ESG as the Driving Factor in Multi-Country Class Action Cases

Jeff Lubitz is Executive Director of ISS Securities Class Action Services; and Duncan Paterson is Head of ESG Thought Leadership Program at ISS ESG, Institutional Shareholder Services, Inc. This post is based on their ISS memorandum. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance by Lucian A. Bebchuk and Roberto Tallarita (discussed on the Forum here); Companies Should Maximize Shareholder Welfare Not Market Value by Oliver Hart and Luigi Zingales (discussed on the Forum here); and Reconciling Fiduciary Duty and Social Conscience: The Law and Economics of ESG Investing by a Trustee by Max M. Schanzenbach and Robert H. Sitkoff (discussed on the Forum here).

Key Takeaways

  • Climate change and other ESG factors are driving a heightened focus on stewardship practices among responsible investors.
  • Investors, both passive and active, should be mindful of litigation risks and recovery opportunities in their portfolio.
  • Originally driven by climate issues, ESG-related litigation is expanding into other ESG areas and across a range of asset classes.
  • ESG event-driven security class actions are increasing in number, and capturing a broad range of global brands on a number of different topics.
  • Global corporations tend to handle class actions differently in different jurisdictions, with many being settled in the US but drawn out in other markets.
  • This practice has implications for global investors interested in expanding their stewardship and fiduciary practices to include active management of securities class action risk.

Introduction

Investors are paying increasing attention to their stewardship practices and fiduciary responsibilities in relation to securities class actions. With a settlement pipeline standing at approximately $8 billion, there is a case to be made that filing claims to recover losses incurred from fraud in securities class action cases is both a fiduciary duty and a sound business practice.

The last few years have seen a marked increase in the use of legal avenues by investors and other stakeholders to pursue their interests in this area. The primary driver has been concerns about the immediacy of climate change risks—the United Nation Environment Programme’s Global Climate Litigation Report: 2020 Status Review notes a rapid increase in climate litigation around the world, almost doubling from 884 cases in 2017 to at least 1,550 cases as of 1 July 2020.

It isn’t just corporations that are the subject of these actions. ISS ESG has identified an increase in the number of sovereign nations being sued for alleged inaction on climate change, a concern for investors in the fixed income asset space. Investors themselves are not immune from climate-related legal challenges, with the recent successful action against an Australian superannuation fund acting as a wake-up call to the sector more broadly.

And while climate change has been a driver for ESG-related litigation other sustainability topics are also of interest to company stakeholders. In a 2020 paper reported in the Harvard Law School Forum on Corporate Governance, the authors identify an increasing risk that legal liabilities will arise around general corporate ESG disclosures.

One form that these cases take is that of securities class actions. In a ground-breaking report from December 2020, the ISS Securities Class Action Services (SCAS) team identified a growing trend for actions to be event-driven, and based on ESG-related incidents. The follow table sets out some of the major global brands that have been the subject of ESG event-driven securities class actions:

The results of these actions are not being evenly distributed amongst global investors, however. This paper identifies a strong tendency for ESG event-driven actions to be settled in the United States, but drawn out in other markets. This disparity in outcomes may well become an issue of increasing interest to global investors who are looking to manage litigation exposure and recoveries as part of their broader stewardship activities.

Securities Class Actions

In June 2010, the US Supreme Court released its landmark decision in Morrison v. National Australia Bank, which declared US securities law applies exclusively to securities transactions that take place in the United States, either on an exchange or otherwise.

The clear expectation of the 8-0 decision (Justice Sonia Sotomayor recused herself due to involvement in the case during the Second Circuit) was that the number of US securities class action lawsuits filed against non-US companies would decline. The opposite has occurred however, although to be clear, much of the increase in US shareholder actions against non-US companies is now targeting ADR’s—foreign companies trading on the New York Stock Exchange or Nasdaq.

Since the Morrison decision in the US over a decade ago, an increase in class and group actions outside of North America has occurred. Interestingly, more and more publicly traded companies are facing shareholder litigation on two fronts: both in the US, where the company trades as an ADR, as well as in their home country. A noteworthy trend uncovered by ISS Securities Class Action Services is that these companies tend to settle their shareholder action in the US, whilst holding out against and prolonging any settlement discussions in their home country. A partial listing of these types of instances include:

Company U.S. Settlement Active Litigation
Petrobras $3 Billion Brazil
BHP Billiton $50 Million Australia
Volkswagen $48 Million Germany
BRF $40 Million Brazil
Vale $25 Million Brazil
Daimler $19 Million Germany
JBS $5.5 Million Brazil
Westpac $3.1 Million Australia
Kobe Steel $500K Japan

A Disparity in Outcomes

ESG-related shareholder class actions are focused on allegations of environmental, social and/or governance wrongdoings. Here is a closer look at several of the significant cases noted in the above table:

  • PetrobrasIn March 2014, the Federal Police of Brazil commenced a money laundering investigation that was ultimately tied to a key executive at Petrobras, Brazil’s largest and most renowned oil and gas company. Brazilian prosecutors soon exposed a complicated web of corruption where numerous Petrobras directors were intentionally overpaying on contracts in order to receive kickbacks into secret slush funds. This enriched those Petrobras directors, hundreds of co-conspirators, plus a number of politicians, all of whom were beneficiaries of payoffs. In total, it was believed that shareholders and taxpayers were defrauded out of billions of dollars. In July 2018, after 3.5 years of litigation in a New York Federal court, Petrobras agreed to a $3 billion settlement with damaged shareholders who had previously acquired its NYSE American Depository Receipts (ADRs). This turned out to be the largest US shareholder settlement against a foreign issuer, and the fifth largest settlement of all time. Investor-related litigation in Brazil remains active.
  • BHP BillitonThe Melbourne, Australia-based metals and mining company held a 50% stake in Samarco Mineracao, a Brazilian mining company, which owned and operated the Fundao tailings dam. On November 5, 2015 the dam burst, causing nearby towns and rivers to be flooded with 60 million cubic meters of mud and mine waste. Investors alleged BHP failed to adhere to safety standards that were emphasized in statements and regulatory filings. Further accusations included claims the company recklessly disregarded the precarious condition of mining operations, which led to an environmental disaster for local residents. On August 8, 2018, the company announced a $50 million settlement with investors in the United States; two shareholder-related actions remain active in Australia.
  • VolkswagenThe German auto manufacturer is notorious for its “Dieselgate” or “Emissionsgate” scandal that came to light in September 2015. The company was alleged to have utilized a “defeat device” in certain of its diesel cars that allowed them to temporarily reduce emissions during testing. These events—misleading regulators, customers, and shareholders—are some of the most egregious ESG-related concerns against a publicly traded company. After four years of litigation in a California Federal court, Volkswagen and investors finalized the US-based class action for a $48 million settlement on May 10, 2019; eight shareholder-related actions remain active in Germany.
  • ValeThe Brazil-based metals and mining company held the other 50% stake in Samarco  Mineracao. They were accused of failing to disclose the Fundao tailings dam accident in the Brazilian state of Minas Gerais which resulted in the spillage of toxic waste onto unsuspecting villages. Additionally, investors alleged the company’s procedures to mitigate environmental, health, and safety incidents were inadequate. Less than a month later, a Brazilian court found Vale responsible for the damage as both a “direct” and “indirect” polluter… and mandated a wide-ranging recovery plan with an estimated $5 billion cost to remediate the social and environmental harm from the collapse. On June 10, 2020, the company reached a $25 million settlement with investors in the United States; two shareholder-related actions remain active in Brazil.
  • DaimlerIn April 2016, investors filed their initial complaint in a California Federal court against the German-based auto manufacturer alleging its BlueTec emissions control systems were not “the cleanest diesel cars in the world” as the company claimed. Following a US Department of Justice investigation, Daimler recalled 247,000 vehicles to address emissions-related issues. In December 2020, US investors and Daimler agreed to a $19 million settlement; five shareholder-related actions remain active in Germany.
  • JBSThe Brazil-based packaged foods company was alleged to have bribed regulators and politicians to subvert food inspections of its plants and overlook unsanitary practices, such as processing rotten meat and running plants with traces of salmonella. On July 22, 2019, the company reached a $5.5 million settlement with investors in the United States; one shareholder-related action remains active in Brazil.
  • WestpacInvestors in the Australian banking and financial services company alleged it failed to appropriately monitor and assess ongoing money laundering and terrorism financing risks associated with movement of money into and out of Australia. In one of the quickest shareholder related cases, Westpac agreed to settle the US-based class action in May 2020, less than 16 months from the initially filed complaint on January 30, 2021. Investors agreed to a modest $3.1 million settlement in an Oregon Federal court; two shareholder-related actions remain active in Australia.

A common theme related to all the above class actions is clear—when companies fail to have their motion to dismiss approved by courts in the US, it becomes necessary to consider a settlement with investors to avoid possible punitive damages by a jury and extensive legal costs. In the US, public companies settle 100+ shareholder-related class actions each year based upon various allegations of wrongdoing.

Outside of the US, however, each country has its own laws and processes related to class and group actions. As such, investors have to navigate different paths to a settlement. There is a lack of case law in many countries, which does not allow for plaintiffs to follow an existing roadmap. There are also concerns that consumer sentiment within many countries may perceive investors pursuing litigation as simply being greedy. Companies, clearly aware of all of the above, often push back on any settlement discussions as there is simply not a culture in place to settle.

Therefore, the trend continues of non-US companies settling in the US but finding ways to continue the litigation and reduce or dismiss claims in their home countries. The above examples clearly illustrate this.

Conclusion

ESG-related shareholder class actions are not exclusive to non-US companies. Investors continue to hold publicly-traded companies accountable—and may utilize class action-related litigation as a method to ensure companies, and their management, do not violate federal or other jurisdictional securities laws and maintain the highest ethical standards, as well as to make financial recoveries in line with their fiduciary responsibilities. As such, ESG-minded investors may consider taking an active approach to securities class action as a tool in the stewardship toolkit.

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