Private Sector Voluntary Codes & ESG Plus (Market-Orientation & Litigation Safe Harbors)?

In Units 3 & 4, we covered the theory and past practice of rights-based approaches to developing international environmental law since the 1990s, mostly practically speaking in the ATCA litigation context. We focused ultimately on the dual difficulties in reconciling public international law sources of law doctrine on the technical side, as well as the eventual withdrawal of ATCA jurisdiction by the US Supreme Court (ignoring for the moment potential litigation simply moving offshore). Meanwhile, there developed on the private sector side at least three different responses that were triggered largely on the one hand by almost twenty years of lively ATCA litigation, and on the other hand by a realization of likely longer term regulatory mandates and reputational costs that needed to be considered by financial institutions and markets. These developments might be viewed in the alternative, either in law practice terms as moving issues from analysis of potential legal liability more towards compliance as in the case of seeking to create potential safe harbors, or on the public international (environmental) law side, moving towards “soft” law and away from traditional public international (hard law) sources doctrine.

First, on the banking end of the financial sector, the private sector has embraced a variety of voluntary principles in the environmental and social impact areas before potential borrowers can receive financing for large scale projects. The likeliest example in practice is probably the construction of major infrastructure projects, on the example of electricity generating plants. The question would be raised in comparison of the creditworthiness of fossil-fuel fired generating plant projects, versus renewable energy projects (for example, carbon-free wind or solar generating plants). You can find a particular example in the form of the so-called Equator Principles (addressing financial institution involvement with project finance in terms of social and environmental impact), which some of you might encounter if you aspire to law practice in Charlotte (and, for a time, there was a similar financial institution initiative entitled the “Carbon Principles” especially targeting energy infrastructure). Both were premised on the idea that in reviewing larger scale project loans (and in particular non-recourse project finance loans), creditworthiness analysis required an environmental and social impact analysis and remediation plan. Over time that came to include climate change impacts, judged in terms of carbon generation. And if a project “failed” in terms of anticipated impacts on cashflows to repay loans, or otherwise might not be viable in the longer term due to increased operating and regulatory costs (e.g., a potential carbon tax on fossil fuel inputs for a mooted electricity generating plant at some point during the anticipated 20-30 year life of the loan), it simply would not pass muster before the institution’s credit committee to receive financing in the first place. It was not a matter of banks suddenly becoming “green” institutions, but rather recognizing likely regulatory and similar developments over time as affecting the repayment of any longer-term obligations. The private sector seemingly focused much more on longer-term economic viability in terms of projected cashflows available to repay borrowings, rather than just focusing on current regulatory and market structures. And by my count, The Equator Principles are already in Version 3.0, having been created initially in the early 2000s. This is lightening fast for such an industry initiative, and presumably reflects ferment within the (private) financial sector.

Second, on the capital markets end of the financial sector, we have already noted on the investment side the ESG concerns (also referred to on the entity side often as corporate social responsibility or CSR, if you remember that concept from your basic corporations law course). In the capital markets area, the focus is eventually on enterprise valuations and trading market prices for enterprise securities, with indirect links normally to compensation of the business enterprise’s senior management (who often are paid based upon enterprise performance, most commonly judged by its stock price). Failure to engage on environmental and social concerns can have serious consequences, as witnessed by disinvestment in Freeport-McMoran by the Norwegian Government Petroleum Fund as institutional investor (click on the Norwegian Government Petroleum Fund-Global Council on Ethics, Recommendation of 15 February 2006 to remind yourself of the facts).

Third, in natural resource industries with overseas projects in particular, there was an effort to be proactive in terms of seeking to establish what amounted to safe harbors under industry codes specifying “best practices,” or to design individual projects with a view proactively to address common shortcomings as revealed generally in ATCA litigation. As luck would have it, the continuing travails of the Freeport-McMoran project in Indonesia were seemingly the ghost comparison for planning construction of a subsequent large-scale British Petroleum LNG project in Indonesia, so that we can examine what private sector remediation (or avoidance in the first place) of environmental and social risks might otherwise eventuate in traditional ATCA litigation. It is fair to say that those natural resource companies seeking guidance could achieve similar outcomes to voluntary industry code safe harbors simply by reverse-engineering perceived failures to learn from the mistakes of other projects, and adjusting their project plans accordingly.

The three private sector responses above require business lawyers in practice to dance around the border between legal and compliance issues, typically in a planning and counselling capacity. From the client’s viewpoint, winning in any prospective litigation only to lose its operating license or go bankrupt due to business or political complications would constitute a truly pyrrhic victory. For multinational business enterprises, legal obligations as such are only one concern, and they typically are not even uniform between jurisdictions. (As example, Civil Law jurisdictions may be much more open than Common Law jurisdictions– particularly the US– in a legal, technical sense to second and third generation human rights approaches.)

Meanwhile, Trump Administration complications for the private sector involved governmental push-back in favor of fossil fuel industries (coal, oil and gas) in the form of attempted US Department of Labor rejection of ESG investing (following an announced focus on “climate risk” by major investment advisers like Blackrock, not themselves charitable institutions– but institutional investors are beginning to reckon with stranded investment and reserve costs as a drag on stock prices in the traditional energy sector) and seeking to ensure the eligibility of smaller (fracking) oil and gas firms under federal bail-out pandemic legislation. Oddly enough, government push-back seemingly favoring fossil fuels emerged as energy prices fell generally in the early stages of the COVID-19 pandemic (as the recession and lock-downs reduced travel and so fossil fuel demand, alongside general oversupply issues in the oil markets leading to lower fossil fuel prices). But the longer-term trend disfavouring fossil fuels is primarily attributable to the increasing competitiveness of renewable energy sources, so markets are reflecting behavior and the energy markets (hence carbon generation) even in the absence of “law.”

Now, under the Biden Administration, the most visible “decarbonization” push involves electric vehicles (EVs) which initiative the private sector is now backing up with very considerable research and business investment expenditures. What is visible from the outside institutional perspective increasingly since the early 2000s has been an attempt to encourage (voluntary) international standards via the private sector, which standards are currently migrating chiefly into areas like capital markets law domestic regulation via disclosure obligation, as opposed to a traditional focus on substantive mandates like Corporate Average Fuel Economy (CAFÉ) standards. CAFÉ standards are seemingly being replaced by concepts like limiting general temperature increases to 1.5 or 2.0 versus 2.5 degrees centigrade, but those substantive targets hardly contemplate regulating Mother Nature as such. Meanwhile, if corporate lawyers traditionally worked with Financial Standards Accounting Board (FASB) standards, are increasingly in practical capital markets terms required to contemplate Sustainability Accounting Board (SASB) standards.

Essentially, we started looking at this whole area in the international environmental law sphere in a quasi-political process like UN declarations increasingly over time incorporating what amount arguably to second and third generation human rights claims in the environmental area. Then we turned separately to domestic (US) courts where (international) human rights law and claimed international environmental law were pleaded as a source of law in ATCA lawsuits, typically without much success beyond traditional allegations of gross human rights violations as core first generation rights violations (allegations typically involving extrajudicial executions and torture). At that point US lawyers faced the issue of whether and how to recast any basic environmental claims as more traditional gross human rights violations, even while foreign litigation commenced.

But since only lawyers like litigation, the private sector response was more to seek agreement on standards and industry safe harbors as a way to avoid both litigation and injurious reputational/business effects in the longer term. So from a client perspective, it becomes more a compliance exercise, but one with serious consequences and costs in failing to adhere to proper standards, whether or not required by law in a particular jurisdiction. In a practical sense, this may represent for lawyers the differing perspectives of the outside counsel-advocate hired to try a client law suit in a particular jurisdiction when the die is already cast (and the lawsuit(s) have already been filed), versus business and in-house lawyers and compliance personnel, whose preferred approach in the first place is to keep the client out of trouble across multiple jurisdictions and avoid unnecessary lawsuits as business distractions. So how much of this constitutes managing legal risk versus “international environmental law” in your opinion, if it results indirectly from the history of ATCA litigation?

Copyright 2020–21 © David Linnan.