Corporate directors should pay close attention to investor engagements and a growing range of liability risks around climate change

By Dustyn Lanz, Senior Advisor, ESG Global Advisors Inc.

Long gone are the days when climate change was the sole domain of corporate social responsibility managers. As climate science moved into the mainstream in recent years alongside the rising frequency and severity of extreme weather events, it became clear that a warming planet poses material business risks that require oversight from senior leadership.

Now, in 2023, corporate executives and directors are inundated with demands related to climate change and other environmental, social and governance (ESG) issues. Indeed, this year marks a regulatory tipping point in North America as the market awaits new climate disclosure rules from the Canadian Securities Administrators and the Securities and Exchange Commission.

But climate change is more than just a disclosure or compliance issue – it is a strategic matter that is brewing myriad business risks and governance issues for corporate managers and directors to get a handle on. In some cases, these issues may arise in the very near future, such as the meeting season that is just getting started.

Here are two major climate governance trends for directors to watch during this AGM season and beyond:

1. Investor action on climate governance is ramping up in Canada

Investors around the world are escalating their engagements with portfolio companies on climate change issues. In one well-known example, climate-conscious shareholders led an effort in 2021 to replace 3 of ExxonMobil’s board members. In 2022, Norway’s massive sovereign wealth fund voted against the entire boards of 18 companies and is preparing to vote against the re-election of directors at 80 companies in 2023 for inadequate management of climate risk.

Globally, some 700 institutional investors managing $68 trillion in assets have joined Climate Action 100+, a shareholder coalition that engages with 166 high-emitting companies to promote climate action. This coalition has been quite successful in achieving its goals – for example, as of 2022, 75% of its focus companies had established net-zero targets, up from 50% one year prior.

Here in Canada, large investors have been working in collaboration leading up to 2023 AGM season through Climate Engagement Canada (CEC), a coalition of 36 institutional investors managing some $4 trillion in assets. Its backers include major players like BMO Global Asset Management and the Alberta Investment Management Corporation, who plan to engage with 40 of Canada’s highest-emitting companies listed on the TSX to promote a just transition to a net-zero economy. (Disclosure: I helped develop this initiative in my previous role as CEO of the Responsible Investment Association).

In its draft benchmark, CEC outlines a series of objectives for portfolio companies including the establishment of credible decarbonization strategies, emissions reduction targets, and an alignment of capital expenditures with climate commitments, among others.

More specifically for boards, these investors plan to advocate for a number of governance provisions such as ensuring boards have proper oversight of climate risks and the competencies to execute such oversight. The group also wants to see boards linking executive compensation plans to climate-related KPIs such as greenhouse gas emissions reductions.

Moreover, the investor coalition expects companies to align their lobbying efforts with the Paris Agreement and publicly disclose any lobbying activities related to the climate. Furthermore, they want companies to disclose their trade association memberships and ensure their associations are lobbying in line with the goals of the Paris Agreement.

Obviously, directors of the 40 companies on the focus list will want to monitor these engagements and be ready to adapt or defend their climate strategies in response. Silence and inaction on climate are not credible options in 2023, since climate and ESG performance are increasingly viewed as key features of a company’s social license to operate.

These investors’ expectations extend well beyond the 40 companies on their focus list, and well beyond the CEC initiative because they represent emerging norms in the investment community. Asset owners and beneficiaries such as pension plan members are pressing their fund managers to align portfolios with a credible pathway to a net-zero future, and this pressure will soon land in many corporate directors’ inboxes, if it hasn’t already.

2. Climate-related liability risks are on the rise

As you may have seen in the news, a nonprofit organization recently filed a lawsuit against Shell’s board of directors for allegedly “failing to manage the material and foreseeable risks posed to the company by climate change.” What’s new about this lawsuit is that it aims to hold directors personally liable for what the plaintiff views as a flawed energy transition strategy. The suit is backed by investors who collectively hold some 12 million shares in the company.

The legal action against Shell does not exist in a vacuum. In fact, there is a growing movement led by environmental groups and other stakeholders who are taking legal action against companies over their actions (or lack thereof) pertaining to climate change. The table below summarizes five types of climate liability risks that directors need to be aware of, and provides examples for each.

Climate Liability Risks for Corporations

Type of ClaimDescriptionExample
Fiduciary duty claims Claims may be brought against boards for failing to act in the best interests of their company and exercising their duty to consider business risks associated with climate change.A recent claim against Shell’s directors by ClientEarth, an NGO that holds shares in the company, alleges the board breached its duties in failing to manage exposure to climate transition risk.
Greenwashing & misleading disclosure claims Companies and their directors may face litigation or regulatory action where they are perceived to be making exaggerated or misleading claims with respect to climate change.The SEC fined BNY Mellon $1.5 million for misstatements and omissions related to the ESG characteristics of its mutual funds.   The Australian securities regulator fined two energy companies – Black Mountain Energy and Tlou Energy – for making misleading claims regarding “net zero” and “carbon neutral” projects.   New legislation introduced in the U.K  could see companies fined up to 10% of their global turnover and individuals could be hit with penalties of up to £300,000 for making misleading green claims.
Climate damages claims Companies may face litigation for damages suffered as a result of the effects of climate change.A Peruvian farmer is seeking compensation from German utility company RWE to mitigate the cost of erecting flood defences to protect his town, citing RWE’s historic contribution to emissions.
Human rights-related claims Courts are increasingly recognizing climate inaction as a potential breach of human rights. Companies that fail to consider climate risks may be deemed to have breached rules that require them to consider impacts on human rights.In 2021, a Dutch court ordered Shell to reduce its net GHG emissions from 2019 levels by 45% by 2030 following a claim that the company “is endangering human rights and lives.”
Compensatory claims Climate change increases the likelihood of extreme weather events, which can increase the risk of companies being unable to fulfil their contractual obligations. Companies may face claims arising from breaches of contract and damage to assets or third parties related to climate change issues.As the first climate-driven bankruptcy, U.S. utility PG&E and its former directors and officers have faced compensation claims from property owners, injured citizens, shareholders and bondholders alleging the company failed to manage the risk of wildfires, and made misleading disclosures about the company’s climate change and wildfire resilience.

Source: The above table is adapted from work done by the Commonwealth Climate and Law Initiative.

With such a vast array of climate-related liability risks proliferating, general counsels are concerned. A recent Norton Rose Fulbright survey of over 430 in-house lawyers found that, while only 2% of respondents reported ESG-related litigation in 2022, 28% said their exposure to ESG claims had deepened and 24% expect increased exposure in 2023. Among those concerned with class actions, 37% said ESG-related class actions stand among their greatest concerns.

The growing anxiety of in-house lawyers is not surprising, since very few companies have credible climate plans. A recent CDP report found that only 81 out of 18,600 companies globally – a microscopic 0.4% – have credible climate plans in place. Therefore, the universe of potential climate-related claims is staggering. To avoid risk of litigation, and the reputational risks that come with even a weak claim, boards must ensure that their companies have credible climate plans and that their marketing and sales departments aren’t overstating their climate and ESG strategies.

The Path Forward

Canadian corporate directors wishing to avoid public and legal scrutiny[1] and shareholder escalations should take the following steps:

  1. Understand which ESG and climate-related issues are material to the business;
  2. Ensure board oversight of the company’s climate strategy, including its lobbying activities, association memberships, and exposure to climate risks and opportunities;
  3. Make sure the board is educated about climate change and ESG issues, and that the board has climate expertise among its directors;
  4. Ensure the company has established a credible climate plan, including emissions reduction targets for the short, medium, and long term to achieve net-zero emissions by 2050 or sooner;
  5. Ensure coherent processes are in place to execute the plan, and that the company has allocated sufficient resources to teams tasked with implementing the plan;
  6. Align the company’s capital expenditures with its credible climate plan, or phase out planned investments in projects that conflict with a net-zero future;
  7. Link short- and long-term executive compensation plans to climate performance indicators such as GHG emissions reductions;
  8. Report on progress against the climate plan and ensure climate disclosures are aligned with the recommendations of the Task Force on Climate Related Financial Disclosures;
  9. Engage proactively with shareholders, rights and title holders, and stakeholders.

Learn more about ESG Global Advisors and our Team.

[1] The author is not a lawyer. The contents of this article are merely for informational purposes and should not be interpreted as legal advice. Corporate directors are advised to seek legal advice from a qualified lawyer.