Landmark opinion on climate change disclosures
Businesses are grappling with mounting pressure from stakeholders (whether customers, employees, activists, or regulators) to shift from a ‘shareholder primacy approach’, or even an ‘enlightened shareholder approach’, to a sustainable one that considers the long-term wellbeing of people and planet - as well as profit!
The increased legal, financial, and reputational risks of not considering sustainability have led to regulatory trends requiring businesses to make relevant disclosures. For example, large companies based in the EU and companies with EU subsidiaries, amongst others, are subject to the European Corporate Sustainability Reporting Directive. Such companies are required to make disclosures concerning social and environmental risks.
Whilst there is no direct equivalent provision in the UK, publicly listed and certain large, private companies are required in accordance with sections 414C, 414A, and 414CB of the Companies Act 2006 to make climate disclosures in their annual reports, aligned to the recommendations of the Task Force on Climate-related Financial Disclosures. The Task Force has now been disbanded but the standard-setting component has been taken over by the International Financial Reporting Standards (IFRS), which introduced the International Sustainability Standards Board (ISSB).
Section 172 of the Companies Act, 2006 places a duty on directors to promote the success of the company ‘for the benefit of its members as a whole’, whilst the duty is owed to the company – it is often interpreted as requiring consideration of long-term value for shareholders above any other stakeholders.
In the UK, the regulations concerning climate-related disclosures have in practice led to businesses focusing on Environmental, Social, and Governance (ESG) reporting, taking a narrow perspective that compliance with the reporting requirements is all that is needed.
However, sustainability is broader than ESG reporting. Arguably, the duty of directors, under section 172 of the Companies Act, must include consideration by directors of the long-term wellbeing of people and the planet because of the factors listed that directors must have regard to. This is not necessarily the norm and so calls to make it explicit, from movements such as ‘The Better Business Act’, are gaining traction.
Added to this, a recent landmark UK legal opinion has considered the wider interpretation of the director’s duty under section 172. The case concluded that, because one of the factors listed that directors are to have regard to being “…the impact of the company's operations on the community and the environment”, nature-related risks fall within this category and so ought to be considered by directors. The judgement also determined that nature-related risks ought also to be considered in the discharge of the director’s duty to “…exercise reasonable care, skill and diligence” in accordance with section 174.
An enlightened shareholder approach happens whereby companies interpret Section 172 of the Companies Act more broadly including stakeholders other than shareholders and intentionally taking into account the factors listed that directors are to have regard to.
Boards and senior management are still unclear as to the extent of their responsibilities concerning sustainability, especially where a business has not articulated a clear purpose, or has no ESG or sustainability strategy. This opinion provides a helpful starting point for directors and governance professionals who support the board to re-consider their decision-making processes and how in practice they are considering sustainability as part of their duty to promote the success of the company.
If you are concerned about ESG reporting, get in touch with our regulatory team for expert advice and guidance.
Contact Felicia to discuss this further.
