The recent proceedings commenced by two shareholders of the Commonwealth Bank of Australia (CBA) against CBA in the Federal Court of Australia for failing to properly disclose the risks that climate change posed to CBA’s financial position and performance in its annual reports raises interesting questions about the extent of directors’ duties and whether or not this extends to considering the risks to the company posed by climate change.

Although the shareholders ultimately dropped the action after CBA’s latest annual report acknowledged the seriousness of the threat of climate change, the proceedings highlight the growing pressure on companies to consider and manage climate risks.

Do directors have a duty to consider climate change risks?

Directors have a duty to act with care, skill and diligence in performance of their duties. The courts have interpreted this as a catch-all duty to prevent directors from being negligent.

A director will only be liable for breach of this duty if it was reasonably foreseeable that his or her action or inaction might cause harm to the interests of the company. It is important to note that:

  • ignorance is no defence to an alleged breach of the duty to exercise care and diligence;
  • to the contrary, directors are under a positive obligation to take reasonable steps to properly manage their companies; and
  • the duty of care and diligence is owed to the company itself and is generally not owed to a broader range of stakeholders.

The question is whether or not the scope of this duty of care and diligence is broad enough to require directors to consider and mitigate the risks posed by climate change.

A legal opinion from barristers, Noel Hutley SC and Sebastian Hartford-Davis provided to the Centre for Policy Development, expressed the view that directors should consider and mitigate the risks posed by climate change as part of their duty of care and diligence. The rationale put forward for this is that it is that the effects of climate change might pose a reasonably foreseeable risk of harm to the interests of a company.

These effects have the potential to manifest as either:

  • Physical effects – the direct effects of climate change, for example, power outages and damage to a company’s stock or infrastructure resulting from severe weather events; or
  • Transition effects – the indirect financial effects of climate change, for example, scarcity of resources, increased regulatory constraints, and reputational damage to the company in light of changing societal values.

Interestingly, in the 2016 case of ASIC v Cassimatis (No 8) [2016] FCA 1023, the Federal Court held that, for the purposes of the duty, the risk of harm to a company is not limited to direct financial loss, but includes damage to the company’s reputation. In the context of a society that is becoming increasingly mindful of the effects of climate change and eco-conscious in its consumer habits, reputational damage resulting from poor environmental practices constitutes a very real risk to a company’s interests.

For these reasons, legal practitioners consider that directors who fail to consider and, in the appropriate circumstances, mitigate the environmental effects of their business could be found to have breached their duty to act with care and diligence. It is only a matter of time before we see a rise in litigation against directors for failure to take reasonable steps in relation to foreseeable climate-related risk.

This does not mean that directors need to prioritise environmental interests in their decision-making to avoid running afoul of the duty to exercise care and diligence – it simply means that they should actively and robustly consider those interests and the risks posed to the company along with other relevant matters as they perform their duties as directors.

Words of wisdom from the watchmen

In its latest report on the regulation of corporate finance, ASIC expressed the view that companies and their directors should “proactively consider reporting on climate risk as part of their annual reports”.[1] ASIC considers that listed companies should discuss environmental and sustainability risks that have the potential to affect the companies’ financial performance or business outcomes, taking into account the nature and business of the company and its business strategy.

Similarly, Australia’s financial regulator, APRA has emphasised climate change risks as an area of focus for its regulation of the financial industry moving forward.[2] In particular, APRA has recognised that climate change poses financially material and foreseeable risks to Australian businesses and that APRA intends to closely monitor how APRA-regulated entities consider and plan for climate-related risks.

Key takeaways

Best practice suggests that directors should actively consider and, if appropriate, act to mitigate environmental risks insofar as they might impact on your company.

Directors who fail to do so could be found liable for breaching their duty to exercise skill and diligence. The views expressed by the regulators reinforce that climate change is a serious issue that directly affects Australian companies, not to mention the broader effects on other stakeholders and the environment at large.

The development of this line of thought is symptomatic of a general trend of increasing oversight of corporate governance and yet another hurdle that directors should be mindful of when managing the affairs of their companies.