The Evolution of directors duties in the context of climate change
02 March 2022
02 March 2022
In the first edition of Principles of Company Law (1974), Professor Harold Ford wrote that directors’ duties were 'not very demanding'.
However, directors’ duties have evolved and they are now judged not on the basis of actual knowledge and conduct but instead on what directors ought to have known or done. The test applied to directors has moved from the subjective and specific to an objective test of what the reasonable person ought to know about a variety of topics, including those pertaining to environment/social/ governance (ESG) issues such as climate change, and other strategic issues such as cyber and data security.
The job of a director of a listed company has become complicated as shareholder expectations and organised activism drive greater scrutiny and as technology continues to develop at a rapid pace. Change has been so rapid that there is now an argument for some functions of directors to be performed by a blockchain-enabled DAO, or Decentralised Autonomous Organisation, governance structure.
Oversight by bodies such as the Australian Securities and Investments Commission, the Australian Prudential Regulation Authority and the Australian Securities Exchange has also increased, as have class actions and litigation that focuses on what directors ought to have been aware of.
The ASX’s Corporate Governance Principles and Recommendations suggests listed entities should establish a sound risk management framework and that listed entities disclose their exposure to material environmental and social risks (such as climate change) and how they manage those risks. This comes with the added requirement that commitments around net-zero, climate change and other forward-looking statements must be supported by objectively reasonable grounds. Failure to do so risks 'greenwashing', which the regulators have said they will target.
Directors now must understand the detail and extent of climate risks for their company. Leading barrister Noel Hutley SC warns that it is only a matter of time before we see litigation against directors who have failed to perceive, disclose or take steps in relation to foreseeable climate-related risks which cause harm to their business, perhaps including reputational harm.
There are best-practice principles, such as those from ClimateWorks, which include: making a long-term net-zero commitment; adopting at least one medium-term target that is appropriate and ambitious; and setting tangible near-term actions to achieve the medium- and long-term targets.
The shift in director duties entails a move to pro-active governance. The Hayne Royal Commission's Interim report reflects this with its statement: "to preserve and enhance a reputation [of the enterprise] . . . the enterprise must do more than not break the law. It must seek to do ‘the right thing’”. In the context of ESG, the duty of care and diligence may require directors to take pro-active steps to address climate risks.
Although there are currently no mandatory climate risk reporting obligations in Australia, countries such as Singapore, New Zealand and the UK have announced that some domestic entities will be required to report in alignment with the Task Force on Climate-related Financial Disclosures (TCFD) recommendations.
Shareholder advocacy groups such as the Australasian Centre for Corporate Responsibility have been pushing for Australian companies to adopt a shareholder advisory vote on the company's TCFD aligned climate transition plans and annual disclosure of emissions. The newly-formed International Sustainability Standards Board (ISSB) will involve Australia in the development of disclosure standards that build off the TCFD regime.
In some areas, the strategic challenges facing companies are developing faster than the law and regulatory environment, meaning that directors need to make decisions in uncertain legal contexts. Ultimately, the evolving risk environment calls for directors to be aware of their obligations, undertake risk assessments across the business and pro-actively take steps to ensure adequate procedures are in place to manage emerging risks.
Authors: Rob Hanley, Head of Ashurst Legal Governance Advisory; Jamie Ng, Global Head of Ashurst Consulting division.