UK shareholder actions over ‘greenwashing’ likely to grow

The Financial Services and Markets Act

Section 90 and 90A of the 2000 Financial Services and Markets Act (FSMA) provide statutory routes for shareholders of listed companies to seek compensation for loss suffered as a result of untrue, incomplete or misleading statements contained in prospectuses or listing particulars published in the context of an IPO or rights issue. In the case of s90A, this also applies to other "published information" produced by a company, such as annual reports and accounts.

For a s90 claim to succeed, a prospectus must contain an “untrue or misleading” statement – or an omission of information that investors or their advisors would reasonably expect to find in a prospectus to make an informed decision about the company. A claimant must have acquired securities to which the misleading statement or omission applies, but it appears that they do not need to have relied on the statement when deciding to invest. 

Investors do not need to prove dishonesty or recklessness on the part of the company for their s90 claim to be successful. It is a defence, however, for the company to show that it reasonably believed the statement to be true, or that the omission in the statement was justifiable.

For a s90A claim to succeed, the published information must contain a misleading statement or dishonest omission. The investor must also demonstrate that a person discharging managerial responsibilities at the company knew – or was reckless about – whether the statement was untrue, or that the omission amounted to dishonest concealment. The investor must have relied on the statement or omission in buying, selling or continuing to hold securities, and it must have been reasonable for them to do so.

Current trends in ESG litigation

ESG disputes in the UK have traditionally challenged public policy or planning consents, or have involved regulatory complaints and, more recently, directors’ duties’ claims. To date, actions under s90 and s90A of the FSMA have not been widely used in the UK and are not yet known to form the basis of any issued ESG claims.

As a result, many of the details of such claims – like the apparent lack of an explicit requirement in a s90 claim for the investor to have relied on the false statement or omission – are currently untested in the courts. Other key issues, including how damages are to be calculated, also remain unresolved, which poses a risk to companies because investor claimants may have greater scope to make novel arguments.

Following the pattern in the US, many s90 or s90A claims could manifest as class actions brought on behalf of a group of institutional investors. This unlocks potentially high value global claims that would otherwise be limited to lower value individual claims. The potential large exposures, reputational issues and costs that securities litigation can carry mean such claims present a significant risk for companies.

Expanding ESG requirements increase risk of claims

Meanwhile, ESG reporting obligations for firms continue to expand. Since 2017, for example, the 2006 Companies Act has required certain large companies to publish information in their annual strategic reports on their environmental impact, social matters, employee welfare and human rights. Large companies have been required to report on their UK energy use and carbon emissions since 2019.

Large UK listed companies and certain other large companies are also now under a mandatory requirement to divulge climate-related risks and opportunities in their annual financial reports. As published information contains more and more ESG-related content, the financial and reputational risks of potential s90 and s90A claims will only grow.

Such claims are most likely to be brought by investment firms committed to ethical investment, but in principle any shareholder can do so. Given the rise in popularity of mass actions, activists could encourage other parties with securities in the company to join any claim. This is particularly the case where inaccurate listing prospectuses are concerned, given that an investor making a claim under s90 is seemingly not required to show that they relied on the statement in question.

Challenges for claimants

While potential exposures under s90 and s90A are a concern for companies, claimants also face challenges. Under s90A, both the need to show recklessness or dishonesty on the part of directors, and the requirement of reliance can be real obstacles to many investors’ claims. Showing recklessness or dishonesty is a high bar to clear.

Based on recent legal precedent, it appears that, in general, claimants must also specifically demonstrate which misleading statement or omission they relied on – and provide evidence that they relied on them when dealing in the shares. This can be particularly difficult given investment decisions are usually made based on the content of a report as a whole, as opposed to one particular statement.

Claimants also face an uphill battle to prove that they have suffered financial loss as a result of any false ESG statement, since individual statements might not be directly relevant to a company’s profitability, and it is not possible to claim for purely non-financial matters like damage to reputation.

ESG conscious investors may try to claim back the share price paid, arguing that had they known the company’s true ESG credentials, they would not have bought the shares at all. They may also contend that they have suffered reputational damage as a result of having invested in a company which made false statements – but will need to show that this has caused financial loss, such as a demonstrable reduction in new investors. 

More mainstream commercial shareholders may say that had they known the true position on the ESG credentials, they would have bought the shares at a lower price that was reflective of the correct position – but will still need to be able to point to a drop in the company’s share price. Given the growing market focus on the importance of ESG issues, however, it is likely to be increasingly easy to demonstrate a fall in share prices as a result of ESG-related inaccuracies coming to light.

Practical steps to manage risk of greenwashing claims

While the risk of claims cannot be avoided in its entirety, good corporate governance is key to protecting against these actions. Legal teams, whether external or in-house, as well as other advisers like accountants and specialist consultants should be closely involved in the creation of public documents including prospectuses, annual reports and other investor communications.

Together they should ensure that detailed, well-documented steps are taken to verify the accuracy of all ESG statements. Directors should satisfy themselves of the adequacy of the statements, including by taking an active role in the due diligence and disclosure process. Combined, these efforts will provide important evidence that the company reasonably believed in the accuracy of its disclosures and should provide a robust defence to s90 claims and help defeat allegations of recklessness or dishonesty made in s90A claims. 

Directors and other staff should be provided with regular training on their responsibilities and duties in putting together and approving disclosures. Insurance should be kept under review to ensure companies and directors are protected.

Co-written by Jessica Meisel of Pinsent Masons.