Shell-shocked: the rise of sustainable due diligence

Not a day goes by without a climate litigation being in the news somewhere in the world. The Urgenda case first sent shivers down the spines of policymakers across the board, when Dutch courts condemned the Dutch authorities' failure to act on climate change.^[1] Policymakers' qualms seem to have proven justified, as the ruling has since been emulated in other countries such as France^[2], Germany^[3] and Belgium.^[4]

Even more groundbreaking was the recent condemnation of a company – Royal Dutch Shell (RDS) – because of the imminent risk that it would not meet its obligations to reduce its global CO₂ emissions.^[5]

In this article, we examine the impact of the latter judgment on the design of corporate social responsibility policies, risk management, and the role of in-house and external legal counsels.

THE SHELL CASE IN A NUTSHELL

In 2019, a class action was filed against RDS by several non-governmental organisations and approximately 17,000 claimants.^[6]

The Court held that RDS has:

• an obligation of result to reduce its worldwide CO₂ emissions from the group's activities, and
• a “significant best-efforts obligation” to reduce the emissions generated by its business partners, including its suppliers and end-users.

The Court derived this conclusion from Dutch tort law (unwritten duty of care), combined with a number of soft law instruments (such as the OECD Guidelines for Multinational Enterprises and the UN Guiding Principles on Business and Human Rights), as well as from Articles 2 and 8 of the European Convention on Human Rights.

Based on the IPCC reports and the Paris Agreement, the Court found that there is a wide consensus on the need to reduce emissions by 45% by 2030. According to the Court, this consensus applies globally, and also to non-state actors, so that in formulating its group policy, RDS should take this same 45 % reduction from 2019 levels as a guideline.

The Court concluded that RDS is not currently in breach of its obligations, but that its internal policies amount to “intangible, undefined and non-binding plans for the long-term”, which are therefore incompatible with RDS's obligation to reduce its emissions. In view of the imminent risk of breach of this obligation, the Court ordered RDS to reduce its overall CO2 emissions by 45% by 2030 (compared to 2019 levels).

RDS is likely to appeal the ruling, but it is enforceable in the meantime. The Court did not impose fines or damages on RDS, although these could be applied in the future if RDS fails to comply with its obligations.

BEYOND COMPLIANCE

CSR primarily involves compliance with environmental, social and governance regulations, which have exponentially increased in number in recent years, both nationally and internationally, rendering compliance an already complex issue in and of itself. However, the Shell judgement might indicate the need to go even further than that: beyond mere compliance with "hard" law, prudent and responsible companies may be called upon to take soft law ESG standards quite seriously on their own by implementing these through credible corporate policies.

The hardening of soft law standards is also at work in Belgium: the general duty of care under Article 1382 of the (old) Civil Code can be used to address carelessness in the formulation and implementation of sustainable policies.

INDIVIDUAL RESPONSIBILITY

The Hague District Court confirmed that RDS bears individual responsibility, which it must assume independently of the action (or inaction) of States, or of competitors, in the field of environmental protection. The Court recognised that the obligation imposed on RDS would affect its profitability and growth, but that the public interest served by this duty is more important than the commercial interests of RDS.

A BIG OIL CONCERN – BUT NOT ONLY

The Hague District Court emphasized the responsibility of RDS as the holding company of a group responsible for a significant part of the CO₂ emissions. And other companies in the energy sector are indeed primary target for legal action (Total, EDF, etc.).^[7] However, the Court also stressed that “all enterprises regardless of their size, sector, operational context, ownership and structure” must contribute to preventing the risk of global warming.

It is therefore expected that strategic litigation against corporations active in all kinds of sectors (aviation, banking, etc.) will burgeon, and if Urgenda's example if followed, not only in the Netherlands, but also abroad.

DOING WELL BY DOING GOOD

A common concern ensuing this evolution will naturally be that the pursuit of ESG objectives may harm competitiveness. However, developing a culture of environmental and social integrity is essential to avoid reputational risks and can even give a competitive edge to pioneering companies that seek to foster innovation. Furthermore, by engaging in ESG best practices, the corporation will have a margin of error that keeps it out of the legal grey and create a reputation that will serve the company well.

RESHAPING THE ROLE OF IN-HOUSE AND OUTSIDE COUNSELS

Many companies have chosen to designate the General Counsel as the reference person for ESG management, given the general view he or she has of all business processes. This confirms the trend towards broadening the functions of the General Counsel, which go far beyond purely legal aspects.^[8]

The same evolution is ongoing with respect to external lawyers. For instance during M&A due diligence, they should no longer limit to flagging up practices that appear to be contrary to the law; additionally, they should pay due heed to the reputational risks and other risks entailed by the violation of corporate governance codes, climate objectives and ethical standards – in short: ESG due diligence is slowly but surely transforming into the new standard.^[9]

SUSTAINABILITY REPORTING

Most companies publish a sustainability report on a voluntary basis, and apply common standards like the GRI Sustainability Reporting Standard.^[10]

Some companies are also subject to the non-financial reporting directive (NFRD) 2014/95/EU, which helps investors, consumers and other stakeholders to evaluate the non-financial performance of large companies. The NFRD does not require EU companies to undertake ESG due diligence but to provide information on it if they do, or to explain why they do not undertake it. On 21 April 2021, the Commission adopted a proposal for a Corporate Sustainability Reporting Directive (CSRD),^[11] which would amend the existing reporting requirements of the NFRD. The proposal extends the scope to all large companies and all companies listed on regulated markets, requires the audit of reported information, and introduces more detailed reporting requirements, according to an EU standard.

Nevertheless, there are calls for more stringent regulations, and mandatory due diligence legislation is coming.

UPCOMING ESG DUE DILIGENCE LAWS

In April 2020, the European Commission announced that it would propose a European ESG Due Diligence law. The Commission is said to be putting the finishing touches to its proposal, which should be made public very soon. In the meantime, on 10 March 2021, the European Parliament itself made recommendations to the Commission, including a draft directive on corporate due diligence and corporate accountability.^[12] The new directive is expected to offer access to remedy for victims and strong enforcement mechanisms. Sanctions could also include temporary or indefinite exclusion from public procurement processes.

Of course, at this stage these are only legislative proposals, but it is in every company's interest to take the lead in establishing or reinforcing an ESG agenda.

WHAT SHOULD YOU DO?

Determine who in the company will be in charge of ESG management. This will obviously depend on the size and activities of the company. In some cases, one or more specialised committees will be set up, although care should be taken not to proliferate them or to create silos.

Pay attention to the expertise of the decision-making bodies: directors often have an industry or finance background; more diverse decision-making bodies, with a variety of expertise (e.g. scientific) and personal experiences, will be better able to grasp ESG issues.

Do not consider compliance and ESG due diligence as isolated practices: if a company already maintains a thorough and thoughtful compliance policy, embracing ESG standards should not normally require any fundamental reorganisation: ESG due diligence and compliance proceed from similar logics, which deserve to be approached in an integrated manner.^[13]

Set ambitious, short-term targets, rather than vague long-term ones. It is clear from the Shell judgment that a judge or shareholder will not be impressed by empty statements of intent. Instead, an ESG strategy should be based on qualitative and quantitative KPIs, and set precise timeframes to achieve them.

Consider the company's environmental and social impact in a holistic way. The ESG management should include the company’s own activities, but also its subsidiaries’ and, if practicable, its supply chain. Assess all of the company's activities in order to identify the ESG actions that can have the most impact, not those that can be implemented most easily. Otherwise, there is a risk that the company will hit the target, but miss the point.

Consider linking executive remuneration to ESG goals. Research shows that companies that tie executive compensation to ESG goals tend to perform better in that field.^[14]

Communicate your actions externally in an honest and accurate manner. Green and social washing is increasingly highlighted, and is in the radar of the supervisory authorities.^[15]

Conclusion

ESG due diligence will become essential for companies, which will see it not only as a means of limiting risks, but also of strategically positioning themselves in relation to their competitors by anticipating the growing expectation – from shareholders, employees, customers and society as a whole – that corporations conduct their business in a sustainable way. In this context, lawyers will have to adopt a more proactive role, identifying not only what is legal to do, but also what is right to do.

By Jens Mosselmans, Maxime Vanderstraeten and Stef Feyen.

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^[1] The Hague District Court, Urgenda Foundation v State of the Netherlands, 24 June 2015; the judgment was upheld on appeal by the Dutch Supreme Court on 20 December 2019.

^[2] Paris Administrative Court, Notre Affaires à Tous and Others v France, 3 February 2021.

^[3] German Constitutional Court, Neubauer et al. v Germany, 29 April 2021.

^[4] Brussels Court of First Instance, vzw Klimaatzaak v Kingdom of Belgium & Others, 17 June 2021.

^[5] The Hague District Court, Milieudefensie et al. v Royal Dutch Shell plc, 26 May 2021. An English translation is available at https://uitspraken.rechtspraak.nl/inziendocument?id=ECLI:NL:RBDHA:2021:5339.

^[6] The claim was originally brought on behalf of "present and future" generations of the world's population, which the Hague District Court ruled inadmissible.

^[7] In France, several actions are pending under the Duty of Vigilance Law: N. Bueno and C. Bright, “Implementing human rights due diligence through corporate civil liability”, Comparative Law Quarterly, 2020, 69(4), p. 11.

^[8] F. Piccaluga, “Sustainability Management: The Role of the Legal Department”, International In-house Counsel Journal, 2021/54, p. 2.

^[9] J. Bletz, “ESG-due dligience: een belangrijke blinde vlek”, deJurist, 17 June 2021, https://dejurist.com/nieuws/50013008/esg-due-diligence-een-belangrijke-blinde-vlek.

^[10] https://www.globalreporting.org/standards.

^[11] European Commission, Proposal for a Directive of the European Parliament and of the Council amending Directive 2013/34/EU, Directive 2004/109/EC, Directive 2006/43/EC and Regulation (EU) No 537/2014, as regards corporate sustainability reporting, 21 April 2021.

^[12] European Parliament resolution of 10 March 2021 with recommendations to the Commission on corporate due diligence and corporate accounntability, europarl.europa.eu/doceo/document/TA-9-2021-0073_EN.html.

^[13] L. Strine, K. Smith and R. Steel, “Caremark and ESG, Perfect Together: A Practical Approach to Implementing an Integrated, Efficient, and Effective Caremark and EESG Strategy”, Faculty Scholarship at Penn Law, 2021.

^[14] S. Gadinis and A. Miazad, “Corporate Law and Social Risk”, Vanderbilt Law Review, 2020, vol. 73, p. 1421.

^[15] F. El Mabrouk, “Meer en meer bedrijven profileren zich als ecologisch en duurzaam, maar zijn ze dat ook? Regering zwaait nu met boetes”, Het Laatste Nieuws, 14 July 2021, https://www.nieuwsblad.be/cnt/dmf20210713_97233501.