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ClientEarth Communications

28th November 2018

Climate finance

The legal perspective: Climate change’s influence on future business ventures

Good morning. Thank you for inviting me to come and speak.

Fossil fuels have driven rising prosperity for more than 200 years and today provide 80% of human energy needs. But carbon dioxide emissions from their use also drive climate change, and that is what I have been invited here today to speak about.

The fact is that your industry is a very important player in our future. Your invitation lifts my confidence that there will be increased efforts to mitigate climate change and a tolerable outcome to adaptation.

Industry and the community at large must lead. Responses to climate change are too important to leave solely to the politicians and their actions are informed by what we do.

I have been asked to deliver a legal perspective on climate change in this keynote address. I will be looking at the rule of law – and trends in climate based litigation – and will close by suggesting the future business options that I believe are open to you.

But first, some context on ClientEarth, the Paris Agreement and climate risk in general.

Climate, the Paris Agreement and the law – a short overview

For those of you who are not familiar with ClientEarth, we are a global environmental charity using the power of the law to protect people and the planet. We are international lawyers finding practical solutions for the world’s biggest environmental challenges. We believe that the law is a tool for positive change.

In the context of climate change, what better place to start than the Paris Agreement?

As many of you are aware, the 2015 Paris Agreement was a landmark agreement to combat climate change.

It established an international framework that sets broad boundaries within which States and – by extension – non-State actors must operate.

These include commitments to holding the global average temperature rise to well below 2⁰C and to pursue efforts to limit the temperature increase to 1.5°C, to reduce emissions to net zero by mid-century. Mid-century means 2050 for developed countries, and 2060 for developing countries.

Many countries are planning for net zero by 2050 and it is a cross-party trend: just last week, 50 conservative MPs in the UK called on Theresa May to adopt a net zero before 2050 target.

All 197 Paris Agreement signatories or ratifiers have at least one law or policy on climate change and globally there are more than 1,500 climate laws or policies. There are also over 1,000 climate change cases worldwide.

It has and will continue to lead to increasing regulation as nations grapple with meeting the Paris agreed targets

The International Panel on Climate Change (IPCC) published a report last month which stated that limiting global warming to 1.5ºC would require rapid, far-reaching and unprecedented changes in all aspects of society.

Now before we move to the law, it is worth observing that all litigation risk arises from the evidence – in other words, the scientific and/or financial implications of climate change.

Transition risks

Starting with transition risks relevant to the refining sector – these arise from lower demand for refined products over time due to policy initiatives, vulnerability to changing consumer preferences and technological shocks, especially in the transportation sector.

Transition risks will result in a cascade of financial and economic impacts and these could include:

1.     write-offs;

2.     new competitive pressures;

3.     changes in consumer demand for example for more sustainable products; and

4.     costs of adaptation.

Of course, not every market will decline in the transition. Petrochemical feedstocks are on e of the areas that are expected to grow in demand even in a transitioning world. However, there may in time be increased competition from alternative synthesis routes in some cases if there ends up being increased natural gas production.

The point is – there is significant disruption ahead, which I am sure you are well aware of. I can see from the agenda you will be exploring many of these issues.

And whatever you might personally think about climate change, in your professional work your legal duties require you to assess and act on risk.

The IPCC 1.5 degrees report means there is even more potential for a rapid and disruptive transition once climate impacts hit with scale and citizens force governments to act with the requisite urgency and speed.

If you thought navigating the transition was hard enough, then come the increasing physical risks of climate change.

Physical risks

The UN 2018’s outlook concluded that in the last 20 years there has been a dramatic 150% rise in direct economic costs associated with climate change. Extreme weather accounted for 77% of these losses amounting to $2.2 trillion.

Physical risks can be categorised as being either:

1. Gradual onset (such as longer-term shifts in climate patterns/sea level rise/ chronic heatwaves); or
2. Catastrophic (such as extreme weather events)

Both gradual onset and catastrophic physical risks have a cascade of financial and economic impacts and these could include:

• losses from physical damage to assets;
• supply chain disruption;
• disruption to production capacity; and
• increased operating costs.

I am sure you are well aware of the physical impacts of extreme weather and longer term shifts in climate patterns on your businesses from experience. The hurricanes and forest fires in the US are recent examples. Refineries are often located on the coast and are therefore at particular risk from climate-related physical impacts.

These events will intensify as the climate continues to warm. If we exceed 1.5 degrees, and head towards 3, 4 or 5 degrees (which is our current path), then the physical risks will be so extreme to your global operating market, consumers and supply chains that there will also be a reduction in demand for your products.

In other words, it is in your commercial interests to limit warming. This gives you legal cover to act, and legal risk if you choose not to.

It is worth noting that attribution science has developed to such a point that the frequency and severity of certain extreme weather events can be attributed to climate change. This has important implications for the concept of causation under the law. And the court’s primary role is to redress loss and damage. Just last week, an official US government report warned of the serious health and economic impacts of climate change, saying the economy could lose hundreds of billions of dollars – or, in the worst-case scenario, more than 10% of its GDP – by the end of the century.

Liability and litigation risks

So what are the litigation risks arising from climate change?

I can see three broad trends in climate litigation which have emerged:

1. climate change as a rights based issue;
2. climate change as a financial issue; and
3. increasing oversight and enforcement of existing laws.

First, in relation to (1), where governments fail to act to protect the rights of citizens, courts step in. That is a fundamental premise of the rule of law. And that is precisely what is happening. In a recent case in the Netherlands, the Court found that its current generation of citizens will be confronted with loss of life and disruption of family life and ordered the government to cut emissions by at least 25% by 2020 (they are currently at 13%). The court said it was irrelevant that the Netherlands’ global contribution to climate change was only 0.5% of emissions. They should still act to protect their citizens.

In relation to the second trend, this evolution of climate change from an environmental or ethical issue to squarely a financial concern has huge implications for legal liability. It opens the door to litigation risk arising from breaches of standard consumer, corporate and financial risk management laws.

In particular, these claims will arise under three broad categories:

1. claims for failing to mitigate impacts of climate change under public and private nuisance, negligence, failure to warn, trespass and unjust enrichment laws. An example of these cases are those launched in the US by cities and states against oil majors seeking compensation for the costs of adapting to climate change. Many of the US claims have yet to be successful but this is not unusual in the early days of new liability issues. Father of the law Jeremy Bentham observed that ‘the power of the lawyer is in the uncertainty of the law’. It is very capable of adapting to new factual scenarios. I would also note that – unlike ClientEarth and other public interest law charities working on climate litigation – the US cases are being brought by class action law firms. They will not stop until they begin to recoup their fees. Whether you agree with this strategy or not – and I am assuming you don’t – it’s a trend that should not be ignored.

2. The second category is claims for failing to adapt to the impacts of climate change. Company directors and trustees who have duties to act in the best interests of their company or members, and must adapt their business strategies to take into account the risks of climate change. ClientEarth has been leading the field on financial risk litigation. We have recently launched a case (as a shareholder) against a Polish energy company in relation to the company’s proposal to build a new coal-fired power plant, which countless analysts have said will be a financial disaster (in other words, a stranded asset). We have developed similar legal strategies against pension funds, with consequential impacts on the flow of private capital to fossil fuel sectors. This category would also include claims against engineers architects and other professional services for breach of their duties of care if they fail to design infrastructure compatible with future climate conditions; and

3. The final category – claims for failure to disclose climate-related risks to shareholders. In Australia, a retail shareholder took the Commonwealth Bank to court for failing to disclose climate related risks in its annual report, and the New York Attorney General has recently launched a lawsuit against Exxon for allegedly deceiving its shareholders in relation to its proxy price on carbon, amongst other things.

Finally, the third broad trend in climate litigation – we are also seeing increasing oversight and enforcement of existing environmental laws. Dieselgate is a classic example of this. Non-compliance with emissions standards is no longer an acceptable way of doing business. Regulators will not be turning a blind eye anymore. And CEOs who leave their environmental compliance reading in the bottom of their file for weekend reading will end up in court (as happened with the CEO of Volkswagen).

Now, these three trends are working independently to create disruption in the energy transitions, but in some cases they work together and then can be a very powerful driver of change. To illustrate this I want to look briefly at the example of air quality litigation that ClientEarth has been instrumental in bringing over the past six years.

The power of the law – air pollution litigation as a blueprint

Air pollution is a rights based issue. It is the world’s single biggest environmental health risk. Over 400,000 premature deaths are attributed to air pollution in Europe each year. The main cause of air pollution in Europe is the burning of solid fuel and diesel use in transportation. The impacts are felt the most in cities and there has been consistent failure by European cities to meet legally prescribed air quality standards.

ClientEarth and its partners have used strategic litigation across Europe to force governments to tackle air pollution. ClientEarth has won three court cases against the UK government over its failure to deal with illegal levels of air pollution. We have taken authorities in several UK countries including GermanyBelgiumItalySlovakia and the Czech Republic to court over illegal levels of air pollution, and we have won.

And the result?

We are seeing diesel bans being imposed in cities across Europe and proposals to ban the production and sale of new diesel (and petrol) cars.

Although these cases are against governments, the litigation has led to significant impact on the motor industry as there is a realisation that diesel doesn’t have a long term future in the transport industry. Those companies who fail to adapt to this new reality will open themselves up to financial risk-related climate litigation.

Finally, the increased consumer awareness of the impact on diesel on air quality has led to changes in purchasing choices but also compelled regulators to step in and oversee and enforce emissions standards laws.

I guess you can see the direction in which I am heading with all this. The pressures on businesses both current and future from climate-related litigation – and pressures from change in public perception on environmental issues – are acute for many businesses and that is magnified for businesses in the downstream industry.

So what does this all mean for your businesses? What can you do?

recent report from the Energy Transitions Commission (which counts among its expert advisors senior representatives from Shell and BP) found that achieving the Paris goals is technically possible, at small economic cost, and with only a minor impact on the cost of end consumer products.

But it requires governments, industry and consumers to be willing to take the actions required to get us there.

I have been asked to discuss the three business strategies available to the refining sector, all of which I am sure are familiar to you.

Future business: the options

1.     First, “business as usual”

Under this option you just keep going as in the past. It is an approach of:

– ignoring the reality of climate change; and
– ignoring the likely impact of regulatory change.

I expect there are very few of you in this audience that think business as usual is a viable option. At least I can’t see any ostriches from here.

However, I would also add that if your plan for the energy transition is so inconsistent with the Paris goals to achieve net zero by mid-century, then that is also effectively ‘business as usual’.

It is a risky approach for everyone – for the company itself, for employees and their pensions, for communities and for shareholders as it does not pave the way for necessary change but risks sudden unplanned market disruption.

It will also guarantee significant physical risks to your supply chains, markets, and operations.

We need to face the future head on. As great business mind Peter Drucker said, “The greatest danger in times of turbulence is not the turbulence—it is to act with yesterday’s logic.”

A transition to a low or zero carbon economy is underway and pretending it is not and that businesses can take a “business as usual” approach is naïve.

It is also an approach which risks litigation.

The current and continuing changes I am talking about to consumer demand, to competitive pressure and to the regulatory framework can be foreseen – perhaps not in detail but the broad direction of travel is clear. If you fail to assess the specific risks to your business, to act to mitigate risk and to protect value then you may be at risk of litigation.

So, what other options are there?

2. You could decide on the approach of “managed decline”

This would be an acceptance that climate change and other factors will have a huge impact on the refining sector and that the industry should go into its final phase and prepare for closure in line with net-zero by mid-century. It is a management approach to an accepted end of a lifecycle in such a way as to minimise costs, losses and other harm.

This would maintain employee rights and protect pensions in a way that “business as usual” would not.

Investment manager powerhouse Legal & General advocates this approach; commenting in the Financial Times in June this year that ‘[p]eak demand has not yet occurred, but we are sure it is coming. When it does, it will have a big, and under-appreciated, destabilising effect. The industry needs to be clear that its future is one of long-term decline — whilst returning increasing sums of cash to investors.’

But managed decline isn’t the only approach – which leads me on to the final option available for businesses facing this huge challenge of a new future in a zero carbon economy.

3. The “adapt and evolve” approach”

This approach involves an acknowledgement and acceptance of the trend towards decarbonisation. It accepts that change is needed if businesses are to survive. It requires companies to plan for net-zero by 2050 for developed countries, 2060 for developing countries.

It is not an easy option, as it requires time, money and willingness to invest in innovation and a long-term commercial strategy that works within the expected new framework of laws.

But there are plenty of opportunities to be grasped in the low or zero carbon economy for those willing to take them.

So, there are three choices in front of you.

The first is bad for your business, bad for the planet, bad for your pensions, and may well open your company up to litigation.

The second is managed decline. It is no doubt confronting, but it is probably the most certain way to face the uncertainty that lies ahead as you will have time to plan the transition – which benefits employees, your supply chains and your shareholders.

The third option is exciting for innovators and leaders who thrive on the opportunities disruption can offer.

Concluding remarks

The risks which climate change poses to business are many – there are physical, transitional and litigation risks. As governments and people increasingly accept the need to change so that the targets of the Paris Agreement are met, we all – that is individuals and companies – will need to adapt to a zero carbon world.

Businesses that wish not only to survive but to thrive for future decades will need to:

  • Take climate change seriously
  • Assess business vulnerability; and
  • Take action to protect the business from failure

And above all else, act now, independently of politicians. Government policy is critical but there is plenty that can be done while we wait for them to get their act together.

It is the best legal interests of your company, your employees and your shareholders to act ahead of time. Every sector, profession and person has a role to play in stopping runaway climate change. But your industry has one of the most critical roles to play.

I hope that each and every one of you will use your considerable expertise to devise a path forward for our common future. As the Energy Transitions Commission concluded – a zero carbon economy is both technically feasible and affordable. I hope this will be a strong part of your discussions over the coming days in Cannes.

Thank you for having me.

Alice Garton was the Head of ClientEarth’s Climate programme. She no longer works at ClientEarth.