Legal Review: ESG litigation against pension trustees

Kate Granville Smith says the USS case shows the difficulties ESG activism faces under law

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Kate Granville Smith: Litigation risk should be carefully managed by trustee directors and trustees by ensuring that climate risks are carefully considered and accounted for
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Kate Granville Smith: Litigation risk should be carefully managed by trustee directors and trustees by ensuring that climate risks are carefully considered and accounted for

On 21 July 2023 the Court of Appeal dismissed a claim against the directors of the corporate trustee of the Universities Superannuation Scheme (USS) for allegedly failing to deliver on their climate change commitments (McGaughey & Anor v Universities Superannuation Scheme Ltd & Ors).

The basis of the claim was that the corporate directors' failure to divest investments in fossil fuels - following key commitments from USS to achieve net zero on or before 2050 - would continue to cause significant financial detriment and was against the interests of beneficiaries.

It was alleged by the claimants that the directors' inaction in failing to divest constituted a breach of the proper purpose duties placed on directors by section 171 and 172 Companies Act 2006.

In May 2022 the High Court dismissed the claimants' application against the USS trustees on the basis that they had "failed to show even a prima facie case" that justified any of their claims and that that the USS trustees had complied with their duties under the Investment Regulations 2005 in relation to their power of investment.

Litigation through Court of Appeal

The Court of Appeal upheld the first instance judge's rejection of the application against the USS trustee. The court highlighted that the claimants were unable to prove that they had suffered loss because of the alleged breaches by the directors of their duties. It was summarised that "as there was no prima facie case of loss in relation to this claim it falls at the first hurdle".

The court further held that even if the first hurdle was met, there was a lack of evidence that the directors had "furthered their own interests" and that the "directors' actions put their own beliefs with regards to fossil fuels above the interests of the beneficiaries and the Company".

On the evidence presented to the court, which consisted of an ethics survey which was completed by less than 1% of the active membership of USS, the only reasonable conclusion to draw was that the directors had been acting in accordance with what they considered to be the best interests of the USS.

The Court of Appeal also agreed with the High Court in finding that the trustee had complied with its duties under the Investment Regulations 2005. As the directors had ensured the proper diversification of assets and exercised discretion following the receipt of appropriate professional advice, a breach of the regulations was not identified.

Accordingly, the claim failed on the above bases. The Court of Appeal concluded the claimants assertions in relation to fossil fuels was simply "an attempt to challenge the management and investment decisions of the USS trustee without any ground upon which to do so".

The future of ESG litigation

The High Court has recently considered ESG related litigation in the case of ClientEarth v Shell Plc and Others. In this case, ClientEarth, which also commenced a derivative action against Shell's board of directors, alleged that Shell was not doing enough to reach its net-zero climate target. The High Court held, in dismissing the claim, that it was for the directors to weigh up how best to promote the success of the company in accordance with their duties and in good faith.

The latest decision by the Court of Appeal in McGaughey underlines the difficulty that environmental activism faces under English law. Not only are multiple derivative actions unsuitable vehicles for such climate risk claims but the recent decisions in both McGaughey and Shell strongly re-affirm that climate change does not remove the principle that directors are afforded significant freedom in how they discharge their statutory duties.

However, the increased frequency of litigation on climate change issues, and the associated publicity and costs generated, further highlights the importance for pension schemes to consider climate risks and ESG requirements seriously. Litigation risk should be carefully managed by trustee directors and trustees by ensuring that climate risks are carefully considered and accounted for when consulting with investment advisers or making investment decisions. This is certainly an area to watch for developments.

Kate Granville Smith is a director in the pensions team at Burges Salmon

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