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As the dust settles on COP26, what can we expect its legacy to be?
With the appetite for ESG financial products showing no signs of abating, and pressure on corporates and the financial sector alike to “walk the talk” on their climate pledges, comes concerns about greenwash allegations. This can take various forms, for example how an ESG fund is labelled and structured, whether climate issues have been properly factored within an organisation’s decision-making process, whether a net zero claim or public disclosure in an annual or sustainability report is consistent with the company’s climate strategy or whether a green claim in product marketing materials can be substantiated.
Regulators (in particular financial regulators) have said that greenwash is high on their agenda for 2022 and non-governmental organisations are also focused on the area. Along with brand damage and regulatory investigation, there is also an increased risk of civil litigation.
2021 was a hugely significant year for climate and other ESG litigation. It is not only striking that many claims have been and are being pursued for strategic reasons, with increasing degrees of creativity, but that some notable claims are succeeding – a trend which is set to continue. There has been a wave of claims brought against governments and public authorities in connection with climate change in the courts, including successful challenges in Germany, France, Belgium and Australia (and claims brought in Italy, Poland, the UK and South Africa), in 2021.
The trend in project-specific challenges under administrative and planning laws has continued apace. We have seen investment arbitration claims brought by adversely affected foreign investors in the energy sector against States, in the context of energy transition. Several cases are also pending against States before the European Court of Human Rights. We expect these trends to continue in 2022.
While climate change dominated the ESG agenda in 2021 (for good reason), the “S” in ESG will likely come into greater focus in 2022 with the development of the EU’s new due diligence regime, which is likely to have a particular focus on human rights. A number of countries including France, the Netherlands and Germany already have in place legislation requiring some form of human rights due diligence. What the EU is hoping to do is take this a step further – not just with a new regime that would apply in all Member States but one that is likely to send a significant ripple across global supply chains. The Covid-19 pandemic has brought into sharp focus the complex global interconnectedness of supply chains. The proposed EU regime will add an extra level of complexity which many economic operators are ill-prepared for. But when adopted, it will hopefully result in a much-needed level playing field for businesses.
Workplace activism and the future of work: Workplace activism is not a new concept, but one which has been amplified in recent times by social movements and the circumstances of the Covid-19 pandemic. Falling neatly within the “S” limb of ESG, it is increasingly becoming a defining feature of the workplace. With a heightened awareness of workplace rights, along with changes in technologies and workplace communication channels, employees can become activists within their workplaces (whether macro or micro) very quickly. These issues can impact share price, drive consumer trends and challenge the status quo. Whilst workplace activism has the potential to cause business harm, it can also facilitate change, add value and be part of long-term growth and sustainability as it helps organisations respond to change.
Diversity & Inclusion: In the past 12 months, diversity and inclusion issues have once again been elevated to board and management level as a result of societal movements, increased regulatory focus and the circumstances of the Covid-19 pandemic as the experiences of lockdown, furlough and the impact on the labour markets has impacted demographic groups in different ways. As regulators, stakeholders and shareholders continue to monitor the ways in which organisations are driving change in diversity within their organisations, businesses around the globe are increasingly looking at how they can measure and report on the diversity within their organisations. For many, the focus is still on gender, but increasingly organisations are also looking to measure and report on ethnicity, social-mobility and disability, in line with evolving regulatory and governance expectations.
ESG and the link with pay: The focus on the role that non-financial performance drivers play in supporting a better culture continues, as organisations and regulators engage with the question of how ESG metrics can be an effective way to drive accountability and progress.
The focus in 2022 will be on ensuring that net zero targets and pledges made by businesses are translated into concrete and robust plans. Best practice will involve adopting externally verified science-based targets, setting interim targets not just 2050 net zero targets, devising a well thought-out action plan and disclosing climate data in line with the recommendations of the Task Force on Climate-related Financial Disclosures. The effects of these plans will travel far down supply chains as corporates act on their commitments.
This also highlights the important role that increased investor stewardship and shareholder engagement play in holding those who have made climate pledges to account. 2021 gave us a taste for what’s likely to come in 2022 on this front – from “Say on Climate” votes, to shareholder revolts at AGMs and investor coalitions setting out their net zero expectations for 2022. A clear message is emerging: investors on the whole would still prefer to engage with investee companies rather than challenge board appointments or divest, but patience is running out with climate laggards.
With the lack of reliable and comparable ESG data still seen as a major obstacle to investors’ ability to redeploy capital at scale to the net zero transition, the International Financial Reporting Standards’ (“IFRS”) announcement that it has launched the new International Sustainability Standards Board (“ISSB”) was welcomed by many. The ISSB will develop a new single global baseline for climate disclosures by mid-2022 (and other sustainability disclosure standards later on). It is worth bearing in mind that once the ISSB standard has been developed, it will then be up to individual countries to decide whether they will adopt that standard into their national law.
Having said that, the IFRS has a good track record and is a clear favourite with the UK and potentially other countries – if they can do for ESG reporting what they did for international financial reporting then there is room for optimism. 2022 may well turn out to be the beginning of the end for the ESG “alphabet soup”.