On 9 February 2023, ClientEarth, a non-profit environmental law organisation and shareholder in Shell plc, filed a claim in the English High Court commencing a derivative action against Shell’s board of directors. This follows pre-action correspondence between the parties last year.
Shell is no stranger to climate related litigation. In 2021, the Hague District Court in the Netherlands directed Shell to reduce global emissions by 45% by the end of 2030. Whilst this decision is under appeal, Milieudefensie et al. v Royal Dutch Shell plc marked the first major case to hold that a multinational corporation owed a duty of care to reduce its CO2 emissions. And, earlier in February this year, another non-profit group, Global Witness, lodged a complaint against Shell with the US Securities and Exchange Commission, alleging that the company had overstated how much it is spending on renewable energy.
This new derivative claim filed by ClientEarth in the UK is novel, however, as it alleges that the board’s mismanagement of climate risk puts the directors in breach of their duties under the UK Companies Act. Shell does not accept ClientEarth’s claims.
ClientEarth’s claim against the Shell directors
The action arises from Shell’s 2020 climate strategy and the company’s progress towards energy transition. In 2020, ahead of a May 2021 Annual General Meeting, Shell announced its Energy Transition Strategy, which states its aim is "to become a net-zero emissions energy business by 2050" which it asserts is "in step with society's progress towards the goal of the UN Paris Agreement on Climate Change". In October 2021, Shell announced a new target to halve its absolute emissions by 50% by 2030.
Despite these targets and renewed strategy, ClientEarth alleges that Shell has not done and is not doing enough.
The derivative action claims Shell’s 11 directors have breached their legal duties under the Companies Act 2006. In particular, that the Shell board has mismanaged climate risk by failing to prepare properly for the energy transition to net zero, and by failing to adopt and implement an energy transition strategy that aligns with the Paris Agreement.
The legal duties that are alleged to have been breached are:
a) Section 172 Promote the success of the company – This requires company directors to act in a way that they consider will best promote the success of the company for the benefit of its members as a whole. In doing so, they are required to have regard to a range of factors that includes the likely consequences of any decision in the long term, the interests of the company’s employees, and the impact on the environment; and
b) Section 174 Exercise reasonable care, skill and diligence - Under this section of the Act, directors are legally required to exercise reasonable care, skill and diligence in the discharge of their duties.
On the basis of this claim ClientEarth are seeking:
a) A declaration that the directors are in breach of their duties; and
b) An order that the directors prepare and adopt a strategy that includes GHG reduction targets aligned to the goals of the Paris Agreement and in compliance with the Dutch Court judgment.
The legal claim has the backing of a number of institutional investors and pension funds. These investors include pension funds like Nest - the UK’s largest workplace pension scheme - and London CIV in the UK, Swedish national pension fund AP3, French asset manager Sanso IS, Degroof Petercam Asset Management (DPAM) in Belgium, as well as Danske Bank Asset Management and pension funds Danica Pension and AP Pension in Denmark. They represent approximately less than 1% of Shell’s total shareholder base.
Procedurally, a derivative action essentially allows a shareholder (such as ClientEarth) to 'step into the shoes' of the company in order to bring a claim on its behalf against its directors for wrongs committed against the company.
Part 11 of the Companies Act provides an exclusive statutory regime for such claims.
Ordinarily the proper claimant in wrongs committed against a company, whether by directors or by third parties, is the company itself, and the ability to decide whether to sue or not is generally conferred on the board of directors. English law also gives effect to the principle of majority rule, subject to certain common law and statutory exceptions. As a result, shareholders are normally precluded from complaining of actions that are approved by the majority and a court will not generally intervene in the internal management of a company acting within its powers. However, where certain specified types of wrong are committed by company directors, the court has a discretion in appropriate circumstances to permit members to bring a derivative claim in their own name on behalf of the company.
Significantly, a shareholder that issues a derivative claim must obtain permission of the Court to continue with that action. The bar to proceed with such claims is set high and as a result actions of this type have not been commonplace.
Should directors and insurers be worried?
If the claim is successful, derivative litigation could become a tool for activist shareholders looking to deter directors from failing to manage climate risks properly. It also poses a risk to insurers who would have to account for a potential increase in shareholder derivative actions. So, should boards and insurers be concerned?
Whether permission is granted in this case remains to be seen – it is notoriously difficult to achieve - but the case does have the potential to set a blueprint for other shareholder activists seeking to hold boards of companies to account and not only in the UK. Litigants globally may be emboldened by the ClientEarth proceedings and could test equivalent playbooks in other jurisdictions where there are similar director duties regimes.
Importantly, the case shines further light on why ESG should be high on the priority list for companies and their directors, who must ensure all risks are disclosed and managed sufficiently. Organisations, like ClientEarth, are prepared to scrutinize a company's strategy and targets to ensure that they align with what is shown in the investment portfolio and accounts and that future climate risks are accounted for and appropriately managed. This may well prompt other investors to look more closely at their own investments and, if unconvinced by what they see, shift their focus to the actions (or inactions) of the board. Directors and officers (and their insurers) will need to be alert to this evolving area of risk.
This latest claim is also consistent with the trend of increased shareholder activism related to ESG issues and climate change litigation generally.
In 2022, many listed companies continued to choose to put a “Say on Climate” resolution to their shareholders and shareholders continued to support these proposals. A number of prominent investors also warned that they will vote against companies in 2023 that do not have net zero targets, have insufficient climate transition plans, or which do not have sufficiently diverse boards.
As for climate change litigation, this has more than doubled globally in the past seven years, according to a report by the London School of Economics,[1] and that upward trajectory is set to continue with activists, NGOs and other stakeholders adding new causes of action to their armoury. This latest claim illustrates the continued evolution and innovation in climate change litigation. It also confirms that the pace and complexity of climate change litigation is increasing. Whilst fossil fuel companies have principally been the focus of actions against corporate actors in this space, cases are increasingly targeting the food and agriculture, transport, plastics and finance sectors.
The English Courts are also showing greater willingness to entertain claims targeting UK parent companies for the ESG-related transgressions of their foreign subsidiaries. Two recent procedural decisions by the Supreme Court - Vedanta Resources PLC and another v Lungowe and others and Okpabi & Ors v Royal Dutch Shell plc and Shell Petroleum Development Company of Nigeria Ltd – are examples of this. Those decisions confirm that, in certain cases, statements in published documents and policies may provide some basis on which to find UK parent companies liable for harm caused by their subsidiaries in foreign jurisdictions. The claimants in those cases relied on such statements to assert that the parents themselves owed a duty of care in connection with their subsidiaries’ ESG-related breaches.
Whether or not ClientEarth is granted permission, its claim (as no doubt intended) has resulted in wide-spread press coverage. That coverage has brought Shell's net zero strategy into the public spotlight and acted as an example of further shareholder activism challenging the strategies and actions of companies. Regardless of the legal merits on which the claim might be based, the reputational impact could be enough to push Shell's directors (and the Boards of other companies) to act in a way which vindicates ClientEarth's strategic climate ambitions.
Key takeaways
This latest action highlights the importance of a board’s consideration of climate risks and the potential for claims against boards that are not duly executing climate commitments and net zero targets. Directors and officers should seek to manage this litigation risk by ensuring that:
a) climate risks and targets are carefully considered and accounted for with reasonable care and due regard to promoting the best interests of the company over an appropriate term,
b) those risks and targets are kept under review, regularly updated (where necessary) and reflected in the company’s operational strategy, and
c) the communication of those risks, targets and commitments is transparent and consistent with applicable disclosure requirements.
Contact our ESG team if you want to know more about what this might mean for you. We have specialist expertise in helping companies review, mitigate and manage the legal risks associated with ESG.
This article was written by Victoria Barnes.
[1] https://www.lse.ac.uk/granthaminstitute/publication/global-trends-in-climate-change-litigation-2022/