Increasing relevance for climate compliance

April 2023 | EXPERT BRIEFING | RISK MANAGEMENT

financierworldwide.com

Climate protection has become a major factor in the business world, and many companies have set themselves ambitious targets. However, a recent study has shown that most European companies have no comprehensive plans on how they will achieve their climate targets. This may pose considerable risks for the companies concerned in the future. Not only are climate lawsuits and greenwashing allegations imminent, companies must also be wary of regulatory and reputational risks.

Although a comprehensive framework for ‘climate compliance’ is still missing, the enactment of new laws, both in the European Union (EU) and Germany, as well as recent court decisions, are providing some guidance for companies on how to adapt to the increasing regulation in the field of climate and environmental protection. Overall, these developments show that climate and environmental compliance is one of the key topics for companies that can be addressed via an update to the company’s compliance management system.

Legislation – the European Green Deal

In 2020, the EU Commission launched its European Green Deal. The EU set itself the goal of being “the first climate-neutral continent” by 2050. The focus lies on expanding renewable energies and decarbonising energy. In addition, there are other adjacent action programmes that aim to reshape society as a whole and address the connection between industry, infrastructure, agriculture, production and other areas. The European Green Deal aims to have a significant impact on administrative processes and to bring about lasting structural changes in the EU. It is large in scope and as such highly significant for companies.

The restructuring of the European economy represents a challenge for companies. However, it also offers opportunities. Companies that restructure early can actively shape the new policies and remain up to date in a changing system.

Climate protection decision of the German Federal Constitutional Court

Recent decisions by courts illustrate the increasing importance of climate and environmental protection issues. In the decision of the Federal Constitutional Court (Bundesverfassungsgericht) from 24 March 2021, the German Federal Climate Protection Act (KSG) was declared partially unconstitutional. The purpose of the Act is to ensure that Germany meets the targets it set itself in the matter of climate protection. This also includes reaching climate neutrality. For regulatory purposes, this goal has been divided into the periods up to the year 2030 and up to the year 2050. However, according to the Federal Constitutional Court, the provisions for the period up to 2050 were not sufficiently specific to ensure adherence to these targets. Germany would be legally committed to achieving these goals because it signed the Paris Agreement.

The core statement of this decision is that obligations by the state to protect fundamental rights can be established regarding future generations, meaning the freedom of future generations must be safeguarded. To this end, the goals in the Paris Agreement and climate neutrality must be guaranteed. Since the KSG does not do this adequately from the time after 2030, the Constitutional Court ruled that it would be partially unconstitutional.

Civil lawsuits – private enforcement

Civil lawsuits are also increasingly being used for climate activism in Germany and other parts of the EU. In the Netherlands, a whole series of judgments related to companies being held responsible for climate-related damages were filed. In an early case, four Nigerian farmers filed lawsuits in 2008 against a company in The Hague, and its subsidiary in Nigeria, for oil leaks in fields and fish breeding ponds.

The case devolved into another lawsuit in which environmental associations went up against the corporation. A Dutch court ordered the company to cut its emissions by 45 percent by 2030 compared to 2019 levels. The court’s opinion was that the company could not avoid responsibility by arguing that it was, after all, just one company among many, and that its contributions were too indeterminate globally and microscopic to be held responsible for climate change. The court replied that this resulted from the global nature of the climate crisis and was not a suitable reason for not fulfilling its legal obligations. The company is appealing this case and a decision from a higher court is still outstanding.

In Germany, there is also movement on the civil law front. Comparable to the Dutch case, a Peruvian farmer sued a German energy company before the Higher Regional Court of Hamm. The farmer is demanding that the German corporation pay 0.47 percent of the cost for protective measures for his property in Peru. His home would be in danger of being destroyed by a glacier, resulting from melting ice in the Andes due to climate change. The figure supposedly corresponds to the percentage of globally emitted CO2 emissions that can be traced back to the German company. The biggest legal problem of the case is the ‘polluter pays principle’. How can causality and imputation be established in such liability cases? This is an area of research focusing on scientifically attributing the effects of climate change to individual polluters, thus making them liable.

In addition, several ‘climate cases’ have been brought against large car manufacturers in Germany. The group Environmental Action Germany (Deutsche Umwelthilfe) sued car manufacturers to stop them from selling any more gasoline or diesel cars after 2030. They had argued that the CO2-emissions caused by the companies hurt the general personality right of the plaintiffs. The courts decided in favour of the automobile companies both times. The reasoning behind this ties back to the climate protection decision of the Federal Constitutional Court. The courts cited this decision, stating it was up to parliament to decide what cars are allowed to be produced and to plan measures adhering to the Paris Agreement, not the courts.

New ESG laws

There are several developments that need to be accounted for in a new environmental, social and governance (ESG) system. These changes need to be addressed by updating a company’s existing compliance management system (CMS). The risks of not acting in this regard span from legal to reputational damage.

Recent examples of new laws include the Corporate Sustainability Reporting Directive (CSRD) which was adopted in November 2022. Non-financial reporting was significantly expanded through the new law. Furthermore, there is a proposal for a European supply chain directive, which is significantly more far-reaching than the various national approaches to supply chain due diligence.

Reporting obligations are also increasingly found in national law. In Germany, the Supply Chain Due Diligence Act (LkSG) came into force on 1 January 2023. The LkSG constitutes certain efforts companies are obligated to make related to human rights and environmental protection. However, there are no pure climate protection aspects.

These developments show that there is a growing movement in the compliance sector to take more action on environmental and climate issues. Since this approach has many supporters, it is likely that many new regulations will be seen in the coming years.

Update of CMS necessary

Companies need to take concrete measures to avoid negative repercussions and adapt to these new developments. Legal repercussions include fines and lawsuits. However, even if these legal proceedings never take place or are overcome, companies still stand to lose by not acting quickly enough. Companies are especially prone to reputational damage. Customers are ever more engaged and preoccupied with a company’s climate policies. Brand image is very sensitive to negative public attention, including public proceedings, negative press and social media.

To counter these legal and non-legal issues, companies need an effective ESG compliance system. Existing CMS systems must be updated to adhere to recent developments in environmental protection. Examples of these include concrete roadmaps for achieving environmental and climate goals, a compliance check of environmental-related statements to avoid greenwashing allegations and specific training for employees. In a nutshell, companies must foster a general corporate culture of climate and environmental protection. These changes to existing CMS systems will help companies combat issues following recent legal developments in this area.

Conclusion

These various developments show how urgent it is for companies to take immediate action regarding their climate policies. In the foreseeable future, many legal battles will be fought over responsibility for the climate crisis, and the best way for companies to shield themselves is by acting now and making themselves unassailable through an effective climate CMS.

Dr Sebastian Gräler is a partner at Hogan Lovells International LLP. He can be contacted on +49 211 13 68 394 or by email: sebastian.graeler@hoganlovells.com.

Sebastian Gräler

Hogan Lovells International LLP