Directors of Australian corporations need to have strategies to appropriately consider and disclose climate risks if they are to comply with their directors’ duties. This was one of the findings of a legal opinion commissioned by the Centre for Policy Development (CPD) in October 20161, and subsequently endorsed by statements of Australian Securities & Investments Commission (ASIC).
There has been a flurry of updated guidance from regulators in 2019, so it might be time for a refresher:
What is climate risk and why does it matter?
Climate change risk is often described in terms of:
- risks related to the physical impacts of climate change (such as extreme weather events); or
- risks related to the transition to a lower-carbon economy (such as policy, legal, technology, and market changes).2
Climate risk is emerging as an important legal risk for organisations, as there is a current trend internationally of class actions being brought against companies and public authorities for perceived failures to address climate change.3 In the Australian context, an action was brought in the Federal Court against the Commonwealth Bank (CBA) in August 2017 on the basis that the directors failed to adequately disclose the risk climate change posed to its financial position in its 2016 Annual Report (noting that this litigation was subsequently dropped after CBA included an acknowledgement of climate risk in its 2017 Annual Report).4 REST Superannuation fund also made headlines in 2019 after one of REST’s members commenced legal action which (amongst other things) alleges that REST had breached their fiduciary and statutory duties by failing to adequately consider and disclose climate change risks.5
Of course, there may also be commercial and reputational reasons for disclosing and acting on climate risks. A status report of the G20’s Task Force on Climate-related Financial Disclosures (TCFD) in June 20196 found that:
- there is a growing demand for climate-related financial information by investors and financial regulators
- more clarity is needed on the potential financial impact of climate-related issues on companies
- of companies using scenario analysis, the majority do not disclose information on the resilience of their strategies.
What duties apply to directors of Australian corporations in respect of climate risk?
In recent years there has been considerable debate about the duties of directors of Australian corporations in relation to the disclosure of climate risks. An opinion of Noel Hutley SC and Sebastian Hartford-Davis in October 2016 formed the view that climate change is a foreseeable risk to Australian companies and director’s should consider climate risk to satisfy their duty of care and diligence under section 180 of the Corporations Act.7
As summarised by the CPD (who commissioned the opinion):
‘the bar for directors is rising as the links between social and environmental factors and financial risks and performance come into sharp focus. It demonstrates that directors who fail to consider the impact of foreseeable climate change risks on their business properly could be held personally liable for breaching the duty of due care and diligence they owe to their companies.’8
Importantly, the position reached in the Hutley SC and Hartford-Davis opinion was subsequently endorsed by ASIC Commissioner John Price in a keynote address in June 2018. He indicated that, while the question of whether an entity is materially exposed to climate risk is determined by the particular circumstances applying in each entity’s case, directors need to ‘adopt a probative and proactive approach in assembling the information reasonably required to inform their decision making in this area’.9 The Commissioner also suggested that directors may not be able to fall back on the business judgement rule10 as a defence in relation to climate risk, depending on the circumstances.
In taking a ‘proactive approach’, increasing coordination is likely to be required across business areas within corporates to effectively understand, disclose, and respond to climate risks. TFCD11 have noted that climate-related issues can no longer just be driven by sustainability and corporate social responsibility arms. Rather, the involvement of multiple functions is critical for the ‘mainstreaming’ of climate-related issues, specifically that risk management, finance, and executive management are increasingly involved (and I would also add legal).
What are regulators doing?
From a regulatory perspective, there is increasing scrutiny in relation to the disclosure and management of climate risk, with the Australian Prudential Regulatory Authority12, Australian Securities Exchange13 and ASIC14 issuing new guidance in 2019. For example, ASIC updated its guidance on 12 August 2019 to (amongst other things):
- incorporate the types of climate change risk developed by the G20 Financial Stability Board’s TCFD into the list of examples of common risks that may need to be disclosed in a prospectus (refer Table 7 of RG 228)
- highlight climate change as a systemic risk that could impact an entity’s financial prospects for future years and that may need to be disclosed in an operating and financial review (OFR) (refer RG 247.66)
- reinforce that disclosures made outside the OFR (such as under the voluntary TCFD framework or in a sustainability report) should not be inconsistent with disclosures made in the OFR (refer RG 247.66)
- highlight climate change and other risks that may be relevant in determining key assumptions that underly impairment calculations (refer INFO 203: Impairment of non-financial assets: Materials for directors).’
Directors should ensure they are familiar with and comply with the updated guidance issued by Australian regulators in 2019.