Sustainability reporting
As sustainability concerns continue to become ever more important for both consumers of financial products and investors, the EU has sought to expand the quality and comparability of sustainability disclosures through the introduction of the Corporate Sustainability Reporting Directive (CSRD) on 5 January 2023.
The requirements of the CSRD are comprehensive and complex and will undoubtedly present challenges for insurers as they work to integrate the new reporting standards within their organisations. In particular, the CSRD introduces for the first time a requirement for organisations to report on sustainability in accordance with the so called 'Double Materiality' principle, which requires in-scope entities to report not only on the financial risks facing the organisation, but also, and importantly, the impact that the organisation’s activities have on the environment – each of which having to be considered in its own right.
In addition, the CSRD introduces a number of specific reporting metrics and standards, with the European Financial Reporting Advisory Group (EFRAG) having published 12 European Sustainability Reporting Standards (ESRS), more than 80 disclosure reports and over 100 KPIs to be measured against. While the current ESRS are not specific to any particular sector, the EFRAG is working to develop sector-specific reporting standards, with insurance-specific standards expected to be published in 2024-2025.
While the introduction of the CSRD will improve transparency and the quality of sustainability information available to the users of, and investors in, financial services including insurance, it also adds to the rapidly evolving regulatory landscape on sustainability reporting in which insurers operate, and in particular presents a number of challenges for insurers on the path to increased sustainability reporting, including:
- data availability and quality;
- interaction with other regulatory initiatives when operating across jurisdictions, including, FCA’s Sustainability Disclosure Requirements (SDR), the Task Force on Climate-Related Financial Disclosures (TCFD), the Sustainable Finance Disclosures Regulation (SFDR), and SEC requirements in the US;
- long-term implementation, with insurance sector-specific requirements pending;
- interpretations and regulatory uncertainties; and
- implementation effort.
ESG litigation
Increased regulation and climate activism across the world has resulted in a growing volume of ESG-related litigation which is impacting on the insurance sector. Claimants are developing new and creative approaches to bringing ESG-related claims, and more strategic claims are being brought against both state and private entities with the aim of changing corporate behaviours. More regulation means an increased risk of falling short, which can also translate into claims from a range of parties.
Not all of the novel ESG-claim formulations have been successful, as we discuss below, but the insurance sector can anticipate that different approaches to ESG claims will continue to be developed and adapted, underpinned by engagement from the litigation funding industry.
As corporates face an increasingly volatile ESG risk landscape t,his in turn impacts the insurance sector, both as a risk and potentially also as an opportunity.
In the UK and Europe, particular types of ESG litigation are becoming more common. Claims include those relating to: the failure to prevent/mitigate climate change; greenwashing; insufficient/improper climate disclosures; and activist litigation.
Activist ESG claims formulated as derivative claims against company directors have also been a recent focus; something that is particularly relevant to the D&O (directors and officers insurance) market. Parties in different actions, including environmental NGOs and private individuals, have attempted to bring claims against directors for their action or perceived inaction over climate change. However, recent English court decisions indicate that this style of 'synthetic' derivative-style claims may face challenges.
Considering ESG’s ‘S’ element – in the UK and Europe there is also a heightened focus on corporate social responsibilities and governance. Lack of transparency and specificity around diversity, equity and inclusion standards and breaches of directors’ fiduciary duties to manage companies responsibly are also bases for potential ESG-related liability. Claims focussing on ESG-related supply chain issues are also a developing trend.
Insurers can also expect to continue to see an uptick in environmental and mass tort group litigation in the English courts and elsewhere in Europe, with more active claimant law firms, increased availability of litigation funding, and attractive procedures for resolution of group litigation.
This rapidly evolving ESG risk landscape presents challenges for insurers assessing how such risks align with specific business lines. Key questions for insurers evaluating this new ESG risk landscape are:
- to what extent are these risks already covered under existing policies;
- how are insurer risk appetites changing; and
- to what extent might new exclusions (or indeed new products or affirmative cover) be appropriate?
In attempting to address these questions, we will likely see refinements to policy language, as well as changes to policy limits and repricing. It may be that we see the market introducing new exclusions to carve out the risks altogether; conversely, however, we may see the inclusion of various affirmative covers for certain risks.
What is certain is that we can continue to expect a rapid pace of change in the ESG-risk landscape in the coming year.
Anti-ESG sentiment in the U.S.
While U.S. banks and financial institutions have previously faced an increasing threat of anti-ESG sentiment from state actors in the U.S. such as State Governors and Attorneys General, this trend is now extending beyond banks and asset managers with insurance and reinsurance companies (including European insurance and reinsurance companies) now facing a growing tension with state government and regulators as political stances on the adoption of ESG-related factors in business diverge across the U.S.
Recently, the Attorneys General of 23 States – Alabama, Alaska, Arkansas, Georgia, Idaho, Indiana, Iowa, Kansas, Kentucky, Louisiana, Mississippi, Missouri, Montana, New Hampshire, Ohio, Oklahoma, South Carolina, South Dakota, Texas, Utah, Virginia, West Virginia and Wyoming - wrote a joint letter to members of the Net-Zero Insurance Alliance (NZIA), a UN-backed group of insurance and reinsurance companies committed to transitioning their insurance/reinsurance underwriting portfolios to net-zero greenhouse gas emissions by 2050 in order to contribute to the implementation of the Paris Agreement on Climate Change.
In their letter, the Attorneys Generals made clear that they believe association with groups such as NZIA, and the group’s targets and requirements, appeared to violate both federal and state anti-trust laws. The Attorneys General also sought production of various documents and propounded questions that would allow the Attorneys General to establish a legal case against members of the NZIA.
Although the letter was only addressed to NZIA members, it referred to the fact that some NZIA members are also members of the Net-Zero Asset Owners Alliance (NZAOA), a similarly UN-convened group of institutional investors committed to transitioning their investment portfolios to net-zero, and the request for information and documents referred to membership of both alliances.
In the wake of the Attorneys General’s letter, nearly half of the members of NZIA have left the alliance. While many departing members did not provide a stated reason for leaving the alliance, a number of departing members did cite the anti-trust risk and risk of exposing shareholders to legal risk as the reason for leaving the Alliance.
Contrast this with the position taken by other States such as California, New York and Illinois which have prioritized ESG issues. Recently, the Governor of Illinois approved House Bill 2782 which requires asset managers, including pension funds, to disclose how they integrate factors including greenhouse case emissions into their investment decisions.
This ever-growing schism between States as to how financial institutions, including insurance and reinsurance companies, integrate environmental, social and governance factors in their business decisions, generally driven by whether the state legislature is controlled by the Democrats or Republicans, has significant implications for how European-based insurers operate in the U.S., and will make it increasingly difficult to navigate the regulatory landscape that applies across States.
Authored by Christoph Kueppers, Karl Racine, Lydia Savill, Alexander Tansey and Aidan Ward.
