“In Australia, a director acting in the best interests of the company must take account of, and the board must report publicly on, climate‑related risks and issues relevant to the entity.”
Hayne K AC KC, 2019
The transition to a low carbon economy exposes coal companies to significant and foreseeable climate-related physical and transition risks. Directors have a legal obligation to identify and take active steps to manage those risks to discharge their obligation of care, skill and diligence.
Duty of care, skill and diligence
Directors and officers must perform their duties with a reasonable degree of care, skill and diligence.[1] They must also discharge their duties in good faith in the best interests of the company, and for a proper purpose.[2] It is a director’s duty to understand and balance the foreseeable risks of harm, including reputational damage to the company, against potential benefits when managing risks.[3]
ASIC considers that disclosing and managing climate-related risk is a “key director responsibility,”[4] and that “directors and officers of listed companies need to understand and continually reassess existing and emerging risks that may be applicable to the company’s business, including physical and transitional climate risk.”[5]
Legal opinion on climate change and directors’ duties[6] argues that a Court would consider that climate-related risks represent foreseeable risks of harm to Australian businesses[7], and that s 180(1) of the Corporations Act requires directors to actively consider, disclose and manage climate-related risk, and design and implement business strategies accordingly.
What is climate-related risk?
The Australian Prudential Regulation Authority defines climate-related risks as financial risks arising from climate change, including physical climate risks, transition climate risks and litigation risks.[8]
Physical climate risks include both longer-term changes in climate (chronic risk) as well as changes to the frequency and magnitude of extreme weather events (acute risk), which cause direct damage to assets or property, changes to income and costs, and changes to the cost and availability of insurance.[9]
Climate-related physical risks have financial implications for companies including reduced revenue from decreased production capacity due to interruptions in the supply chain or access to operations being cut; increased operating costs as a result of inadequate water supply and reduced revenue and higher costs from negative impacts on the workforce.
The past four years alone has seen an increased severity and frequency of weather events across Australia. After years of drought, 2019 saw the impacts from severe bushfires.[10] 2020 saw the impacts of the global COVID pandemic.[11] 2021 and 2022 saw the impacts of unprecedented flooding.[12] Companies across Australia have faced significant disruptions in production, supply chains, transport and labour markets. These impacts will be felt by all business in the future as the severity and frequency of weather events increase due to anthropogenic climate change.[13]
Transition climate risks include risks related to changes in domestic and international policy and regulatory settings, technological innovation, social adaptation and market changes, which can result in changes to costs, income and profits, investment preferences and asset viability.[14]
The global transition to a low-carbon economy is necessary to limit the temperature increase to 1.5°C above pre-industrial levels.[15] Staying within an increase of 1.5°C requires global emissions to be net zero by 2050 at the latest.[16] The global response to the transition is already underway: more than 70 countries including China and the US have set a net zero target, covering about 76% of global emissions;[17] more than 3000 businesses and financial institutions are working to set science-based emissions reductions targets; and in 2022, global investments in energy transition technology – renewable energy, energy efficiency, electrified transport and heat, energy storage, hydrogen and carbon capture and storage – was USD $1.3 trillion.[18]
The transition carries significant financial risk to the coal industry. The International Energy Agency (IEA) forecasts that, to achieve net zero emissions by 2050, coal demand will decline by 90%,[19] and no new coal-fired plants are needed.[20] The commitment by export markets to achieve net zero emissions by 2050 presents a material risk to business. In response, directors should prepare their companies for the transition, including by aligning the business strategy to achieving net zero emissions by 2050, in discharge of their obligations under s 180(1) of the Corporations Act.
Such is the significance of the projected decline in global coal demand that research conducted by the NSW Treasury predicted that it would impact New South Wales’s fiscal outlook. The research noted that “The heavy reliance of the NSW coal industry on exports of thermal coal means that future production will be largely determined by global demand”[21]. It further notes that Australia’s largest thermal coal export destinations – Japan, South Korea and China – announced their commitment to net zero emissions by 2050 which is expected to weaken global demand “considerably”.[22]
Consistent with the IEA’s forecast, and the NSW Treasury research in Towards Net Zero: Implications for Australia Energy Policies in East Asia, the Reserve Bank of Australia found that, based on emissions scenarios consistent with net zero commitments made by China, Japan and South Korea, Australia’s coal exports could fall by 80%, and that current reserves at operating mines in Australia exceed projected export demand to 2050.[23] This carries the risk of asset stranding – where a company’s assets fall to the liability side of its balance sheet – and increased difficulty in securing capital to fund expansion projects.
Litigation risks arise from boards not adequately considering or responding to the impacts of climate change. [24] Litigation risks also stem from a company’s contravention of environmental laws in circumstances where it was reasonably foreseeable that the contraventions may expose a business to the foreseeable risk of sanctions, penalties, costs and significant reputational damage. Causing or permitting the company to contravene laws, including environmental laws, may also found a breach of s 180(1) under so-called “stepping-stones” liability.[25]
Reputational risk is related to changing customer or community perceptions based on an organisation’s contribution to or detraction from the transition to a lower-carbon economy.[26] It may also arise from a company’s repeated contravention of environmental and/or workplace health and safety laws.
What climate-related risk needs disclosure?
ASIC’s view is that a company’s operating and financial review, which is included in its annual report, is required by law to include a discussion of climate risk when it is a material risk that could affect the company’s achievement of its financial performance.[27] ASIC has identified climate change as a foreseeable systemic risk that could have a material impact on the future financial position, performance or prospects of an organisation.[28] Therefore, the directors’ report must contain information that shareholders would reasonably require to make an informed assessment of the entity’s operations, financial position and business strategies and prospects for the future financial years.[29]
The International Sustainability Standards Board is finalising a comprehensive global baseline of high-quality sustainability disclosure standards to meet investor information needs. These will be used to inform sustainability-related financial reporting standards being prepared by the Australian Accounting Standards Board .[30] The G20’s Financial Stability Board Task Force on Climate-related Financial Disclosures (TCFD), while voluntary, provides a framework on how companies can make climate-related disclosures. The TCFD recommendations can also be used to guide shareholders and investors in what to look for in annual reports when making fully informed investment decisions.
What should directors in the coal industry be doing?
A reasonable director acting in the best interests of the company, with the requisite skill, care and diligence should, as a minimum:
- Be considering diversifying the business as failure to do so demonstrates a failure to adequately prepare the company for the global transition to a low-carbon economy.
- Have a plan to achieve net zero emissions by 2050, to align with the export markets net zero emissions commitments; and
- Test the resilience of the business against a 1.5°C scenario to inform themselves of potential risks associated with the scenario.
- Identify, manage and disclose climate-related risks that are a material risk to business.
When the duty is breached
Failure to properly consider, disclose and manage foreseeable climate-related risks to the company’s business leaves directors and boards exposed to a breach of a director’s duty of care, skill and diligence.[31]
ASIC is the enforcement agency for the purpose of civil proceedings brought against a director and can apply to the appropriate court for a certificate of declaration that there has been a breach of duty. [32] Once the certificate has been ordered, a pecuniary penalty can be ordered where the breach has materially prejudiced: the interests of the corporation or its members; the corporation’s ability to pay its creditors or where the breach is serious.[33] The court may also issue a relinquishment order,[34] or a compensation order.[35]
In addition to civil offences, there are criminal offences for acts or omissions which are punishable by imprisonment or fine.[36] These offences require intention, knowledge, recklessness, or negligence.[37] Where a director has been found to have breached a duty, they may be disqualified from managing a company.[38]
Proceedings against companies for breaches of their obligations under the Corporations Act are being commenced by shareholders in endeavours to hold companies and the boards accountable.[39] The need for directors to consider climate-related risk is clear. In March 2022, proceedings were commenced in the UK against the Board of Directors of Shell, arguing that failure to adopt and implement a climate strategy that aligns with the Paris Agreement is a mismanagement of material and foreseeable climate risks facing the company and therefore a breach of their legal duties. [40] It is possible for a similar shareholder action to be commenced in Australia where a court is satisfied that the action is in the best interests of the company, the shareholder is acting in good faith and there is a serious question to be tried.
With the changing climate in disclosure requirements for climate-related risk, together with shareholder and public awareness and expectations in a transitioning economy, directors and officers need to shift governance practices to avoid allegations and findings of a breach of duty. The requirement to identify, report and manage foreseeable climate-related risks to the company needs to be met to show that directors are acting with care and diligence and in the best interests of the company.
[1] Corporations Act 2001 (Cth) s 180(1)
[2] Corporations Act 2001 (Cth) s 181
[3] Vrisakis v Australian Securites Commission (1993) 11 ACSR 162, 211 (Ipp J); Australian Securities and Investments Commission v Cassimatis (No 8) [2016] FCA 1023 [465], [479] and [485] (Edelman J) (Cassimatis (No 8)).
[4] Cathie Armour, (2021) Managing climate risk for directors. Retrieved from: https://asic.gov.au/about-asic/news-centre/articles/managing-climate-risk-for-directors/ (accessed 8 June 2023).
[5] Hughes S., (2021) Corporate governance update: climate change risk and disclosure. Retrieved from https://asic.gov.au/about-asic/news-centre/speeches/corporate-governance-update-climate-change-risk-and-disclosure/ (accessed 8 June 2023).
[6] N. Hutley and S. Hartford-Davis, Climate Change and Directors’ Duties, Memorandum of Opinion (7 October 2016) available at: https://cpd.org.au/wp-content/uploads/2016/10/Legal-Opinion-on-Climate-Change-and-Directors-Duties.pdf (cpd.org.au); Noel Hutley and Sebastian Hartford-Davis, Climate Change and Directors’ Duties, Supplementary Memorandum of Opinion (26 March 2019) [2] available at: https://cpd.org.au/wp-content/uploads/2019/03/Noel-Hutley-SC-and-Sebastian-Hartford-Davis-Opinion-2019-and-2016_pdf.pdf (cpd.org.au); Noel Hutley and Sebastian Hartford-Davis, Climate Change and Directors’ Duties, Further Supplementary Memorandum of Opinion (23 April 2021) (2021 Opinion) [4] available at: https://cpd.org.au/wp-content/uploads/2021/04/Further-Supplementary-Opinion-2021-3.pdf (cpd.org.au).
[7] K. Dyon and S. Hartford-Davis, Advice regarding potential liability of directors under the ISSB draft standards for forward looking statements (16 December 2022) [12] (2022 Advice).
[8] Australian Prudential Regulation Authority (2021) Prudential Practice Guide – CPG 229 Climate Change Financial Risks. Retrieved from https://www.apra.gov.au/sites/default/files/2021-11/Final%20Prudential%20Practice%20Guide%20CPG%20229%20Climate%20Change%20Financial%20Risks.pdf (accessed 8 June 2023).
[9] Ibid. At p 7.
[10] Farmer, M. (2020) BHP reports reduced coal production following Australian bushfires. Retrieved from https://www.mining-technology.com/news/bhp-report-australia-bushfire-coal/ (accessed 13 June 2023).
[11] Australian Bureau of Statistics (2020) Droughts, fires, cyclones, hailstorms and pandemic. March quarter 2020. Retrieved from https://www.abs.gov.au/articles/droughts-fires-cyclones-hailstorms-and-pandemic-march-quarter-2020 (accessed 8 June 2023).
[12] Australian Bureau of Statistics (2023), Impacts of Flooding in December Quarter 2022. Retrieved from https://www.abs.gov.au/articles/impacts-flooding-december-quarter-2022 (accessed 8 June 2023). Ogg, M. (2022) QLD business survey shows businesses still reeling from flood impacts. Retrieved from https://www.businessnewsaustralia.com/articles/survey-shows-qld-businesses-still-reeling-from-flood-impacts.html (accessed 8 June 2023).
[13] Fowler, E. (2023) Newcastle coal exports poised to hit five-year low. Retrieved from https://www.afr.com/companies/mining/newcastle-coal-exports-poised-to-hit-five-year-low-20230619-p5dhn6 (accessed 21 June 2023). Reduced prices for thermal coal together with production hampered by wet weather and labour shortages has contributed to a 10 per cent reduction in coal experts from Newcastle on the same period last year.
[14] APRA Op cit. 9
[15] Paris Agreement, 12 December 2015, Art 1(a). https://unfccc.int/files/essential_background/convention/application/pdf/english_paris_agreement.pdf 196 adopted the Paris Agreement.
[16] IPCC, 2018: Global Warming of 1.5°C. An IPCC Special Report on the impacts of global warming of 1.5°C above pre-industrial levels and related global greenhouse gas emission pathways, in the context of strengthening the global response to the threat of climate change, sustainable development, and efforts to eradicate poverty, Strengthening and implementing a global response, 358 SR15_Chapter_4_LR.pdf (ipcc.ch)
[17] United Nations Net Zero Coalition, For a liveable climate: Net zero commitments must be backed by credible action, available at: Net Zero Coalition | United Nations.
[18] International Renewable Energy Agency, Global Landscape of Renewable Energy Finance (2023), p.10, available at: Global landscape of renewable energy finance 2023 (azureedge.net)
[19] IEA, World Energy Outlook (2022) p 133 available at: World Energy Outlook 2022 (windows.net)
[20] IEA, Coal in Net Zero Transitions: Strategies for rapid, secure and people-centred change (November 2022) (IEA Coal in NZ Transitions), p 59 available at: Coal in Net Zero Transitions: Strategies for rapid, secure and people-centred change (windows.net)
[21] M. Beauman, N Wood and P Adams, 2021 Intergenerational Report, Treasury Technical Research Paper Series, The sensitivity of the NSW economic and fiscal outlook to global coal demand and the broader energy transition for the 2021 NSW Intergenerational Report (May 2021) (NSW Treasury Report)p18 available at: 2021 IGR TTRP – The sensitivity of the NSW economic and fiscal outlook to global coal demand and the broader energy transition for the 2021 NSW Intergenerational Report
[22] Ibid at 9
[23] RBA Report, p 35.
[24]APRA Op. Cit. 9
[25] ASIC v Cassimatis (No 8) at (Edelman J) Op Cit. 4 at [485]
[26] Task Force on Climate Related Financial Disclosures (2017) Final Report: Recommendations of the Task Force on Climate-related Financial Disclosures. Retrieved from https://assets.bbhub.io/company/sites/60/2020/10/FINAL-2017-TCFD-Report-11052018.pdf (accessed 8 June 2023).
[27] Armour Op cit. Specific reference is made to operating and financial review disclosures in annual reports under s299(1)(a)(c) of the Corporations Act 2001.
[28] ASIC (2019) Regulatory Guide 247: Effective disclosure in an operating and financial review. Retrieved from https://download.asic.gov.au/media/5230063/rg247-published-12-august-2019.pdf (accessed 8 June 2023).
[29] ASIC (2018) Climate risk disclosure by Australia’s listed companies. Retrieved from https://download.asic.gov.au/media/4871341/rep593-published-20-september-2018.pdf (accessed 8 June 2023).
[30] AASB (2022) Project insights: Developing sustainability-related financial reporting standards in Australia. Retrieved from https://aasb.gov.au/media/hndlldgr/staffarticle_sr_australianapproach_06-22.pdf (accessed 8 June 2023).
[31] Hutley and Hartford-David (2019) Op Cit. 7
[32] The certificate of declaration may be issued in accordance with s1317E of the Corporations Act.
[33] sections 1317G (a) and (b) Corporations Act.
[34] section 1317GAD. This will neutralise any financial benefit that might have been gained from the relevant misconduct.
[35] section 1317H(1) The order can be made to a person (including a director) to compensate a corporation, for damage suffered if the person has contravened a director’s duty, and the damage resulted from the contravention.
[36] section 1311 Corporation Act.
[37] Section 3.1 of the Criminal Code sets out these elements. See https://www.austlii.edu.au/cgi-bin/viewdoc/au/legis/cth/consol_act/cca1995115/sch1.html
[38] In cases where it is a breach of the duty of care and diligence, ASIC may apply for a disqualification. It is up to the court to determine if and for how long the person will be disqualified. Section 206C Corporations Act. In other instances, it is an automatic disqualification for a period of 5 years and upon application from ASIC can be up to and additional 15 years. Section 206B.
[39] Abrahams v Commonweath Bank of Australia (2017) VID879/2017. Here Shareholders commenced proceedings in the Federal Court seeking a declaration that the bank had violated its duties under the Corporations Act 2001 in failing to report climate change related business risk, specifically investments in Adani Carmichael coal mine. The Bank released an annual report acknowledging the risk and pledged to undertake climate change scenario analysis to estimate the risk to the banks business. Retrieved from http://climatecasechart.com/non-us-case/abrahams-v-commonwealth-bank-australia/ (accessed 8 June 2023). See also McVeigh v Retail Employees Superannuation Trust (2018) NSD1333/2018. Here a member of the fund commenced proceedings in the Federal Court against REST alleging a violation of the Corporations Act 2001 by failing to provide or disclose information relating to climate change risk and plans to address those risks. In issuing an order for maximum costs in favour of the plaintiff, the court said that the case appears to raise a socially significant issue about the role of superannuation trust and trustees in the current public controversy about climate change. Prior to hearing the matter was settled and REST issued a public statement acknowledging that climate change is a material, direct and current financial risk to the superannuation fund across many risk categories including investment, market, reputational, strategic, governance and third-party risks. Retrieved from http://climatecasechart.com/non-us-case/mcveigh-v-retail-employees-superannuation-trust/ (accessed 8 June 2023). See also In the matter of AGL Limited [2022] NSWSC 576 where the court ordered that videos to be released must be amended to disclose risks and disadvantages of the proposed demerger. Retrieved from http://climatecasechart.com/non-us-case/in-the-matter-of-agl-limited/ (accessed on 8 June 2023).
[40] ClientEarth (2022) ClientEarth starts legal action against Shell’s Board over mismanagement of climate risk. Retrieved from https://www.clientearth.org/latest/press-office/press/clientearth-starts-legal-action-against-shell-s-board-over-mismanagement-of-climate-risk/ (accessed 8 June 2023)
