26 May 2020

Risks for financial services firms in the UK in regards to the climate change litigation

Until recently, global climate change litigation focussed on tort claims against energy companies and others whose activities are perceived to impact directly on the environment. Today, the focus is broadening to claims against other corporates, including financial institutions.

Claims brought against financial institutions globally to date

Claims brought against financial institutions so far have tended to focus on the nature of their investments. Early claims alleging that banks had contributed to environmental damage via their ongoing funding of natural gas projects and coal exporting failed for causation, as the claimants could not prove that these activities would have halted if the banks in question withdrew their funding.

More recently, we have seen claims brought by shareholders of banks to force them to make disclosure about the climate-related risks they are exposed to, such as the claim against Commonwealth Bank of Australia (CBA) in 2017, which focussed on the risks of CBA’s possible investment in a controversial coal mine. That claim was withdrawn when CBA simply made disclosure.

Although short of litigation, the complaint brought against ING Bank by Dutch NGOs in 2017 also focussed on disclosure, alleging that ING Bank had breached the OECD Guidelines by failing to report its indirect greenhouse gas emissions through the companies and projects it financed worldwide. However, the complaint went further and also challenged ING Bank for failing to set targets to reduce its emissions in line with the Paris Agreement, resulting in ING Bank agreeing to make the disclosure and set targets to reduce its thermal coal exposure.

Last year, Dutch NGOs brought another complaint against ING Bank alleging that it has breached the OECD Guidelines by its continued renewal of loans to palm-oil businesses, which has contributed to adverse environmental and human rights impacts. That complaint is currently in progress.

Where is the litigation risk for financial services firms in the UK?

In the UK, although there has not yet been any climate-related litigation against a financial institution, there is continuing and very public pressure from shareholders for firms to phase out lending to the fossil fuel industry, an increasing focus from financial services regulators on climate change risks, and complaints have already been made to the Financial Conduct Authority (FCA) about certain insurance firms’ lack of disclosure of climate-related risks. As momentum gathers, we expect the key areas of litigation risk for financial services firms in the UK to be:

1. Accuracy and completeness of disclosure about firms’ climate-related risks and exposures. Most financial services firms now make some disclosure about their climate-related risks and exposures; in particular, banking and insurance companies over a certain size are required to produce an annual statement which addresses their policies and due diligence processes in relation to impact on the environment. The Prudential Regulation Authority (PRA) and the FCA expect to see firms’ understanding of climate-related risks and exposures and the detail of disclosures made about them increase significantly over the next few years. As firms are able to make more sophisticated assessments of their risks and exposures, and disclosures about them are more detailed, the potential for discrepancies and different judgments will increase.

2. Reflecting changes in asset value or level of investment risk. The value of some financial assets is likely to change significantly as we transition towards a low carbon economy. It will be important for firms to ensure that any analysis of climate-related risks and exposures is considered across the firm’s activities. For example, changes in the value of firm assets would need to be accurately reflected in the firm’s accounts. Changes in value may also mean that some investments offered to clients (such as investments in certain energy sector assets) are higher risk than they were previously, and risk categorisations need to be updated. Equally, firms need to navigate the disposal of such assets or investments in anticipation of changes in value carefully so that they do not expose themselves to allegations that they have disposed of valuable assets unjustifiably.

3. Accuracy of statements made about specific products and investments. If statements are to be made about the environmental impact of specific products and investments, firms will need to take care that these are accurate and not misleading. The complicating factor is that there is not yet any universal taxonomy, or agreed system, for assessing when labels such as “sustainable” or “green” can be applied. There are various initiatives intended to rectify this, including the EU’s proposed Taxonomy Regulation, which is expected to be adopted later this year (although the UK’s position on it is at this stage unclear), and the Investment Association’s Responsible Investment Framework for its members. In the meantime, a growing number of consultancies provide overall ratings and third party opinions as to whether particular products, such as green bonds, can in their view be labelled “green”. However, the current lack of cohesiveness (and difficulties in applying any taxonomy) leaves scope for allegations of misuse and/or misrepresentation.

4. Suitability of specific products and investments, or investment strategies. Financial services firms providing suitability assessments will need to ensure that clients understand risks of climate-related products, and if sustainability is one of the client’s investment objectives, they will need to capture that objective and consider whether the proposed product, investment or investment strategy meets it.

5. Reliance on due diligence conducted by third parties. As demand for green products and investments increases dramatically over the next few years, there will be pressure for firms to develop them quickly. Where firms are promoting and selling third party products and investments, it will be important for them to partner with third parties which have conducted thorough due diligence into climate-related risks and which have strong governance procedures in place.

6. Duties when acting as financial advisor. Firms acting as financial advisors on M&A transactions will need to ensure that climate-related risks and exposures are taken into account when providing advice on the valuation of target companies, and on the dynamics of any sale process.

As with all litigation against financial services firms in this area so far, these types of claims will generally be difficult ones to bring. Although cases will be highly fact dependent, it will be difficult for claimants to establish causation and loss, even where the litigation is event-driven (or follows regulatory enforcement action or an investigation). 

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