Climate change lawsuit alleges violation of shareholder protection statute

President Donald Trump has described climate change as a "hoax." He plans to take the United States out of the 2015 Paris Agreement, which deals with greenhouse gas emissions, adaption, and finance. Federal agencies are following his lead by promoting domestic fossil fuel projects, while masking or ignoring their environmental effects. But some businesses are not following the administration's lead in ignoring the effects of climate change in planning projects.

The inevitable shift to a low-carbon future presents a financial risk to fossil fuel intensive business projects. Forward thinking businesses understand that planning for the future is essential. Without careful planning, projects that look financially sound today may wind up as low-value stranded projects as a result of future regulatory action on greenhouse gas emissions. Stricter climate change regulations may be just one election away.

On Oct. 22, State of New York v. Exxon Mobil, 452044/2018 (N.Y.Sup.Ct.) became the second climate change-related case to go to trial in the United States. But the case is not about whether climate change is real or caused by human activity. Those issues are conceded by Exxon. Rather, the lawsuit is about "proxy costs," which are costs included in economic projections as a proxy or stand-in for the likely effects of expected future events.

The question before the court is whether investors and consumers have been misled by Exxon's proxy cost representations in violation of New York's shareholder protection act and the state's common law dealing with fraud. On behalf of the people of New York, Attorney General Barbara Underwood asks for damages, disgorgement of all amounts obtained in violation of the law, and other equitable relief. The estimated cost to shareholders alleged by Exxon's misdeeds is estimated to between $476 million and $1.6 billion.

Underwood argues that Exxon has engaged in a fraudulent scheme to deceive investors and the investment community about the company's actual management of climate change risk. She argues that Exxon repeatedly and falsely assured investors that it had taken active and consistent steps to protect the value of Exxon stock and assets from the stranded-value risk of its projects. Since at least 2010, investors have been told by Exxon that its business decisions have fully considered the effects of future climate regulations, which was false. In effect, Exxon created an investment Potemkin village to hide the true risk from future climate change regulation.

Exxon does not dispute that it used two sets of calculations to evaluate climate change proxy costs. One set was presented and available to investors, and the other was for internal use. But Exxon maintains that investors were not misled. At its core, the problem for Exxon is that investors were being publicly told that their investments appeared less risky and more valuable than the internal calculations revealed, which is something easily understood by any investor.

Companies like Exxon have recognized the importance of carbon pricing in evaluating the financial viability of long-term projects and investments. They are keenly aware of the need to avoid investing in projects that may result in stranded asset values that affect their bottom line and stock value. But what they should not do is to tell the public that they have applied a consistent approach to "carbon asset risks" or "project costs" when they haven't.

Regardless of the outcome, the Exxon case is a ringing alarm bell on importance of accurate reporting of carbon emission pricing to long-term business planning and public disclosure. It equally important to investor confidence. The financial risk associated with fossil fuel intensive projects that may become stranded and lose their value in a time of stricter greenhouse emissions is upon us. 