Commercial risks to businesses can no longer be neatly divided into financial and non-financial considerations. For example, there is growing recognition, particularly in the pensions sector, that a failure to take account for environmental and social governance (ESG) risks (in particular, climate change risks) can result in adverse financial consequences. While a revised EU directive will impose an obligation on pension fund managers to consider ESG issues, pension trustees may already be subject to potential legal liability if they ignore material financial risks resulting from climate change (traditionally considered only a moral or ethical concern) in investment portfolios, according to legal counsel.

ClientEarth, a non-profit environmental law organisation, commissioned legal counsel to advise on the extent to which the law permits or requires trustees of occupational pension schemes to consider climate change risks in selecting investments (the “Opinion”).

The Opinion analysed the law in relation to what trustees must consider in the course of making investments. It was the view of the legal counsel that the governing provisions of a fund may or may not set out explicit restrictions on what the trustees can and cannot consider. Notwithstanding this, it was noted that common law requires trustees to act in the best financial interests of the beneficiaries of a trust, and relevant statutory provisions support this concept. However, this does not mean that trustees must solely focus on making decisions designed to maximise short term profit.

As such, counsel concluded that a failure to consider climate change, based on the fact it cannot ever be financially material, would not be a proper exercise of the trustees’ inherent duties. However, trustees of a fund are only required to consider climate change and other ESG factors to the extent that they represent material financial risk to the interests of the beneficiaries.

The Opinion acknowledges the material financial consequences that may result from a failure to adequately consider climate change issues in investment portfolios. In contrast with the existing perception that climate change considerations are optional add-ons, the Opinion reinforces that responsible investment need not be considered as limiting profit.

This shift in perception of climate change from a moral and ethical issue to a potentially legal and financially material one, highlights the growing awareness of the need to consider the effect of climate change in commercial investments. Whether ClientEarth seeks to deploy this Opinion to change the behaviour of pension trustees with respect to climate change risks remains to be seen.