ClientEarth v Directors of Shell: Key takeaways – an ESG perspective

This month, the English High Court refused to give permission for ClientEarth (as minority shareholder) to bring its ground-breaking application for a climate-related derivative action against the directors of Shell. In his judgment, Mr Justice Trower found that ClientEarth had failed to satisfy the Court that it had a prima facie case. See our article for the legal basis for bringing an action of this kind, as well as its significance to the ever-developing global trend of ESG-related litigation.

With the application now going to an oral hearing, where ClientEarth will ask the Judge to reconsider his decision, we set out below our key takeaways on what this decision means for ESG activism both in relation to litigation and wider activist strategies.

Deference to directors' management decisions 

The decision maintains the well-established principle in English common law that the Courts will show deference to the business judgments of directors who act in good faith: "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," as noted at paragraph 3 of the judgment.

ClientEarth's case is one of only a handful to have asked a Court to opine on the application of this well-established principle to directors' consideration of ESG issues in the context of their statutory duties (as contained in sections 172 and 174 of the Companies Act 2006); albeit through the prism of an application for permission to bring a derivative action (which has its own particular rules and principles, as set out in our previous article).

In its application, in addition to the statutory duties on which the action was based, ClientEarth referred to a number of ESG-related duties which it described as incidental to Shell's directors' statutory duties: for example, a duty to accord specific weight to climate risk. While ClientEarth accepted that a breach of these specific ESG-related duties was not required to establish a prima facie case, the Court was nevertheless keen to emphasise that the law does not go so far as to impose duties beyond those defined in statute nor "more specific obligations as to what is and is not reasonable in every circumstance".

ClientEarth also referred to the Dutch decision in Milieudefensie v Shell (and allegations that Shell's directors had failed to comply with that decision); however, in his judgment Mr Justice Trower noted that, amongst other things, that decision recognised that Shell was not currently acting in an unlawful manner and had, in the words of the Dutch Court, "total freedom to comply with its [CO2] reduction obligations as it sees fit".

Given the above (and that there was no "universally accepted methodology" regarding the most appropriate strategy to achieve particular climate objectives), Mr Justice Trower determined that ClientEarth had failed to account for the fact that the management of a business of the size and complexity of Shell will require its directors to take account of a range of competing considerations all of which must be balanced properly, and to which the Court is "ill-equipped to interfere".

De minimis shareholdings and ulterior motives

In determining whether ClientEarth had a prima facie case, the Court had to consider the merits of the substantive application for permission, including:

• whether a person acting in accordance with his duty to promote the success of the company would continue the claim (s.263(3)(b);

• whether the act/omission in question has been authorised or ratified by the company (s.263(3)(c) and (d)); and

• the views of other shareholders who have no personal interest, direct or indirect, in the matter (s.263(4) of the Companies Act 2006).

In coming to its decision that ClientEarth had failed to reach that threshold, the Court highlighted:

• ClientEarth's de minimis stake of 27 shares, plus the 0.17% of Shell's shareholders that supported the action (all of whom were members of a particular climate action group), represented a "very small proportion of the shareholder constituency".

• Shell had originally obtained 88.4% shareholder approval for its Energy Transition Strategy at its AGM in 2021, which remained at 80% at last year's AGM (when a progress report on the Strategy was under consideration). According to Shell, this demonstrated "the strength of members' support for the Directors' strategic approach", which the Court is bound to have particular regard to.

• ClientEarth's intention in bringing such an action was in furtherance of its own wider objectives rather than promoting the success of Shell for the benefit of its members as a whole: "its motivation in bringing the claim is ulterior to the purpose for which a claim could properly be continued".

A change in judicial attitude to ESG-related actions?

Mr Justice Trower's absolute refusal to entertain the action contrasts with the English Courts' apparent willingness to entertain other types of ESG-related actions and stretch the boundaries of English case law to do so, such as the decisions in Vedanta, Okpabi and Begum v Maran, as discussed in our article.

The decision:

• will be welcome to directors dealing with climate risk management against the backdrop of ever-increasing ESG activism;

• may deter activists from acquiring small stakes in PLCs to promote their goals through litigious actions, at least in the English Court; and

• may, for now, temper fears that actions of this kind would become a nascent trend in England.

Where do ESG activism derivative actions go from here?

This decision confirms unequivocally that Courts will only give permission for derivative actions in rare cases given that they represent the exception to the basic principle of company law that the decisions of the company are matters for directors not shareholders - and certainly not to be interfered with by the Courts.

It is plain from the judgment that gaining the support of a significant proportion of the shareholders would be key in persuading the Court that it should give permission to bring a derivative action (though query what proportion that would have to be). A natural consequence, therefore, may be that organisations such as ClientEarth continue to acquire stakes in PLCs but focus their efforts on gaining the support of other shareholders, for example, by lobbying shareholders at AGMs with regards to ESG-related resolutions.

The maintenance of symbiotic relationships with key stakeholders, including shareholders, has always been a critical element of prudent corporate governance. However, with companies facing acute scrutiny in this space, retaining these relationships remains all the more important in circumstances where a decision relates to ESG and requires shareholder approval.

Access to privileged materials

Notwithstanding this decision, directors of PLCs will be alive to the risk of derivative actions being brought against them by interested parties who have acquired a minority shareholding via the purchase of publicly available shares. In those circumstances, companies should be aware of the risk that shareholders, as owners of the company, could seek to obtain copies of legal advice obtained by the company related to the issue (but not the litigation) at hand - i.e. advice covered by legal advice privilege only.

Next steps for ClientEarth's action

The application will now go to an oral hearing, in which both parties will have the opportunity to make further oral and written submissions. We will provide you with our key takeaways on that decision once it has been handed down following the hearing.

Update: The oral hearing of the application was heard on 12 July 2023. On 24 July 2023, Mr Justice Trower gave his judgment, maintaining his previous decision. ClientEarth have confirmed that they will now request permission to appeal. We will provide our key takeaways from this latest development shortly.