In a recent post in which I reviewed recent legal developments in Australia, I discussed the growing possibilities for future climate change-related D&O claims. A recent paper highlights the extent of these D&O claim risks in the United States. The October 2021 paper, published by the Commonwealth Climate and Law Initiative and entitled “Fiduciary Duties and Climate and entitled “Fiduciary Duties and Climate Change in the United States,” discusses how evolving understandings of climate change has “changed the relevance of climate change to the governance of corporations,” with important implications for the fiduciary duties of directors and officers. The paper discusses how in the current legal environment in the U.S. a board’s failure to adequately regard climate change-related issues could lead to potential litigation and liability. A copy of the full paper can be found here, and an executive summary of the paper can be found here.

The paper opens with a review of the types of material risks that climate change poses for both the real economy and the financial system, across short, medium, and long-term horizons. The paper suggests that these risks at least three types of foreseeable risks: physical; economic transition; and legal liability. The physical risks involve natural environmental challenges arising from rising temperatures, increased drought, more frequent and higher intensity storms, and so on. Economic transition risks pertain to the challenges that changed climate conditions and regulatory environment may present. Legal liability pertains to risks from the litigation environment. In each case, the paper suggests, the risks have recently accelerated, including in particular during 2021.

With these risk factors as a starting point, the paper suggests that the failure of corporate board to consider and address these risks could serve as the basis for liability for individual directors and officers for breach of their fiduciary duties. These kinds of liability claims could be presented either on the basis of either an alleged breach of the duty of loyalty or an alleged breach of the duty of care.

In discussing the possibility of claims for an alleged breach of the duty of loyalty, the paper discusses the Caremark case and its recent progeny with stress that a loyal fiduciary  must exercise oversight of the organization on whose board the fiduciary. In discussing this duty of oversight, the paper discusses the Delaware Supreme Court’s 2019 decision in Marchand v. Barnhill, which held that boards must have systems in place allowing them to monitor mission critical operations and cannot disregard “red flags” that arise.

In light of these legal theories and recent legal developments, a director, the paper suggests, may be alleged to have breached their duty of oversight within the duty of loyalty by failing to adequately consider or oversee the implementation of climate-related risk controls. These kinds of allegations might arise, for example, for a director’s failure to monitor mission-critical regulatory compliance or failure to monitor climate-change related business risks. The paper notes that information presented to the board about climate change risks related to the company’s operations and finances could be both mission-critical and could represent the kind of “red flags” that could trigger duty of oversight-related liability. Specific areas of regulatory compliance that could be relevant in this context include environmental laws; health and safety laws; and human rights laws.

The paper goes on to suggest that the high-profile and economically significant issue of climate change also could impose duties on directors and give rise to potential liability based up on the duty of care. Under this duty, which required directors to make lawful, reasonably informed decisions, directors’ consideration of climate change issues is warranted – for example, consideration of risk assessment and management; strategy; supply chain integrity and resilience; asset valuation; financial planning. A “failure to consider the risks or opportunities presented by climate change for want of relevant knowledge – either in general, or in relation to material projects or acquisitions – appears to present ground for the review of the breach of the duty of care under Delaware law.”

The paper acknowledges that these kinds of claims may be difficult to establish and claimants would face formidable challenges in showing that the relevant liability standard has been met (as well as other formidable defenses). However, “these barriers may not be impossible to overcome in a particular factual context.” Moreover, shareholders may use access to a corporation’s books and records, including board materials, to try to support fiduciary duty claims. While “it is rare for directors and officers to be found liable for breaches of their fiduciary duties, the potential for an action for breach of duty is credible.” Moreover, the number of climate change-related cases globally, and in particular in the US, has increased significantly in recent years.” The capacity of determined litigants to bring claims, “whether motivated by a desire to seek compensation for economic loss or to drive corporate ambition on climate action,” should “not be underestimated.”

In order to try to reduce the risk of litigation and potential liability, the paper suggest a number of corporate governance steps that well-counseled boards and officers would be advised to adopt. The paper suggests a framework for analysis of potential climate change risk, which includes, for example, identifying climate change-related financial risks; the impact of climate change-related issues on strategy, competition, acquisitions and divestitures, and asset valuations; potential regulatory challenges, particularly across the various jurisdictions in which the company operates; and a wide variety of other issues.

Discussion

In my view, the paper provides a comprehensive overview of the potential for climate change-related issues to give rise to breach of fiduciary duty claims against corporate boards. Recent developments involving breach of the duty of oversight claims in Delaware (discussed for example here) suggest the possibilities for these types of claims against corporate boards. These and the other kinds of possible claims the paper discusses are unquestionably challenging to sustain. However, motivated claimants, particularly activists seeking to use litigation to drive a climate change-related agenda, may push these kinds of claims, as even unsuccessful claims could advance their agenda.

The paper is expressly focused on the potential for climate change-related breach of fiduciary duty claims, and therefore does not discuss at length the possibilities for other types of climate change-related D&O claims, such as securities class action lawsuit based on climate change related disclosures or omissions. However, the risk of climate change-related securities litigation is another significant D&O claim risk for corporate boards. In that regard, the paper’s analysis of the corporate governance steps well-advised boards should take is very valuable.

All of that said, I do think it is important to note that I have been writing about the potential risk of climate change-related D&O claims for nearly 15 years, and during that time, there have been very few claims that can be described as climate change related that have been filed. I don’t think this is likely to change any time soon; that is, I don’t think there is going to be some kind of rush of climate change claims. Rather, I think there will be a few cases filed, many of them as test cases in which claimants seek to test procedural approaches and substantive theories as they try to find approaches that will be successful – with “success” measured not only by success in the litigation, but also success in advancing a climate change agenda.