ClientEarth’s derivative claim against directors for alleged breaches of duties to address climate change risk has been dismissed (again)

Introduction

The High Court has reaffirmed its earlier judgment and dismissed ClientEarth’s derivative claim brought against Shell plc (“Shell”) and its Board of Directors. ClientEarth claimed that the directors had breached statutory directors’ duties and failed to comply with an order made by the Hague District Court on 26 May 2021, which imposed a 45% emissions reduction obligation on Shell to be achieved by 2030 (the “Dutch Order”).

Background

ClientEarth is a non-profit environmental law organisation. ClientEarth currently holds 27 shares in Shell and, on 9 February 2023, it filed a derivative claim against Shell’s Board of Directors seeking the following relief:

1. a declaration that the directors had breached their duties; and
2. a mandatory injunction requiring the directors to: (a) adopt and implement a strategy to manage climate risk in compliance with their statutory duties; and (b) comply immediately with the Dutch Order.

Obtaining the court’s permission to continue with a derivative action

Under English law derivative claims represent an exception to the general principle that the decision whether or not to pursue a cause of action vests in the company itself, and not its shareholders (Foss v Harbottle (1843) 2 Hare 461).  As a first step, ClientEarth required the court’s permission to continue with its derivative claim.  Section 261(2)(a) of the Companies Act 2006 (“CA 2006”) provides that the court must dismiss a permission application if the application fails to disclose a prima facie case for granting permission.  This statutory requirement imposes an evidential burden on the applicant from the outset and is designed to filter out “unmeritorious” or “clearly undeserving” cases. 

The prima facie case that must be established is that the company is entitled to the relief sought and that the actions fall within the proper boundaries of the exception to the rule in Foss v Harbottle.

The court agreed with Shell’s submissions that the test of a prima facie case required the court to take the evidence adduced by ClientEarth at its “reasonable highest”. In practical terms, this means that the court is not bound to assume that the facts alleged by ClientEarth are true and, therefore, the court should adopt a critical approach to the evidence adduced.

CPR 19.15 outlines the procedure that is to be adopted by the court when considering the question of whether a prima facie case has been established. If, but only if, the court were to determine that a prima facie case for giving permission had been established, then Shell and the relevant directors would have been made respondents to the permission application and directions would then have been given for a substantive hearing of that application (CPR 19.15(12)).

The duties relied on by ClientEarth

The duties relied on by ClientEarth, and which were alleged to have been breached by Shell’s directors, were two of the statutory general duties owed by directors to Shell further to s.170, CA 2006, namely: (i) the duty to promote the success of Shell (s.172, CA 2006); and (ii) the duty to exercise reasonable care, skill and diligence (s.174, CA 2006).

ClientEarth argued that these two general statutory duties included the following six special incidental duties when considering climate risk for a company such as Shell:

1. a duty to make judgements regarding climate risk that are based upon a reasonable consensus of scientific opinion;
2. a duty to accord appropriate weight to climate risk;
3. a duty to implement reasonable measures to mitigate the risks to the long-term financial profitability and resilience of Shell in transition to a global energy system and economy aligned with the global temperature objective of 1.5 degrees Celsius (“GTO”) under the Paris Agreement on Climate Change 2015 (the “Paris Agreement”);
4. a duty to adopt strategies which are reasonably likely to meet Shell’s targets to mitigate climate risk;
5. a duty to ensure that the strategies adopted to manage climate risk are reasonably in the control of both existing and future directors; and
6. a duty to ensure that Shell takes reasonable steps to comply with applicable legal obligations

(together the “incidental duties”).

ClientEarth contended that the incidental duties arose logically once the directors had identified that Shell’s climate strategy was a commercial objective which was most likely to promote the success of Shell.  ClientEarth said the way the directors had made that decision was through the adoption of an energy transition strategy (“ETS”) which set an overall target for Shell to become a net zero energy business by 2050.

The alleged breaches of duties

The five specific breaches alleged against the directors were that they had failed to ensure that Shell had:

1. an appropriate emissions target;
2. a measurable and realistic pathway to meeting the net zero target they had set by 2050;
3. policies and targets which contained an adequate pathway to achieving Shell’s targets;
4. existing policies and targets that were aligned with the GTO under the Paris Agreement; and
5. taken reasonable steps to comply with the Dutch Order.  

The court’s judgment

The incidental duties

The court rejected ClientEarth’s argument holding that ClientEarth’s formulation of the incidental duties was inconsistent with the well-established principle that it is for directors themselves to determine (acting in good faith) how best to promote the success of a company for the benefit of its shareholders as a whole. The court agreed with Shell’s submissions that the incidental duties were seeking to impose specific obligations on the directors regarding how the management of Shell’s business and affairs should be conducted, which is inconsistent with company law principles.

The court also agreed with Shell’s submission that there was no duty under English law that required a director to take reasonable steps to ensure that an order made by an English or overseas court is obeyed which is separate or distinct from the duties owed to the company as codified in Part 10, Chapter 2 of CA 2006.

The court concluded that ClientEarth’s case sought to impose absolute duties on the directors which cut across the directors’ general duty to have regard to the various and multiple competing considerations concerning how best to promote the success of Shell for the benefit of its shareholders. 

The test for breach of s.172, CA 2006 (the duty to promote the success of the company) is subjective

The test for breach of s.172 is a subjective one, and requires proof of conduct other than in good faith.  ClientEarth had conflated the concepts of irrationality and good faith, and had treated them as interchangeable. Whilst irrationality may support an argument that the directors could not have been acting in good faith, the court found no clear authority that irrationality can stand as a ground of breach on its own. The courts will not act as a kind of supervisory board over management decisions honestly arrived at by directors within the scope of their management powers.  The question for the court is whether the decisions fall outside the range of decisions reasonably available to the directors at the time.

The alleged breaches of duty pertaining to Shell’s climate change risk management strategy

The court concluded that ClientEarth did not provide evidence of a prima facie case that there was no basis on which the directors could reasonably have decided that their response to climate change risk had been in Shell’s interests.

No expert evidence had been adduced, and the court disagreed with ClientEarth’s submission that it would have been unreasonable to require or expect ClientEarth to adduce expert evidence at the prima facie stage. 

The court placed very little weight on the opinions expressed by ClientEarth’s senior lawyer, who had submitted a witness statement in support of ClientEarth’s application.  The court accepted that the witness’s opinions were genuinely held, but due to the complexity of the issues, that was not sufficient and the court could not rely upon it.

A fundamental defect in ClientEarth’s case was that it failed to recognise that the management of a business of the size and complexity of Shell requires the directors to consider numerous competing considerations, and the proper balancing of those considerations is a classic management decision which the court is ill-equipped to interfere with. 

The alleged breaches of duty relating to the alleged non-compliance with the Dutch Order

The court held that the Dutch court accepted that Shell was not currently acting in an unlawful manner and recognised that it is a matter for Shell how it exercises its discretion to comply with reduction obligations imposed by Dutch law, including the Dutch Order.

The nature of the relief sought

The court accepted Shell’s submission that the nature of the relief being sought by ClientEarth was also a relevant consideration when assessing the permission application. The mandatory orders sought by ClientEarth contravened the basic principle that a court will not grant mandatory injunctive relief if constant supervision is required, particularly where the relief sought has been framed imprecisely.  Future disputes over compliance with the proposed mandatory injunction could be highly disruptive to Shell’s business.

As to the declaratory relief sought, the proper forum for generating a view concerning the directors’ conduct would be by vote of the members in a general meeting of shareholders and not a derivative claim.

The discretionary factors considered by the court

The court next considered the discretionary factors referred to in s.263(3) and s.263(4), CA 2006, which included an assessment of whether the claim had been brought by ClientEarth in good faith.  The court held that, where the primary purpose of bringing the claim is an ulterior motive, such as in the form of publicising and advancing ClientEarth’s policy agenda (as contended by Shell), the claim would not have been brought in good faith. Noting ClientEarth’s de minimis shareholding in Shell, the court observed that ClientEarth proposed that it was entitled to seek relief (on behalf of Shell) in a claim of considerable size, complexity and importance.  The court observed that those factors gave a very clear inference that ClientEarth’s real interest did not lie in how best to promote the success of Shell for the benefit of its shareholders.

The court also considered the views of members of Shell generally, and stated that between 80% and 84% of votes cast at Shell’s AGMs held between May 2021 and May 2023 were in support of the ETS. Conversely, ClientEarth had received less than 1% of support for its claims from Shell’s members; and notably most of the members comprising that figure were members of Climate Action 100+ engagement initiative. The level of member support for the ETS and its progress went strongly against the grant of permission.

The possibility of an appeal

The judgment illustrates the practical challenges that will be faced by environmental and other pressure groups to commence a derivative claim to oppose a board’s strategic management decisions relating to climate change risk.  ClientEarth has publicly announced that it will seek permission to appeal.  Whatever the outcome of the appeal, the decision is likely to influence judicial thinking in future legal challenges.

A copy of the judgment is available here: ClientEarth v Shell Plc & Ors [2023] EWHC 1897 (Ch)