine cars by 2030 (five years earlier than required by EU legislation (Regulation (EU) 2019/631)), arguing that this deadline is necessary to meet the goals of the Paris Agreement and to comply with domestic law.
    • the Australian Federal Court held in Sharma by her litigation representative Sister Marie Brigid Arthur v Minister for the Environment [2021] FCA 560 that, in determining whether or not to approve the expansion of a coal mine under the Environment Protection and Biodiversity Conservation Act 1999, the Commonwealth Environment Minister had a duty of care to avoid causing personal injury to Australian children as a result of the expanded mine’s contribution to carbon emissions. However, the court declined to grant an injunction to prevent the approval of the mine expansion on the basis that the Minister had to make her decision in the light of the mandatory relevant consideration of the avoidance of causing personal injury to the claimants. The Sharma case raises interesting questions as to whether other common law courts (such as the English courts) would be willing to find, and impose, such a duty on the equivalent decision makers. However, finding an analogous duty of care in English law would require a significant—and almost certainly controversial, development of the established principles of tort law by the English courts.
    • in McGaughey and another v Universities Superannuation Scheme Ltd and others Claim no CR-2021-001966, academic staff are claiming against their superannuation (pension) fund in the English High Court. The case is a derivative claim against the directors of the fund on the basis of the directors’ duty to act in the beneficiaries’ best interest, as required by the CA 2006 and/or fiduciary duties. The claimants argue that, to fulfil these duties, the directors are obliged to create a credible plan to divest of fossil fuel investments. The claim is currently pending. However, in relation to derivative claims, there is generally no shortage of NGOs and claimant law firms intent on ensuring that ESG factors remain at the forefront when investment decisions are taken, so future litigation in this area is to be expected.

    Supply chain due diligence

    Another development where human rights arguments are prominent is the proposal that companies be legally obliged to carry out mandatory due diligence across their supply chains. The UK Parliament’s Joint Committee on Human Rights has urged the UK government to adopt legislation imposing a duty on all companies (including parent companies) to prevent human rights abuses, with failure to do so becoming an offence, along the lines of the failure to prevent bribery provisions of the Bribery Act 2010. This call has recently been echoed by 36 of the largest UK companies, which have also highlighted that the coronavirus (COVID-19) pandemic has laid bare the fragility of global supply chains and the vulnerabilities they create for workers, communities and indigenous peoples.

    Germany has already taken action and has passed an Act on Corporate Due Diligence in Supply Chains, which will fully enter into force in 2023. The Act requires large companies to identify, document and report risks of human rights violations and environmental destruction at all direct suppliers as well as indirect suppliers where they have ‘substantiated knowledge’ of a potential abuse. The Act also allows NGOs and German trade unions to represent private claimants in the German courts by way of representative action if there are violations of standards in the supply chain.

    The EU Commission has also published draft mandatory human rights and environmental due diligence legislation, which will oblige all businesses operating in the EU internal market (irrespective of whether they are themselves domiciled in the EU) to undertake human rights due diligence across their supply chains. Under the proposed framework, businesses will be required to monitor, identify, prevent and remedy risks to human rights, the environment and governance in their operations and business relationships, including their suppliers and subcontractors. The draft legislation also obliges EU Member States to establish effective civil liability regimes under which companies can be held liable for harm arising from a failure to comply with their due diligence obligations. These national regimes are to include a rebuttable presumption in favour of the claimant, and companies will have to prove that they took due care to avoid the alleged harm.

    Greenwashing claims

    Another trend is the emergence of so-called greenwashing claims. For example, in the Australian case of Australasian Centre for Corporate Responsibility v Santos Ltd Claim no NSD858/2021, the claimant NGO alleges that Santos’ claims that natural gas is a ‘clean fuel’ that provides ‘clean energy’ misrepresents the true effect of natural gas on the climate. The claimant further contends that Santos’ claim that it has a clear and credible plan to achieve net zero emissions by 2040 is misleading. These misrepresentations are said to breach Australian consumer protection and corporations laws. The case is currently pending before the Australian Federal Court.

    In O’Donnell v Commonwealth of Australia and others Claim no NSD858/2021, another case pending before the Australian Federal Court, the claimant is seeking an injunction prohibiting the promotion of Australian Government bonds until the Australian Government discloses more information to investors on the risks faced as a result of climate change. While the claimant in this case does not raise allegations of greenwashing as such, it argues that the efficacy of the government’s response to climate change will have a material impact on the country’s economy, and therefore on its sovereign credit risk and standing in international capital markets.

    Against this backdrop, it is important to note that ESG disclosures have historically been governed by voluntary frameworks. However, this era is drawing to a close. In the EU, the Sustainable Finance Disclosure Regulation (Regulation (EU) 2019/2088) now requires banks, private equity firms, pension funds, hedge funds and other asset managers to comply with much more onerous reporting obligations. This is likely to open up new avenues for greenwashing allegations. Furthermore, the EU Taxonomy Regulation (Regulation (EU) 2020/852) has made the question of whether or not financial products can be said to be ‘sustainable’ or ‘green’ an objective, rather than a subjective, test.

    The UK government has decided not to transpose the Sustainable Finance Disclosure Regulation into UK law, but has signalled that it will introduce more robust environmental disclosure standards. In the meantime, the UK Competition and Markets Authority (CMA) has published the Green Claims Code setting out principles that are based on existing consumer protection law. The CMA highlights that firms making green claims must not omit or hide relevant information and must consider the full life cycle of their products.

    Energy Charter Treaty arbitration

    Another development that has emerged is that companies that have been negatively affected by legislation passed to reduce greenhouse gas emissions are beginning to seek compensation for losses arising from government action. The arbitration proceedings brought against the Netherlands in reaction to a Dutch law implementing the phaseout of coal-fired electricity generation by 2030 are a case in point. German energy companies RWE and Uniper, which had invested in coal-fired power plants located in the Netherlands, commenced International Centre for Settlement of Investment Disputes (ICSID) arbitrations against the Dutch Government, arguing that this law violated the Energy Charter Treaty and claiming compensation for losses incurred as a result of implementing the law (ICSID case no ARB/21/4 and ICSID case no ARB/21/22). In response, the Netherlands has initiated two applications for anti-suit injunctions before the German courts to block the ICSID arbitrations from proceeding on the basis that the arbitration agreement in the Energy Charter Treaty cannot be given effect to as it is incompatible with EU law on intra-EU investment protection matters. These cases are currently pending.

    The Netherlands is a particular target for claims under the Energy Charter Treaty, because the Dutch law mentioned above does not provide compensation to energy companies that are required to phase out their coal-fired power plants by 2030. In contrast, the German Government agreed to pay affected companies €4.35bn in compensation to phase out coal-fired power plants by 2038, although this timeline may now be brought forward under the incoming coalition government, in which case compensation may need to be adjusted accordingly.

    The way ahead

    What conclusions can we draw from the developments outlined above?

    First, it is clear that ESG-inspired disputes are increasing and come in a variety of forms. The focus on sustainability is unlikely to reduce, and strategic litigation will remain a widely used tool to advance the ESG agenda.

    Second, the question of parent company responsibility for activities conducted by a parent’s subsidiaries, or agents, will remain a live one. The approach of the English courts in the past year or so is likely to encourage litigation of this nature.

    Third, the formulation of climate change-related claims by reference to fundamental human and constitutional rights will continue. It is likely that an increasing number of claims against governments and companies will pursue this path, with each new claim drawing on previous litigation to develop, and refine, the arguments put to the courts.

    Fourth, issues of supply chain responsibility will become more prominent, as legislation is enacted to enhance protections in this area. The support by major corporates for such an approach reflects a desire among the business community to raise standards and implement a ‘level playing field’.

    Fifth, and finally, it should be remembered that ESG-inspired disputes are rarely only about the law. Governments and corporates facing litigation will have one eye on the merits of their legal position, but often be equally concerned about the reputational and strategic implications of disputes. This requires a broad, multi-disciplinary approach to ESG issues, involving lawyers, and business development, investor relations and public relations professionals, among others.

    The information provided is not intended to be a comprehensive review of all developments in the law and practice, or to cover all aspects of those referred to.
    Readers should take legal advice before applying it to specific issues or transactions.


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