Boardroom Risks: How Emerging Issues Impact D&O Insurance

The Council would encourage entities to consider whether they have a material exposure to climate change risk by reference to the recommendations of the Financial Stability Board’s Task Force on Climate-related Financial Disclosures (“TCFD”) and, if they do, to consider making the disclosures recommended by the TCFD.

• Governance;
• Strategy;
• Risk management; and
• Metrics and targets to be included in traditional financial accounts.

Companies who choose to make this disclosure should analyse the potential impact of a number of climate related scenarios (one example being rising temperatures) on the organisation and refer to the plans adopted to mitigate against the risks.

Many companies are leading the charge with their TCFD reporting in financial disclosures, as well as aligning executive remuneration and key performance targets with the overall strategy. Institutional investors who are members of collaborative groups, such as the Investor Group on Climate Change (https://igcc.org.au/) and Climate Action 100+ (http://www.climateaction100.org/), are engaging with companies to require them to consider the impact of climate change and release appropriate and comprehensive disclosure about these risks.

• Consider Climate Risk – continually understand and assess existing and emerging risks for both the short term and long term;

• Adopt strong and effective Corporate Governance tools – transparency is paramount. Where a climate risk is material, Boards need to consider disclosing the company’s governance and risk management practices around climate risk;

• Comply with the law – In the company’s operating and financial review, ASIC considers that where climate risk could affect entity’s achievement of its financial performance the law requires it be discussed. Preparers of disclosure documents should consider the relevant company’s exposure to climate risk as part of their due diligence and if material, disclosure needs to be concise and clear;

• Disclose useful information to Investors – it is recommended that listed companies consider disclosing climate separate to other general risk categories i.e. environmental and regulatory risk.

In a similar vein, with the introduction of the Modern Slavery Act, we believe that retail and institutional investors will be expecting enhanced disclosure by the larger companies obligated to report in accordance with the legislation. However, this will place pressure on smaller Australian listed entities who have any exposure through their supply chain and/or their operations, to make appropriate and comprehensive disclosure. This will then demonstrate that their board is considering this an important business risk and is giving clear guidance on the due diligence conducted by the company, as well as the risk mitigation strategies the company is adopting. Failure to do so will most likely result in increasing scrutiny by shareholders, regulators and other interested parties. Any public censure by regulators or queries and corresponding share price drops may well expose the company to the threat of a derivative class action.

Corrs Chambers Westgarth, in its insight “A new era of climate change litigation in Australia”, identified the key matters which have historically been litigated on (and will continue to be litigated on). These included:

• oil and gas exploration;
• expansion or construction of facilities for energy-intensive manufacturing; and
• changes to land use.”

In the event that investors suffer a loss which they perceive could be attributed to inadequate disclosure by the board/management of their climate change risks, we believe this could result in a D&O claim. The claim could arise in a number of scenarios:

• the non-disclosure of climate change / human rights risks to the market, resulting in action by regulators;
• inadequate steps taken by the Board to mitigate the risks, resulting in a loss; and
• negative implications on company valuation due to failure to take account of these risks and any resulting consequences.

D&O Insurance is complex and the changing governance framework is making it even more so. Insurers respond to emerging risks quickly and it’s important to stay on top of the important considerations for your D&O policy and keep your broker informed.