On 12 May 2023, the English High Court denied permission to ClientEarth to proceed with a substantive application for permission to continue a derivative action against the directors of Shell. The court held that ClientEarth’s application and evidence did not disclose a prima facie case for giving permission.
We first considered ClientEarth’s prospective derivative action in our earlier article.
The full judgment from 12 May 2023 is available to read.
The judgment endorses the well-established principle that the court will not readily meddle in directors’ decision making when weighing up many competing considerations and reaching a decision in good faith. It is fair to say that in this respect the judgment aligns with prior derivative action case law.
What is ClientEarth’s complaint?
ClientEarth’s central complaint relates to the acts and omissions of Shell’s directors in implementing Shell’s climate change risk management strategy, and in particular the adoption of a deficient energy transition plan. The failures are said to include a failure to address the value destruction of Shell’s fossil fuel business and an unreasonable reliance on carbon capture and storage and nature-based solutions offsetting, which are alleged to be ineffective.
On what basis is ClientEarth’s claim brought?
ClientEarth’s claim is pleaded as a derivative action under Chapter 1 of Part 11 of the Companies Act 2006 (CA 2006), which allows shareholders to bring claims in respect of a cause of action arising from an actual or proposed act or omission involving negligence, default, breach of duty or breach of trust by one or more of the directors (s.260(3) CA 2006).
The court’s permission is required to bring any derivative claim.
In the words of Mr Justice Trower:
“[t]he reason the legislation imposes an obligation on a shareholder to obtain permission to bring a derivative claim is that such a claim is an exception to one of the most basic principles of company law: it is a matter for a company, acting through its proper constitutional organs, not any one or more of its shareholders, to determine whether or not to pursue a cause of action that may be available to it. ClientEarth must therefore show that the limited and restricted circumstances in which it is appropriate for the court to authorise it, as a shareholder of Shell, to continue a derivative action against the Directors for breach of duty are present.”
What is the procedure for a derivative action?
This was the first step in the procedure required of claimants wanting to bring derivative actions. The first step in the process allows the court to filter out unmeritorious or clearly undeserving claims.
For ClientEarth at this very early stage, the question for the court was whether on the present application ClientEarth had a prima facie case that it would obtain permission to bring its claim. Even if ClientEarth had succeeded at this stage, it would not mean that permission to continue the claim would be granted in due course after a substantive hearing. This was merely the first hurdle.
There was no oral hearing as the court reached its decision “on the papers”. ClientEarth filed an application and evidence in support of its position. Shell lodged lengthy written submissions which the judge took into account when reaching his conclusions.
What alleged duties owed by the directors does ClientEarth rely on?
ClientEarth relied on two of the statutory general duties owed by Shell’s directors which are:
- s172 CA 2006, which imposes a duty to act in a manner which the directors consider in good faith would be most likely to promote the success of the company for the benefit of its members as a whole, having regard to, amongst other matters, the likely consequences of any decision in the long term and the impact of the company's operations on the community and the environment;
- s174 CA 2006, which requires a director to exercise reasonable care, skill and diligence.
ClientEarth also alleged that the directors owed six additional incidental statutory duties specifically related to the directors’ duty to manage climate risk, including for example the duty to make judgments regarding climate risk that are based upon a reasonable consensus of scientific opinion and a duty to accord appropriate weight to climate risk.
Further, ClientEarth pleaded a duty on a director who is aware of a court order to take reasonable steps to ensure that the order is obeyed (by reference to the order granted by the Dutch court against Shell).
What are the alleged breaches of duty?
ClientEarth pleaded three categories of breaches:
- a failure to set an appropriate emissions target;
- a failure to adopt a strategy as regards the management of climate risk that would establish a reasonable basis for achieving net-zero targets; and
- a failure to comply with the order of the Dutch court in separate litigation concerning Shell in the Netherlands.
What relief is ClientEarth seeking?
ClientEarth seeks declaratory relief in respect of the directors’ acts and omissions to date and a mandatory injunction that Shell (a) adopt and implement a strategy to manage climate risk in compliance with its statutory duties and (b) comply immediately with the Dutch Order.
What did the court conclude?
The court held that ClientEarth had failed to show a prima facie case.
The court refused to impose any additional or incidental duties on the directors other than those expressly set out in CA 2006 and said that to do so would cut across the directors’ general duty to have regard to the many competing considerations as to how best to promote the success of Shell for the benefit of its members as a whole. It is well-established principle of English law that it is for directors themselves to determine (acting in good faith) how best to promote the success of the company for the benefit of the members as a whole. The impact of Shell’s operations on the community and the environment is a matter which the directors are required to weigh in the balance.
Mr Justice Trower held that:
“the evidence does not engage with the issue of how the Directors are said to have gone so wrong in their balancing and weighing of the many factors which should go into their consideration of how to deal with climate risk, amongst the many other risks to which Shell’s business will inevitable be exposed, that no reasonable director could properly have adopted the approach that they have. This is a fundamental defect in ClientEarth’s case because it completely ignores the fact that the management of a business of the size and complexity of that of Shell will require the Directors to take into account a range of competing considerations, the proper balancing of which is classic management decision with which the court is ill-equipped to interfere.”
Beyond finding that there was no prima facie case that the directors were in breach of their duties, Mr Justice Trower also held that ClientEarth had not made out a prima facie case for the relief sought as he was not convinced the relief would be suitable for enforcement or serve any other legally relevant purpose.
The court also looked at discretionary considerations which the court would be required to take into account at any substantive hearing for permission, including under s.263(3)(a) CA 2006 which raises the question of whether ClientEarth would be acting in good faith in seeking to continue the claim. The court held that in circumstances where ClientEarth holds only 27 shares in Shell but was proposing it should be entitled to seek relief on behalf of Shell in a claim “which on any view is of very considerable size, complexity and importance (and will be exceptionally expensive and time-consuming to pursue), gives rise to a very clear inference that its real interest is not in how best to promote the success of Shell for the benefit of its members as a whole”. The court agreed with Shell that the inference was that ClientEarth is pursuing an ulterior motive to advance its own policy agenda in the public domain, rather than seeking to advance the interests of the company, and commented that if the claim had been brough in the pursuit of an ulterior motive it would not have been brought in good faith.
Finally, the court had regard to the number of shareholders who are understood to support Shell’s climate strategy (in the region of 80% of the shareholders) as against the proportion of shareholders who endorsed ClientEarth’s approach (in region of 0.17% of the shareholders), The court concluded that the level of support for the directors’ strategy would count strongly against the grant of permission.
What are the next steps?
ClientEarth is entitled to ask for an oral hearing to ask the court to reconsider its decision (it must make the request in writing within seven days).
If the court changes its mind after any oral hearing and decides that a prima facie case for permission has been established, the court will order that Shell and its directors be made respondents to the permission application and will give directions for a substantive hearing.
It remains to be seen whether ClientEarth will request an oral hearing, particularly given how confidently the judge reached his conclusions and the many different bases relied upon.