Disputes - What to look out for in 2020: Climate change risks

In brief

• climate change is recognised globally as the major issue of our time. Businesses and professional advisors in many sectors will see their conduct and liability risk increase as a result.
• stricter regulatory requirements will mean an increase in environmental conduct risk for those senior managers operating in the financial sector. Greater scrutiny of “green” investments, rapidly changing attitudes to fossil fuels and increasing investor activism will increase the likelihood of claims against businesses and professionals operating in many different sectors.
• mass ‘climate justice’ claims by communities affected by environmental issues are increasing against both corporates and states.
• weather events causing property damage and changes in Building Regulations will affect the construction and insurance industries.

Environmental issues and conduct risk

We anticipate that existing reporting obligations on environmental issues for businesses and senior managers will increase in scope significantly. For PRA-regulated entities, “Climate Change” is now a controlled function under SM&CR, and this is likely to be extended to FCA-regulated entities. Both the regulated entity and the individual Senior Manager are accountable to the regulator.

Firms, and their senior managers, will need to be ready and able to implement new processes and to assess and respond to the financial risks associated with climate change. D&O insurers will be watching developments in this area closely.

Greenwashing and investment claims

There is growing awareness of environmental issues among investors, financial institutions, asset managers and financial regulators. “Green” products, ranging from ESG funds and green bonds to ethical savings accounts and green home mortgages, are proliferating.

New laws, regulation, guidance and codes are being developed to improve transparency around “green” products. The EU’s Sustainable Finance Action Plan aims to create a unified EU “green classification system”. In the UK, the FRC’s new Stewardship Code takes effect on 1 January 2020; this requires signatories to “systematically integrate stewardship and investment, including material environmental, social and governance issues, and climate change” and sets out ESG-related reporting requirements.

In the meantime, there is uncertainty around the criteria by which products qualify as socially responsible or ethical, and how those criteria are translated into investment decisions. Financial institutions, financial advisors and asset managers (and their insurers) may face mis-selling litigation based on the “greenwashing” of financial products and breaches of investment mandates. The FCA has recently recognised this as an issue and said it will challenge firms where it sees potential greenwashing (Feedback Statement FS19/6). See our Insights article: FCA accused of inaction on "greenwashing" whilst industry risks mis-selling action.

As many large investors divest themselves of fossil fuels, and many insurers cease to underwrite coal-related risks, asset values will also be affected. An increased interest in investment in the renewables sector will also bring challenges. Moves to invest in and develop new and innovative products will bring new liability risks and less certain asset values for investors.

Increased litigation risk arises from potential:

• claims by investors who relied on misrepresentations, inaccurate information or advice on the “green” credentials of an investment;
• claims for damages for breach of statutory duty on the basis that a financial promotion for a “green” product was not fair, clear and not misleading;
• breaches of duty of care where advice has been given to purchase “green” investments, where the investment was not as environmentally beneficial as the investor was led to believe; and
• negligence claims against asset managers and financial advisors who have failed to foresee falls in underlying asset values arising from, for example, the increasing market toxicity of fossil fuel-based investments, increasing risk of property damage, and/or issues with new and innovative sustainable products.

2020 is also likely to bring further developments in the already steady flow of claims involving self-invested personal pensions (SIPPs) and SIPP investments into high-risk products, often marketed with sustainable or green credentials, such as forestry and biofuels.

Mass “climate justice” claims

Increasing public awareness that greenhouse gas (GHG) emissions are significantly contributing to a climate emergency has led to a growing number of ‘climate justice’ claims, seeking damages for the alleged effects of past emissions. Major emitters of GHGs, as well as state bodies, can expect challenges in the future.

Around the world these include:

• a number of actions in the US. All have so far been unsuccessful, having been dismissed by the US courts on the grounds that regulating GHG emissions is a political, rather than a legal issue (see Kivalina v Exxonmobil Corporation; AEP v Connecticut). It is notable though that in both Kivalina and AEP the higher US courts recognised that a private company could potentially be held liable for the climate change-related damage of its GHG emissions.
• in Germany, an appeal on similar issues to those in the US cases is ongoing (Lliuya v RWE AG). Watch this space.
• in the Netherlands, a tort claim has already achieved success - a world first (Urgenda v Netherlands). This has inspired similar claims against the Belgian Government and the German Federal Government. Although this claim was successfully brought against a country rather than a company, similar arguments could be run against major emitters of GHGs.

In England, we have not yet seen mass tort claims brought for climate change losses. The English court has, however, signalled that it is open to hearing large group actions in respect of both environmental harm and human rights abuse. In 2019 the Supreme Court in Vedanta took a broad view on when a parent could potentially be liable for the acts of its overseas subsidiary (see our Insights publication here). Taking these factors together, it is only a matter of time before actions for climate change harms are launched in England against multinational parent companies domiciled in the jurisdiction. We expect the first of these cases to begin in 2020.

The construction industry

Planned changes to the Building Regulations will mean much more stringent environmental requirements for new build and existing buildings. The progress of the Future Homes Standard consultation will be closely monitored, with further consultations expected relating to existing domestic buildings and all non-domestic buildings.

Disputes may arise where construction professionals have failed to anticipate environmental issues. We may see claims in areas such as defective design by construction and technology professionals, and product liability concerns regarding new components and materials developed to meet new environmental standards.

Those involved in property-based investments will also need to be aware of the changing landscape and factor these changes into investment and lending decisions.

What this means for you

• rapidly changing public and political (including regulatory) focus will mean that businesses and professionals in all sectors need to assess their environmental policies and procedures and anticipate risk in relation to their environmental obligations.
• if 2019 was the year climate change hit the global agenda, we expect 2020 to bring even greater momentum. Any business that now fails to recognise and take steps to address the risks posed by this fast-developing area puts itself at significant legal, regulatory, reputational and financial risk.