Law and climate disorder

Understanding physical, transition and litigation risk

Major listed companies are finding themselves the target of legal action designed to make them move faster towards a lower carbon world. These cases could mark an inflection point; when the conversation turns toward specific responsibilities to move away from fossil fuels rather than broad commitments to change.

Achieving net zero stands prominently in Royal Dutch Shell’s corporate strategy, just behind its commitment to shareholders. The oil major has already agreed to reduce the carbon intensity of the energy it sells and aims to become a net-zero emissions business by 2050. Shell says its ambitions are “in step with society’s progress”1 towards a lower carbon world. But is this enough?

In December 2020, high-profile environmental lawyer Roger Cox stood in a district court in The Hague and suggested Shell was not raising the bar high enough. Representing Milieudefensie, the Dutch arm of Friends of the Earth, he said Shell was “on a collision course” with the climate target agreed by the international scientific community and assorted governments.

To help meet the ambition of the Paris Agreement, where the goal is to limit global temperature increases to well below two degrees Celsius above the pre-industrial average, and ideally to 1.5 degrees, should Shell do more?

“Our climate lawsuit is unique, because we are not asking Shell for compensation, but for it to change course,” said Milieudefensie in a statement on its website. “We are demanding that Shell commits to reducing its CO2 emissions by 45 per cent by the year 2030.”2

Milieudefensie are demanding that Shell commits to reducing its CO2 emissions by 45 per cent by the year 2030

Cox has a strong track record. After writing Revolution justified: Why only the law can save us now3, he successfully led legal action against the Dutch government, forcing it to pick up speed on climate action [Proceedings concluded in 2019]. He used tort, the legal principle that sets out how action (or inaction) might lead to harm. By establishing the Dutch government was failing in its duty of care to its citizens by dragging its feet on climate action4, he injected greater urgency into the debate. At the time, UN special rapporteur on human rights and the environment David Boyd described the case as the “most important climate change court decision in the world so far”.5

Testing the law as a governance tool

The volume of climate litigation is stepping up. Since the Rio Earth Summit in 1992, a large body of climate legislation has developed around the world (see Figure 1), with assorted stakeholders and pressure groups prepared to test it.

Climate litigation cases have almost doubled from 884 to 1550 since 2017

Cases have almost doubled from 884 to 1550 since 2017.6 Most litigation (79 per cent) has been in the US; just 10 per cent has been directed at corporates. The majority of the 135 businesses facing challenges are energy and natural resources companies, with litigation concentrated in six areas: the rights to life and a clean environment, the need to keep carbon in the ground, areas of corporate responsibility, enforcement of climate targets, adaptation impacts and climate disclosures.

At this stage, the financial consequences are unclear. “Our understanding of the potential costs arising from climate change litigation is very poor,” wrote Javier Solana, a lecturer at University of Glasgow’s School of Law, in an academic paper last year.7 “Contrary to popular understanding, not all direct costs will arise at the end of legal proceedings.” Ultimately, total costs may be much higher than headline fines or court orders, particularly if litigation results in negative publicity and long-lasting reputational damage.

The action is testing the role of the judiciary and reflects important social questions around values and expectations. “There is a definite generational shift underway,” says Paul Pritchard from sustainability consultant Iken Associates. “People have been talking about climate for 25 years, but it is only recently that views have started to crystalise. The younger generation wants to see more action; they are taking this much more seriously. They will reflect their values and choices in their behaviour: where they work, where they invest their money and so on.”

Figure 1: Climate-related litigation: Total cases 1986-2019
Climate-related litigation: Total cases 1986-2019
Note: Each dot represents one case. Source: ‘Climate-related litigation. By numbers’, Freshfields Bruckhaus Deringer. Data from Sabin Center for Climate Change Law, Columbia University; Grantham Research Institute on Climate Change and the Environment, London School of Economics and Political Science correct to December 2019
Figure 2: Climate-related litigation: Cases against companies 1986-2019
Climate-related litigation: Cases against companies 1986-2019
Source: ‘Climate-related litigation. By numbers’, Freshfields Bruckhaus Deringer. Data from Sabin Center for Climate Change Law, Columbia University; Grantham Research Institute on Climate Change and the Environment, London School of Economics and Political Science correct to December 2019

So, how do experts view Cox’s latest crowdfunded challenge? Taking legal action against a company using tort is not straightforward; the nature of the law is different, as are the targets.

“It is challenging because the commitments a company makes are soft commitments,” says Joana Setzer, assistant professorial research fellow at the Grantham Research Institute on Climate Change and the Environment at the London School of Economics (read a detailed interview with Setzer here).

“They are voluntary, and it is questionable whether they could be enforced in court. The Shell case in the Netherlands is important, because it is asking whether Shell is going to deliver on its targets. Those bringing the case are saying: ‘It does not look as if you are doing that’, and really calling on Shell to change its core business model.”

The key analytical tool that might prove pertinent is climate attribution. This rapidly evolving science allows human impacts on climate change to be assessed (within certain data constraints), right down to the individual company level. By taking a pre-industrial climate scenario, then comparing it with one that takes man-made emissions into account, it may be possible to define the human contribution in a particular scenario. These developments are significant because until recently it was not possible to be definitive about causative relationships: to establish that a single company’s actions might have contributed to a particular weather event.

“Because of the causation issues, quantifying damages for acceleration of climate change may be difficult,” noted law firm Norton Rose Fulbright.8 The evolution of climate attribution has gripped the legal profession; a judge hearing a case in the US is reported to have asked for a relevant ‘teach-in’, to help him prepare.9

“This is where the work of Dr. Friedereike Otto, Richard Heede and others has made a real difference,” Setzer says (read more about Otto’s work here). “They have developed attribution science, but they are also producing science that is useful for courts. We had science produced prior to that, but lawyers couldn’t readily use it. Now the lawyers and scientists are talking, the scientists are producing information that is purposeful and this is already making a difference.”

One important consideration in legal action is whether greenhouse gas emitters can be shown to have known about environmental risks but pressed ahead regardless. If evidence like this coexists with information from an internationally recognised body like the Intergovernmental Panel on Climate Change, companies may find it harder to have the cases against them dismissed.

“If they rule against Shell in this case, it could be game changing,” says Sora Utzinger, senior environmental, social and governance (ESG) analyst at Aviva Investors. “It would potentially open the door to similar action elsewhere. Prior to now, most of the behaviour change related to climate has come about from top-down regulation. More governments have announced plans to reach net zero, and companies have changed their behaviour accordingly, to reflect what society wants to achieve. This is different; it would make their commitments binding.”

It is not particularly helpful to demonise a small group of companies

Meanwhile, environmental consultants warn of oversimplifying the analysis, making it all about the few. “One concern I have is about the need for quite a simple narrative, about good guys and bad guys,” says Pritchard. “It is not particularly helpful to demonise a small group of companies. The oil majors are not the only ones involved here.

“They might be supplying a product, but lots of others are using it, and perhaps those individuals could be doing more to look for alternatives themselves,” he adds. “I hope the discussion becomes broader. There are companies that need to be held to account, but hopefully that does not lead to the conclusion that only a handful are the problem. It is much bigger and more complex than that. We need to be asking more questions, like who burns the gas and puts the aviation fuel in the planes?”

Facing up to responsibility for the global commons

Meanwhile, in Germany, another climate case is being played out. A small-scale Peruvian farmer, Saul Luciano Lliuya, is taking on the German utility RWE, backed by the sustainable development organisation Germanwatch.10 To clarify, RWE is in the dock for impacts in Peru, although it has no operations there at all.

A Peruvian farmer, Saul Luciano Lliuya, is taking on the German utility RWE

RWE is one of Europe’s largest carbon dioxide emitters, giving out around 100 million tonnes of CO2 annually from fossil-fuel fired power stations and other assets. It has plans to phase out coal and be carbon neutral by 2040.

“German regulations require an end to coal-fired energy generation by 2038,” says Charles Devereux, ESG sector analyst at Aviva investors. “RWE plans to use one of the dirtier fuels right up to that regulatory deadline. Other European peers seem to be moving faster in the energy transition, although generally they are all ahead of their equivalents in the US.”

Lliuya lives in the Andes, about 280 miles north of Lima, where rising temperatures have led a glacier to retreat. The melting ice is feeding a glacial lake, which threatens to burst. If it does, it will affect Lliuya and the lives of thousands of other local residents.

“This is the first lawsuit in Europe where a person affected by the hazards of climate change has sued a private company,” Germanwatch says.11 Lliuya is seeking damages from RWE to compensate for the investment he has made to protect his home. The amount itself is not vast – less than half of one per cent of the total cost incurred by himself and the local authorities. That’s the same percentage as RWE’s estimated contribution to global greenhouse gas emissions since industrialisation began.12 If Lliuya’s legal team is ultimately successful using a ‘general nuisance’ clause in the German Civil Code, it potentially opens the floodgates to countless other claims.

Litigation like this presents both a risk and an opportunity from an ESG perspective

“Litigation like this presents both a risk and an opportunity from an ESG perspective,” says Devereux. “Companies can differentiate themselves through the progress they make as they move towards an effective low carbon transition. But we should not underestimate the risks. These cases could set quite wide-ranging precedents in terms of establishing a company’s liability towards society, not based on a specific locale.”

In a story of many twists, RWE has now taken legal action against the Netherlands in a Є1.4 billion corporate/state dispute. It is looking to offset the cost of retiring a coal-fired power station early;13 that decision came about after Cox’s successful case against the state. RWE is the subject of climate litigation and also using it.

The complex web linking social values and risk

So, what does this imply? “We see the right to environment emerging globally,” says Laura Burgers from the Amsterdam Centre for Transformative Private Law at the University of Amsterdam.14 “We see the environment as a foundation of society, as a necessary condition of constitutional democracy, as a condition to be able to exercise the other rights you have.”

Climate change is a global issue that can only be addressed effectively if everyone is on board

Because environmental issues transcend national boundaries, there is an obvious governance challenge. “It is interesting that many defendants in climate cases point out they are not responsible, but it is rather a global responsibility,” she says. “And they are right — climate change is a global issue that can only be addressed effectively if everyone is on board. At the same time, it means we all should actually be on board!”

The analytical framework that has developed to encapsulate the changing environment involves an intricate web of physical, transition and litigation risk. “As physical risks become larger, so does the litigation risk,” Setzer says. “But transition risks also increase litigation risk. This is why it is important for private actors to track cases against states, not just cases against companies they invest in or insure.”

Important implications flow from this. Recent analysis by the UN Environment Programme points to six key areas where litigation may step up, shown in Figure 3.

Figure 3: Future trends in climate litigation

Migration triggers litigation in the Global South

Mass displacement from extreme climate impacts likely to disproportionately affect countries in the Global South. Anticipate growing number of cases seeking to address status of displaced people.

Consumer and investor fraud claims increase

Claims against companies for failure to disclose or inadequate disclosure are expected to increase. Greater regulatory requirements and scientific advances mean climate events are more likely to be foreseeable, leaving companies at higher risk of litigation for failure to disclose.

Pre- and post- disaster cases rise

Anticipate more cases based on alleged failure to plan or manage the consequences of extreme climate events, for example related to fires or advancing sea level.

More disputes around the implementation of adaptation measures

Ways in which changes are implemented (or not) are likely to be the source of future litigation.

Greater attention on climate attribution

Few climate-litigation cases have reached evidentiary stage, where courts have scrutinised whether alleged loss or injury is directly caused by climate change and the defendants’ contribution to it. The science of climate change is becoming more robust. Attribution of responsibility is central to climate litigation; expect climate attribution to receive more attention.

Increased use of international adjudicatory bodies

Judgements may be sought from international adjudicatory bodies rather than domestic regimes which may not be effective at holding governments to account. Opinions from international bodies may not be enforceable, but they can influence how judges and other stakeholders view the law.

Source: UNEP Global Climate Litigation Report: 2020 Status Review, January 2021

Where might these various risks present? What mechanisms might be lightning rods for risk transmission?

No clear answers emerge. A high-profile case could prove a tipping point, but Pritchard believes a more likely outcome is that litigation will “pick up laggards, rather than drive change fundamentally”. Perhaps controversially, he suggests attention is being directed at climate risk “because it has universal metrics; it can be measured in terms of greenhouse gases”.

In his view, other nature impacts connected with climate change, such as biodiversity loss, need attention too. “In some ways, a focus on nature-related impacts rather than greenhouse gases might afford an easier route to litigation, not least through geographic dependencies that allow cause-effect pathways to be constructed,” he says.            

If carbon-heavy businesses accelerate towards transition, will their return on capital fall?

There is plenty of stakeholder tension to contemplate as well. If carbon-heavy businesses accelerate towards transition, will their return on capital fall? Could that leave emitters open to criticism from climate change activists as well as disgruntled shareholders, with risk on both counts?

“They are, in a sense, damned if they do and damned if they don’t,”15 as law firm Freshfields Bruckhaus Derringer puts it.

“Climate transition risks are being taken much more seriously by the oil majors,” Utzinger says. “They are factoring them into the capital budgeting process, resulting in a higher cost of capital. Those on the path to net zero know they have to de-risk their traditional upstream business; that’s why they talk about ‘advantaged resources’, where there is a sweet spot between low break-even prices and lower emissions intensity.

“Of course, returns on invested capital (ROIC) vary across hydrocarbon and low-carbon energy sources,” she adds. “We think companies should not just focus on ROIC but on the underlying risk profile – ultimately knowing where to play and understanding where established capabilities can create value in the low carbon space is going to be a critical component of strategy.”

Figure 4: Assessing litigation risk
TCFD recommendation: Governance Strategy Risk management Metrics and targets
Litigation risk role: Incorporation of climate-related litigation risk into the governance of an organisation, including in relation to the senior management and directors' responsibilities. Consideration of climate-related litigation risk when defining the sustainability and overall business strategy for ensuring a robust and forward-looking business model. Incorporation of climate-related litigation risk into the risk management function, including identification, assessment, mitigation, monitoring and reporting. Definition of metrics and targets for climate-related litigation risk management.

Source: Insuring the climate transition, UNEP Principles for Sustainable Insurance Initiative to pilot TCFD recommendations, January 2021

All this suggests an environment that requires thoughtful handling, particularly as there is little consistency with carbon disclosures yet. Ultimately, best practise means companies that could be targets of climate action need to inform their shareholders, build provisions, and ensure material risks are reported in annual reports. In the background, they need to recognise the potential to be challenged in jurisdictions in which they do not operate.

Institutional investors need to think carefully about their duties to clients

Institutional investors also need to think carefully about their duties to clients, how their risk exposures are being presented and their ability to verify any claims being made about their environmental credentials. Cases to bear in mind include McVeigh versus REST, where a 25-year old member of an Australian pension scheme won a case after suggesting the scheme was not doing enough to protect his savings.16 Ultimately the scheme agreed climate change implied a “material, direct and current financial risk”, to align its portfolio to net zero by 2050 and report using the guidelines agreed by the Task Force on Climate-related Financial Disclosures.

Insurers also need to prepare for detailed scenario analyses with forensic scrutiny of underwriting decisions and assets, to help mitigate the uncertainty. 

These changes reflect the complex way the environment is changing; how environmental protest has become global and how climate action is part of an evolving social debate. “Litigation is being used in every direction, and we are going to see more of it,” Setzer warns. “The terrain becomes complex, risks and uncertainty are high, and the players involved are powerful. It will be a hard fight.”

The law as a governance tool

Figure 5: Climate laws and policies and greenhouse gas emissions

Climate laws and policies and greenhouse gas emissions

Note: The size of the circle represents the number of climate laws and policies. The larger the circle, the higher the number of climate laws and policies. The colour of the circle represents Carbon dioxide emissions from the use of fossil fuel and the manufacture of cement, land-use change, and forestry (MtCO2e). The darker the circle, the higher the emissions. Source: Grantham Institute of Climate Change & the Environment, March 2021

Figure 6: Climate litigation and greenhouse gas emissions

Climate litigation and greenhouse gas emissions

Note: The size of the circle represents the number of climate laws and policies. The larger the circle, the higher the number of climate laws and policies. The colour of the circle represents Carbon dioxide emissions from the use of fossil fuel and the manufacture of cement, land-use change, and forestry (MtCO2e). The darker the circle, the higher the emissions. Source: Grantham Institute of Climate Change & the Environment, March 2021

References

  1. ‘Shell accelerates drive for net zero emissions with customer first strategy’, Shell, February 11, 2021
  2. ‘Frequently asked questions about the climate lawsuit against Shell’, Milieudefensie, 2021
  3. Roger H.J. Cox, ‘Revolution justified: Why only the law can save us now’, Stichting Planet Prosperity, September 19, 2015
  4. The case used a tort provision established in the Dutch Civil Code (Article 6:162) and the Dutch Supreme Court held that on the basis of the European Convention on Human Rights (ECHR) the Netherlands has a positive obligation to take measures for the prevention of climate change
  5. Isabella Kaminski, ‘The Netherlands faces pressure as global ‘test case’ for deep emissions cuts in 2020’, Climate Home News, February 26, 2020
  6. ‘Research article: Global climate litigation report: 2020 status review’, United Nations Environment Programme, January 26, 2021
  7. Javier Solana, ‘Climate change litigation as financial risk’, AIMS Green Finance, October 28, 2020
  8. Elisa de Wit, Holly Stebbing, Sonali Seneviratne and Daniel Wells, ‘UN report on climate litigation released’, Norton Rose Fulbright, March 2021
  9. ‘A new front in the fight against climate change’, Freshfields Bruckhaus Deringer, 2021
  10. ‘Peruvian farmer takes on German energy giant RWE’, DW News, December 6, 2019
  11. Stefan Küper, ‘Historic breakthrough with global impact in "climate lawsuit"’, Germanwatch, November 30, 2017
  12. Stefan Küper, ‘Historic breakthrough with global impact in "climate lawsuit"’, Germanwatch, November 30, 2017
  13. ‘RWE seeks compensation for Dutch plans to shut coal-fired plant’, Reuters, February 4, 2021
  14. ‘Climate litigation — addressing fundamental rights…for having a future’, European Court of Auditors, September 11, 2020
  15. ‘A new front in the fight against climate change’, Freshfields Bruckhaus Deringer, 2021
  16. Swati Pandey, ‘Australian pension fund settles landmark climate lawsuit’, Reuters, November 2, 2020

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