Shareholder argues directors have a duty to manage climate risks

ClientEarth has announced its intention to pursue shareholder litigation against Shell’s board of directors, alleging that Shell’s current strategy to meet the targets set in the Paris Agreement and its transition to net zero is in breach of the directors’ duties under the Companies Act 2006 (Act). ClientEarth wants to compel the board “to act in the best long-term interests of the company by strengthening its climate plans”.

This follows last year’s ruling by the Hague District Court ordering the Dutch Shell parent company to amend its corporate policy to reduce its emissions. It also represents part of a wider strategy by some shareholder groups to ensure that companies transition to net zero in line with the Paris Agreement. The Climate Action 100+ Initiative, supported by the world’s biggest investors, has already called for all companies to align their business plans with the goals of the Paris Agreement.

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Legal basis for the claim

The two duties referred to in the claim are those under s172 (duty to promote the success of the company) and s.174 (duty to exercise reasonable care and skill) of the Act.

Under s172 company directors have a duty to promote the success of the company for the benefit of its members as a whole and, in doing so, must have regard to a range of factors when exercising that duty. Those factors include the likely long-term consequences of any decision and the impact of the company’s operations on the community and the environment.

Under s.174 company directors have a duty to exercise reasonable care, skill and diligence when discharging their duties.

ClientEarth alleges that Shell’s directors (both executive and non-executive) have:

• failed to pursue an adequate energy transition strategy, which put Shell's long-term value at serious risk; and
• breached their duties under s172 and s174 by mismanaging Shell’s material and foreseeable climate risks.

ClientEarth believes that the Shell board’s strategy prioritises ‘near-term profit’ at the expense of ‘enduring commercial viability’.

Shareholder derivative claim

Importantly, ClientEarth is bringing these claims as a derivative action which means they are brought by Client Earth as shareholder - having bought shares in the company - on behalf of the company and for the benefit of the company.

To pursue this claim, ClientEarth must apply to the Court for permission to bring a derivative action under s.261 of the Act. The Court must be satisfied that the claim is in the interests of the company itself and must take account of a range of factors, which are set out in s.263 of the Act. These include the size of the claim, the impact on the company if it lost the claim and whether pursuing the claim could damage the company in other ways.

Significantly, in deciding whether to grant ClientEarth permission, the Court is also obliged to take into account the views of other shareholders in Shell and so their views may have a major impact on the litigation. In this respect, ClientEarth is encouraging Shell’s institutional investors to support the claims and to exercise their fiduciary duties (as investors) to compel the Board to adopt a strengthened climate strategy.

Significance of the claim

This is the first time an environmental NGO (such as ClientEarth) has brought an action in England as a shareholder against directors holding them personally liable.

It is also the first attempt to hold directors of a company accountable for failing to prepare properly for the transition to net zero and to consider directors’ duties in relation to climate risk management.

It is not, however, the first instance of shareholder action in relation to climate change as we have already seen other actions including shareholder proposals asking companies to prepare climate transition plans and put them to a shareholder vote. Examples of successful campaigns include, in May 2021, Exxon having three of its directors replaced by climate competent board members nominated by activist hedge fund, Engine No.1. Engine No.1 had argued that the oil and gas group's refusal to recognise the need for a transition away from fossil fuels failed to take into account the financial risks posed by climate change, which would result in "value destruction". In the same month, Chevron's shareholders voted in favour of a resolution for the company to set stringent targets to "substantially reduce" its scope 3 emissions (ie emissions from the products it sells). (See 26 May 2021: A day of shareholder action for ESG issues for more information.)

What ClimateEarth’s claims show is that shareholders are going to continue demanding that businesses have credible plans for dealing with climate change risks and the transition to net zero and we may start to see more challenges to those plans as more companies start to publish their transition plans. For listed companies, there is a requirement (under the Listing Rules) to start publishing them in 2023 in respect of financial years beginning on or after 1 January 2022.

But the claims may also be the start of a shift away from shareholder ‘Say on Climate’ votes to shareholders looking more closely at how the board is managing climate risk and removing or bringing claims against board members if they consider that they are mismanaging climate risks. Companies should engage proactively with their shareholders to ensure they fully understand the company’s ESG plans and how they will promote the long-term success of the company.