What this case was…and wasn’t
This week, a state court ruled that ExxonMobil did not mislead investors in its public disclosures about how it considers the impacts of climate change policies on product demand and in its project-level business planning. This New York state court decision does not have any direct impact on other types of cases involving oil and gas companies and climate change (e.g., the nuisance cases brought by states and cities, etc.), but the standard the court applied here is the same used in federal securities fraud cases.
This was a straightforward securities law case. The case focused on ExxonMobil’s disclosures about how it incorporated possible future policy measures to lower greenhouse gas (GHG) emissions into its models for estimating future demand and supply. The court had to determine if these disclosures misled investors on how the company made decisions about project planning today. The key questions were whether the information released was misleading and, if so, whether it was materially misleading.
The same standard used in federal securities law cases applied in this case. The Supreme Court defined materiality in the 1976 TSC Industries v. Northway case. The New York judge relied on that definition in this case, finding that the New York Attorney General “failed to prove by a preponderance of the evidence that ExxonMobil made any material misrepresentations that ‘would have been viewed by a reasonable investor as having significantly altered the ‘total mix’ of information made available.’” (Opinion at 3, quoting TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438 (1976)).
While the New York opinion is certainly not precedential in federal courts or another state’s court, the judge’s opinion is relevant to other cases considering similar questions. Little existing case law directly addresses climate-related information, so this case will serve as a reference for other cases involving corporate assessments of climate change risks. That said, securities fraud cases are very fact specific, making it difficult to discern generally applicable lessons from a single case.
Of particular importance to other securities cases, though, is how the judge discussed the way a reasonable investor would view cost assumptions that feed into modeling and projections for future costs and demand. The court stated that “[n]o reasonable investor during the period from 2013 to 2016 would make investment decisions based on speculative assumptions of costs that may be incurred 20+ or 30+ years in the future with respect to unidentified future projects.” (Opinion at 34) The judge also found that the disclosures in the documents themselves were not misleading, that no actual investors were misled, and that the information in question did not impact investors’ analysis of the company or its stock. If the facts had been different, it may not have supported such a definitive statement about how “reasonable investors” view future assumptions of costs.
The Connection to Scenario Analysis
The primary documents involved were voluntary reports, not financial disclosures filed with SEC (the AG did not claim that any of the SEC disclosures were misleading). They included a voluntary report in which ExxonMobil uses its internal modeling and scenario analysis to build views of a potential energy future based on the information available to it at the time. This Outlook for Energy considered policy pathways, economic development, demographic changes, and more to imagine what the world might look like in 2030 and 2040 and how that would impact energy demand and costs. Based on its scenario analysis efforts the company decided that all of the climate policies likely to be in place in 2040 would result in an “implied cost of CO2 emissions” reaching “about $80 per ton” in most OECD nations. (Opinion at 12, quoting the Outlook on Energy).
The court also looked at other communications the company had with investors about its efforts to consider the impact of climate change on future demand and potential for stranded assets. Investor inquiries led the company to publish two additional reports, Managing the Risks and Energy and Carbon, which were also reviewed by the court as well as ExxonMobil’s Carbon Disclosure Project responses and some presentations to investors.
New York’s case primarily focused on whether ExxonMobil’s public estimates of possible future costs of CO2 resulting from potential but not yet made policy decisions indicated that the company was using these same numbers in project-level cost projections for internal budgeting and planning purposes. The state’s case primarily hung on how these public communications differed from the company’s internal annual Corporate Plan DataGuide that project planners used when estimating operating expenses of proposed projects. This guide was used to prepare annual planning budgets at the business unit level and was a tool that provided default assumptions of costs to serve as a starting point for planners to consider. These default cost numbers were supposed to be adjusted based on more detailed information the project planners had about costs specific to their project’s locality within the relevant timeframes. They also did not necessarily represent all the potential future costs of the full suite of climate-related policies available. The DataGuide information was not public nor intended for investors.
The state’s argument indicates a thin understanding of scenario analysis and climate economy modeling. The price assigned for the purpose of the Outlook document served as a stand-in for the possible costs of a suite of potential future policies to feed into modeling used to consider possible changes in product demand and supply and technology uptake. It did not represent a specific carbon price or project-level cost the company might expect to see directly applied to its operations and thus that should be incorporated into its budget planning process (which is what the DataGuide’s internal numbers were designed to help project). To understand this difference and why it matters, one has to develop an understanding of climate economy models, scenarios, and scenario analysis. For a short primer on these subjects, listen to our discussion with Erik Landry on our CleanLaw podcast and read MIT’s recent report.
The outcome of this case should show stakeholders the importance of developing an understanding of the purpose and objective of various tools industry uses to understand and plan for climate change risk. Investors and stakeholders want to see better disclosure of corporate efforts to consider the impacts of climate change, both physical and transitional (this case only dealt with information on transition risks) and are pressuring companies to disclose how they are incorporating climate scenario analysis into their long-term strategic planning. But they also need to better understand how these tools work, what they can do, and what they can’t.
Impact on Climate-Related Disclosures Dialogue
This is not the end of the discussion between companies and investors about climate-related disclosures. Investors will continue to engage with companies about the type of information they think will be most useful to them. This case does not preclude climate-related information from being material, whether disclosed through voluntary or mandatory disclosures.
The court’s reasoning in this case reveals how the landscape might shift as reasonable investors come to view more climate-related information as material to their decisionmaking. A securities fraud case ultimately turns on how investors treat the specific pieces of information at issue in the case. The views of “reasonable investors” are supposed to be baked into the definition of materiality. The more investors engage and incorporate climate-related information disclosed by companies into their decisionmaking processes, the more likely courts are to consider such information material in future cases.
This court’s declaration that “no reasonable investor” would make investment decisions in the near term based on costs projections 20+ years out may not be the case in a different context. Investors have shown interest in actively evaluating companies’ views of potential future demand and costs by calling for more disclosure about how companies make these evaluations. And while investors may not make decisions based on that type of future scenario projection alone, they might make a decision based on how well the company is prepared to adjust to the possibility of that future world and whether they think the company is making a good faith effort to grapple with plausible future scenarios. As investors start to incorporate these types of disclosures into new methods of analysis, that type of information could change the “total mix” of information available to them.
This case should give some solace to companies trying to assess future transition risks and also provide shareholders with an understanding of that assessment without running the risk of liability, while also encouraging companies to more fully explain their analysis. It primarily involved ExxonMobil’s disclosures about how it accounted for potential future policies to lower GHG emissions in its long-term demand modeling. A lack of understanding of this type of modeling and scenario analysis heightens the need for careful disclosure that explains what the analysis does and doesn’t represent, what assumptions were made in the process and why. Companies should always carefully consider whether the disclosures they make about their internal assessments of climate-related risks actually reflect what they are doing and that any distinctions between analysis of future risk and assessments incorporated into shorter-term project planning are clearly communicated.
State attorneys general and other advocates can support this ongoing dialogue to improve corporate disclosures about how they are addressing climate-related risks so that proper consideration is built into investment, economic, and corporate decisionmaking.
- CleanLaw: Hana Vizcarra Interviews Erik Landry about Corporate Climate Scenarios and Strategic Resilience, Dec. 9, 2019.
- CleanLaw: Hana Vizcarra Interviews Jesse Keenan on Climate Adaptation and Finance, Nov. 13, 2019.
- Influencing Energy Company Climate Disclosure Practices: Cautionary Words for State Attorneys General, July 18, 2019.
- Climate-Related Disclosure and Litigation Risk in the Oil & Gas Industry: Will State Attorneys General Investigations Impede the Drive for More Expansive Disclosures?, Vermont Law Review, Vol. 43, Book 4, June 2019.