In-house counsel overwhelmed by pace of ESG development

A report by Lex Mundi has highlighted the confusion in-house counsel face when advising companies on ESG…

A report by Lex Mundi has highlighted the confusion in-house counsel face when advising companies on ESG in a rapidly changing environment.

Environmental, Social and Governance (ESG) developments have left in-house counsel confused and lacking clear legal guidance concerning its implications.

The new Summit Report 2023 by law firm network Lex Mundi found that the double-effect of ESG action moving at the “speed of Twitter” and the legal action behind it often developing with muddy clarity has created confusion. This has been compounded by ESG moving from a relatively minor consideration for companies, to a major requirement with the backing of the law.

A rise in stakeholder activism has seen politicians, public advocate groups and shareholders pushing for businesses to commit to policies which prevent harm to the environment, while legal action has surged to the forefront in matters ranging from green energy policies to modern slavery.

The report found that socially motivated shareholder proposals had increased 20% since 2021 and outstripped governance-led proposals for the first time, while proposals relating to the environment and civic engagement had also increased.

However, general counsel have found that their role as legal advisors to companies has become remarkably more complicated.

ESG has moved at a rapid pace, with companies facing prosecution not under the black-and-white letter of the law, but under ambiguous terms such as “the unwritten rule of law”, which was cited by the Dutch courts in the case of Milieudefensie et al v Royal Dutch Shell in 2021, and saw the energy company ordered to cut its emissions by 45% against 2019 levels by 2030. The court cited norms established in the UN principles, OECD guidelines and human rights law in lieu of legislation.

Major companies have faced a surge in investigations over the last couple of years. Among those highlighted by the report were BNY Mellon, which was fined USD 1.5 million for its misleading ESG claims, marking the first time the United States Securities and Exchange Commission (SEC) had settled with an investment advisor over ESG commitments. The SEC also placed Goldman Sachs under investigation for ESG claims made by its green energy funds.

This sudden shift has left in-house counsel without certainty in how to guide businesses facing similar legal action, if such unclear lines can be drawn in courts. Lex Mundi summarised: “The legal concept known as ‘the unwritten rule of law’ is emerging, whereby companies and boards are faced with liabilities for actions not covered in legislative, civil or criminal code.”

As a result, lawyers are finding it increasingly difficult to protect their clients in these issues. One lawyer at the Lex Mundi summit said they required “signs and guideposts from key jurisdictions about how ESG and other regulation might be applied and enforced”.

Lex Mundi vice-president of global markets Eric Staal tells CDR: “General counsel have told us they’re feeling very stretched to keep pace with the regulatory change.”

In-house legal teams require higher budgets, adding additional strain to business finances, he says: “You could foresee the need for companies to provision more resources for the unexpected litigation or investigation.”

Despite stakeholder demands and the rapid emergence of ESG regulatory law, Staal warns it was not an easy fix for to roll out corporate policies. ESG was a consideration that businesses found easier to swallow in the bull market of pre-2020, but the current market turbulence, compounded by the war in Ukraine, Covid-19 aftershocks and the energy crisis have left companies saddled with expensive ESG commitments. Refinancing has become increasingly attached to certain carbon emission commitments and additional ESG requirements, placing many businesses between a rock and a hard place at the expense.

The report noted: “It is not far-fetched that a company in a liquidity crunch could become unviable owing to costly transition plans or premium borrowing rates.”

Staal adds: “If certain companies become unviable, you can bring an entire value chain to a standstill, and if that happens, it might mean that very necessary products and services don’t reach people. As we seek this transition, which we all know is necessary, at the same time we don’t want to harm the patient. The cost isn’t about asking companies to forgo profits, we’re talking about people potentially not getting medical care or food.”

Despite a political and business pushback against ESG regulation, he does not see the risk of legal action disappearing anytime soon: “ESG is here to stay. I think that’s being carried forward by the generational change we’re experiencing, and the values millennials and gen Z have and expect of companies.”