Risk Management

The Risks of Not Being Green

Shareholders are turning up the heat with their demands for companies to address global warming, two new studies show.
Sarah JohnsonDecember 6, 2007

Pressure from institutional investors and state governments has compelled corporations in recent years to beef up their efforts to curb carbon emissions and fulfill disclosure requirements to share their environmental risks in their financial reports.

Now, the heat is rising even faster. As demands for more climate disclosure and threats of litigation have increased, so have state and local governments raised the idea of making companies compensate for activities that may contribute to global warming. For instance, they have raised the concept of hitting companies that go over a certain emission standard with a so-called carbon tax, most recently proposed by San Francisco Mayor Gavin Newsom, according to the Associated Press.

They have also joined investors and environmental groups in pressuring the Securities and Exchange Commission to remind and clarify existing disclosure and accounting rules that require companies to report any material effect that climate change could have on them. At the same time, shareholders have issued more proposals in recent years asking companies to enhance their climate disclosures.

Executives have begun to take these concerns more seriously. In a recent survey of 2,687 executives, McKinsey Quarterly found that nearly nine out of 10 worry about global warming, and they’ve rated the environment as the top societal issue that could affect shareholder value. Two years ago, the environment rated number three among executives’ most important sociopolitical issues, below job losses from overseas outsourcing and retirement benefits.

However, information shared with investors may not necessarily reflect the executives’ concerns, raising their risk of liability. As people have increasingly bought into the idea of global warming and the belief that its advancement can be blamed on the activities of both humans and their employers, so has the fear that lawsuits from shareholders won’t be far behind.

Shareholders could sue companies that are missing material risk disclosures in their financial statements or go after directors and managers who have not fulfilled their fiduciary responsibility by not addressing climate-change risks. While the jury is still out on whether such litigation would be successful, the price of directors’ and officers’ liability insurance could go up in the meantime, theorizes the Corporate Library in a new report.

With the help of environmental researcher Trucost, the corporate governance watchdog has examined what 24 so-called carbon-intensive businesses, including electric utilities, have been doing to deal with climate-related disclosures and governance.

Some of these companies most at risk for climate-related litigation have provided little or no information about their material effects of climate change or related uncertainties. “Given their absolute and relative carbon-intensity, companies with low disclosure scores may face an increased risk of litigation based on the failure to adequately disclose material risks to shareholders,” wrote senior research associate Beth Young.

In her report, Young ranked the companies on a 21-point scale after rating them for the completeness of their climate disclosures and whether they had any governance measures to address climate change, such as by having an environmental expert sitting on their board. The most highly rated company, with 18 points, was American Electric Power, followed by Kimberly-Clark Corp., Southern Co., and 3M Co. The Corporate Library praised 3M, for example, because it clearly states its position on climate change and intends to participate in global discussions to address global warming.

On the other hand, Allegheny Energy scored high on the list overall but received the lowest score for governance. The report also pings Allegheny for not explaining how it came up with its past and current carbon emissions in a chart seen on its website.

At the bottom of the Corporate Library’s ratings lie Burlington Northern Santa Fe Corp., Seacor Holdings Inc., and Tidewater Inc. “Low scores in both [disclosure and governance] may suggest a board that has been slow … to give the appropriate amount of attention to climate-related issues,” Young wrote. “An unconsidered refusal to act could give rise to claims for breach of fiduciary duty.”