ESG – court refuses permission (again) for derivative claim

7 minute read
04 August 2023

In a closely watched case brought by environmental organisation ClientEarth, the High Court has again refused permission to continue derivative claims motivated by climate concerns. In this article, we look briefly at the decision and what it might mean for the future of derivative claims given the rise in shareholder activism and environmental, social, and governance (ESG) related litigation.

ClientEarth v Shell plc and others

On 24 July 2023, the High Court dismissed (again, this time following an oral hearing) environmental organisation ClientEarth's derivative claim against the directors of Shell plc.

ClientEarth had brought the claim in its capacity as a Shell plc shareholder (with just 27 shares), with the aim of forcing Shell's board to adopt more ambitious emissions reduction targets. It asserted that the directors were in breach of their duties under the Companies Act 2006, in particular for failing to adopt an energy transition strategy which would promote the success of Shell and for failing to take adequate steps to comply with an order of the Netherlands' courts.

As we reported previously, in May 2023, Trower J refused permission to continue the claim based on ClientEarth's written case, concluding that ClientEarth had failed to establish a prima facie case that the directors were in breach of their duties. For more detail on the background to the case and the May judgment, see our earlier article Climate litigation in the UK - a temporary reprieve for directors?

ClientEarth sought an oral hearing to reconsider that decision, which took place on 12 July 2023. In the resulting judgment handed down on 24 July 2023, Trower J again refused permission and dismissed the claim. Although this latest, consolidated, judgment repeats the May judgment to a significant extent, it also amplifies some points following consideration of oral submissions from the parties. In particular:

  • Directors' latitude – The judge emphasised that, in complying with their s.172 duty to promote the success of the company, directors have to balance a range of competing considerations, of which environmental impact is just one. The fact that Shell had adopted an Energy Transition Strategy which recognised climate risk did not mean that management of that climate risk consequently took on an overriding status. In the judge's view, ClientEarth's case failed to recognise that the directors were still bound to have regard to a range of competing considerations in their decision making (as will be the case for most company boards considering environmental, and other ESG, issues).
  • Procedural hurdles – The judge highlighted that the legislative intent of the derivative claims procedure was that it should be employed in restricted circumstances; it had not been enacted to encourage litigation against directors. He also found it useful for the court to ask itself whether an independent director, acting in accordance with the duty to promote the company's success, would consider pursuing this sort of litigation on behalf of the company – a question which he found could only be answered in the negative in this case.
  • Expert evidence may be required – Further, Trower J concluded that it was not unreasonable to require or expect a party to adduce expert evidence to establish a prima facie case for bringing a derivative claim. If it was not possible for ClientEarth to demonstrate a prima facie case without expert evidence, that was simply a measure of how serious a case it was advancing, and the difficulty of pursuing it.
  • Nature of relief – The judge also reinforced that the court will not provide injunctive relief if that relief is vaguely defined or will require ongoing supervision by the court.

Derivative claims as an ESG vehicle

While this is a novel and developing area, there are some common threads which can be drawn out in illustrating the courts' approach so far to ESG-motivated derivative claims.

Director discretion – Firstly, the court recognises that directors can (indeed, must) operate in a wide band of discretion and exercise their decision making powers with an open mind. They must have regard to the full gamut of their obligations (as codified in ss.171-177 of the Companies Act 2006). Absent the high bars of bad faith or irrationality, the court is reluctant to interfere with this latitude, and it will therefore be difficult in practice (particularly for shareholders) to show the directors have got the balancing act so wrong so as to be actionable.

Evidence – Secondly, the courts have set a high evidential hurdle that claimants will need to clear to establish even a prima facie case for continuing a derivative claim on behalf of the company. The court does not have to take the claimant's evidence at its absolute highest at the preliminary stage – it can weigh and challenge it rather than receiving it passively and uncritically. Also, in the context specifically of environmental challenges, simply summarising the scientific consensus on climate change is unlikely to be sufficiently rigorous for the court, and expert evidence (with the expense and additional burdens that entails) may well be required to get a claim off the ground.

Procedural propriety – Finally, the courts have given a clear signal that they will be slow to allow a novel use of derivative claims where alternative forms of recourse exist. The courts will not allow claimants to avoid proper process by 'shoehorning' their action into a derivative claim.

ClientEarth has vowed to appeal the latest decision, so there is more to come – but for now, it looks increasingly difficult for claimants to overcome the hurdles necessary to bring these sorts of derivative claims. However, the increasing rate at which these cases are coming to the courts, and the creativity being demonstrated by claimants and action groups seeking to find a way to legally pursue an ESG-related agenda, means that these issues will continue to rise up the corporate risk register. For companies and boards at risk of becoming defendants in such claims (and increasingly it is difficult to see which companies can realistically claim to be free of any risk in this regard, even though primary targets continue to occupy specific sectors) it is imperative that action is taken now to understand and manage those risks appropriately. Whilst these claims may (so far) have failed, the appetite for bringing them is only increasing, and the more judgments that are handed down the clearer the roadmap becomes for a claimant to pursue a claim successfully.

To discuss any of the points raised in this article further, please contact Sean Adams or Emma Carr.

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