Navigate the evolving risk landscape
In May 2023, the High Court delivered a judgement in an ESG-related shareholder action. The Court confirmed that it is not its role to tell a director how to discharge their duties, or to act in a supervisory role over decisions honestly arrived at and made within the Board’s powers. This decision cements the commonly known “business judgement rule” which affords directors a defence to a claim where Board decisions are made rationally, in good faith and in the interests of the business.
ESG issues have generated litigation by shareholders and activists, with divided views on support for or opposition against ESG agendas. Some US states have adopted anti-ESG legislation which prohibit state funds from being used or invested for ESG purposes.
ESG-related litigation has been issued against companies and, in some instances, certain directors and officers. Actions against directors and officers have centred on Board decisions either actively pursuing ESG-related agendas including diversity, equity, and inclusion policies to the alleged detriment of the company or failing to disclose political or social risks for the company in pursuing ESG goals. Like the UK, US courts have shown an unwillingness to intervene in business decisions made following thorough consideration, or to encourage shareholder actions motivated by personal agendas.
In 2022, the Securities and Exchange Commission proposed new rules that would require public companies to disclose their sustainability goals and how they are meeting them, outline how climate change is affecting their business and document their greenhouse gas emissions. As at the date of this article, WTW understands that those guidelines have not yet been finalised, but are anticipated for release in October 2023.
Mandatory ESG reporting was adopted by the European Commission in July 2023. Companies within the EU or companies with specified levels of activities within the EU[1] will need to comply with the European Sustainability Reporting Standards (ESRS), expected to be effective as early as 2025.
Ten sustainability topics for ESRS reporting include climate change, pollution, water and marine resources, biodiversity and ecosystems, circular economy, own workforce, workers in the value chain, affected communities, consumers and end-users and business conduct.
Companies will be required to assess each of the sustainability topics to determine whether the information is material from either a financial or an impact perspective (referred to as the “double materiality” standard).
ESRS reporting is to be contained in annual sustainability reports that need to be filed alongside the company’s annual financial statements and will need to include information on risks, impact and opportunities involving material upstream and downstream value chain, regardless of the company’s control of that value chain.
Board members are expected to be fully apprised of ESG-related matters affecting the business.
In July 2023, ASIC affirmed its willingness to pursue action against organisations for allegations of greenwashing. In the nine months to March 2023, ASIC has taken 35 regulatory interventions against greenwashing activity and has commenced three civil penalty proceedings against Mercer Super, Vanguard, and Active Super. As three of the first penalty proceedings that ASIC has brought for greenwashing, their outcome may set the tone for ASIC’s enforcement attitude going forward. At the time of this article’s publication, those actions remain in the procedural stages and WTW will continue to monitor developments.
The Financial Accountability Regime (FAR) was passed in September 2023 but has not yet received Royal Assent. FAR is an expansion of the Banking Executive Accountability Regime (BEAR), which requires authorised deposit taking institutions (ADIs) to identify responsible directors and senior executives, detail their specific responsibilities in accountability statements, and to conduct their activities in accordance with broader obligations, such as integrity, skill, and cooperation with ASIC and APRA. A breach of BEAR can lead to penalties imposed on organisations (up to $210 million for larger ADIs) and potential personal liability, including possible disqualification, for relevant directors or executives. Under FAR, entities regulated by APRA will be included in the accountability regime.
With the evolving regulatory landscape, available defences such as the business judgement rule (see section 180(2) of the Corporations Act 2001) are becoming increasingly important for directors and officers.
In New Zealand, the Financial Markets Authority (FMA) issued a warning against Vanguard Group in March 2023 for its failure to lodge a required notice to the relevant body, regarding the purported exclusion to tobacco-exposed index funds.
In May 2023, the FMA published a media release outlining its intention to actively pursue organisations who failed to adhere to their disclosure obligations. The FMA specifically referenced greenwashing but did not exclude social, governance or ethical obligations in its enforcement pursuit.
The evolving litigation and regulatory developments for ESG issues have brought to sharp focus not only legal defences available to directors and officers, but also the increasing expectation that directors are fully apprised of ESG-related risks, including social, political and value chain risks.
We expect more litigation either against companies or directors alleging ESG violations, particularly if FAR gathers momentum. While there may be protections via the business judgement rule, the costs associated with defending a claim are expensive. It is more important than ever that an insurance program is adequately structured to ensure that such risks are protected. Speak to our experienced insurance brokers, who can assist further and discuss WTW’s bespoke quantification tool, ESG Clarified, to help you navigate this evolving risk.
If you have any questions, please contact us.
Anthony is a Senior Associate in our Cyber and Technology Risk Practice based in Melbourne. He manages large and complex cyber risks along with financial and executive risk placements for clients.
