Tighten the ESG focus or face litigation

By Merlita Kennedy & Tobia Serongoane from Webber Wentzel

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Tighten the ESG focus or face litigation

By Merlita Kennedy & Tobia Serongoane from Webber Wentzel

Litigation on Environmental, Social and Governance matters is rising in volume, both globally and domestically, but there are various steps that companies can take to mitigate the risks

Investor and social pressure on mining and energy companies to report on Environmental, Social and Governance (ESG) and consider renewable energy is immense. Recently, the South African state-owned power utility, Eskom, was named by the Centre for Research on Energy and Clean Air (CREA), as the world’s biggest emitter of the pollutant sulphur dioxide (SO2). Eskom on its own now emits more sulphur dioxide than China, the US, and the European Union’s power sectors combined.

According to the study by air pollution expert Mike Holland, these emissions contribute to high levels of ambient air pollution and to 2 200 air pollution-related deaths in South Africa every year. Most of these deaths are due to SO₂ emissions, which form deadly PM2.5 particles once released into the air.

The study poses a legal threat to the power utility, as climate change litigation is gaining momentum in South Africa, particularly in relation to air pollution.

Environmental, Social and Governance

ESG has risen to the top of the board agenda. Companies are increasingly aware that a failure to address these matters can be detrimental to the company’s business purpose, reputation, corporate values, approach to risk management, and relationships with host communities, investors, suppliers, customers, employees, and other stakeholders. As ESG continues to grow in importance, the number of ESG litigation matters will become self-perpetuating.

Companies and state-owned power utilities globally are employing ESG policies and procedures in the energy sector. Eskom, however, has lagged in this regard.

Litigation Risks

The consequences of falling behind can be severe and far‑reaching, for example by falling foul of climate‑change litigation (i.e. class actions). There is an increasing focus on whether a company is conducting its operations in a sustainable way, and without violating any human rights. In some cases, internationally and locally, both the state and a company were taken to task for not acting appropriately to improve air quality and thus the health and well-being of citizens.

Sharma and others v. Minister for the Environment – Australia

On 8 September 2020, eight young people filed a putative class action in Australia’s Federal Court to block a coal project. The lawsuit sought an injunction to stop the Australian Government from approving an extension of the Whitehaven Vickery coal mine. The court found that a novel duty of care is owed by the Minister for the Environment to Australian children who might suffer potential “catastrophic harm” from the climate change implications of approving the extension to the Vickery coal mine in New South Wales. Ultimately, the court ordered the Minister to pay costs.

Milieudefensie et al. v. Royal Dutch Shell plc – Netherlands

The environmental group Milieudefensie/Friends of the Earth Netherlands and co-plaintiffs filed a case against Royal Dutch Shell plc. (RDS) requesting the court to rule that the Shell group’s annual CO2 emissions and RDS’s failure to reduce them constituted unlawful acts toward the claimants; and order RDS to reduce, by end-2030, the Shell group’s CO2 emissions by 45% net, relative to 2019 levels.

In this ground-breaking decision, RDS was compelled to reduce its global group carbon emissions by 45% net (compared with its 2019 emissions) by 2030, with immediate effect.

In South Africa

In June 2019, the VEJMA and groundWork, represented by the Centre for Environmental Rights, launched landmark litigation against the state, asking the court to declare that the poor ambient air quality in the Highveld was a violation of Section 24 of the Constitution. On 17 May 2021, the Pretoria High Court for the first-time heard arguments in what has become known as the “Deadly Air” case: a case about the toxic air pollution on the Mpumalanga Highveld.

Mitigating the risks of ESG litigation

To manage and mitigate some of the risks of ESG litigation – the key is to be proactive and to:

  • involve legal counsel at an early stage to ensure ESG compliance with reporting and disclosure requirements;
  • conduct due diligence and environmental legal compliance with the suite of environmental laws;
  • point out possible exposure to liability under a changing environmental regulatory landscape;
  • audit the suite of contracts individually and ensure that they contain indemnification and other contractual terms to protect against the impact of environmental liabilities;
  • in the event of a breach, involve legal counsel to assist with crisis management;
  • undertake a feasibility study to see whether corporate structures and operations have the necessary resources and expertise to handle any ESG matters that may arise.
  • engage effectively with stakeholders, including regulators, investors, employees, consumers and communities; and
  • move beyond treating ESG as a tick-the-box exercise to ensuring robust governance and accountability at board level and integrating material ESG factors into strategic decision-making.

Also, any company should seek specialist legal advice before responding to any ESG litigation issues that they may face.

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High Court Ruling on Mining Charter 2018: “Once Empowered, Always Empowered”

Once empowered [is] always empowered [after all] – this is the effect of the judgment handed down by the High Court, Pretoria on 21 September 2021 in the matter between Minerals Council of South Africa vs Minister of Mineral Resources and Energy and thirteen others [Case No.20341/19] (the “Judgment“) in relation to the challenge to the Broad-Based Socio-Economic Empowerment Charter for the Mining and Minerals Industry, 2018 (“Mining Charter III“).

The Minerals Council of South Africa instituted its application to review and set aside certain provisions of the Mining Charter III (the “Review Application“) in terms of section 6(2) of the Promotion of Administrative Justice Act, 2000, alternatively in terms of the principle of legality as set out in the Constitution on the basis that:

  • the Minister of Mineral Resources and Energy (“Minister“) lacks the power to publish Mining Charter III in a manner that suggests that it is a legislative instrument, and doing so amounted to the Minister assuming the functions of the legislature;
  • the clauses are unauthorised by section 100(2) of the Minerals and Petroleum Resources Development Act, 2002 (“MPRDA“) and therefore the decision to publish them as part of Mining Charter III was materially influenced by an error of law.

A copy of our bulletin on the salient features of the Minerals Council’s challenge is available here.

The High Court Judgment

The full bench of the High Court (Gauteng Division, Pretoria) characterized the question in dispute that had to determined as concerning the ambit of the powers of the Minister under section 100(2) of the MPRDA to make law in the form of subordinate legislation, and the legal nature and role of the Mining Charter III in the context of the MPRDA. Therefore, at issue, was whether the Mining Charter III constitutes law or policy.

The Minerals Council contended that the Mining Charter III is a formal policy document developed by the Minister in terms of section 100(2) of the MPRDA. To this effect, it argued that the Mining Charter III is binding on the Minister whenever he considers an application for a mining right by virtue of the provisions of section 23(1)(h) of the MPRDA. This provision only permits the Minister to grant a mining right if, amongst other things, the grant of such right would be in accordance with the charter contemplated in section 100(2) of the MPRDA.

To the contrary, the Minister argued that section 100(2) of the MPRDA empowers him to make law through the development of the Mining Charter III, hence that the charter (which he developed) constitutes a sui generis form of subordinate legislation which is directly binding on holders of mining rights.

Kathree-Setiloane J (with Van der Schyff J and Ceylon AJ concurring), held that having considered the language of section 100(2) of the MPRDA in light of its ordinary meaning, the context in which it appears and the apparent purpose for which it is directed, section 100(2) of the MPRDA does not empower the Minister to make law.  In other words, the Mining Charter III is not binding subordinate legislation but an instrument of policy.

Therefore, in its decision, the High Court held that the Mining Charter III is a policy document and not law; and that such finding is dipositive of the main grounds of review that the challenged clauses of the Mining Charter III are unconstitutional because the Minister lacked the power to publish a charter in the form of a legislative instrument binding upon all holders of mining rights, the breach of which will be visited by the consequences and penalties provided for in the MPRDA.

Accordingly, the clauses of the Mining Charter III as challenged by the Minerals Council in the Review Application are reviewed and set aside.

Implication of the Judgment

The Judgment set aside a number of clauses in the Mining Charter, including amongst others:

  • clauses 2.1.1.2, 2.1.1.4, 2.1.1.5 and 2.1.1.6, which provided that the recognition of continuing consequences will not be applicable upon the renewal and/or transfer of a mining right and that a renewal of an existing mining right will be subject to the requirements imposed under Mining Charter III at the time when the renewal application is submitted (i.e. 30% BEE shareholding);
  • clause 2.1.3.2, which required that the minimum 30% BEE shareholding for new mining rights must comprise of a minimum of 5% non-transferable carriedinterest to each of Qualifying Employees and Host Communities, and a 20% effective ownership to BEE entrepreneurs (5% of which must preferably be owned by women);
  • clause 2.1.5.2, which provided that the prescribed minimum 30% target shall apply for the duration of a mining right;
  • clause 2.1.7.1, which permitted a mining right holder to claim the beneficiation equity equivalent against a maximum of 5 percentage points of a BEE Entrepreneur shareholding only;
  • clauses 2.2, which dealt with the provisions of Mining Charter III in relation to inclusive procurement, supplier and enterprise development targets;
  • clause 7.2, which provided that for mining right holders, the ownership and mine community development elements are ring-fenced, requiring 100% compliance at all times;
  • clause 9.1, which dealt with the penalty and enforcement provisions of the Mining Charter III in case of non-compliance.

Therefore, mining right holders who, at any stage during the existence of their mining right achieved a minimum of 26% BEE shareholding, and whose BEE partners exited prior to the commencement of Mining Charter III, will be recognized as compliant with the BEE requirements of the Mining Charter for the duration of the mining right; and such recognition does not lapse on the renewal or on the transfer of the mining right (the so called “once empowered always empowered” principle).  In other words, existing mining right holders’ historical BEE transactions will be recognised for the purposes of the renewal and transfer of existing mining rights and the applicant for renewal or the transferee, as the case may be, will not be required to comply with the BEE ownership requirements applicable to new mining rights.

Although applicants for new mining rights are still required to have a minimum of 30% BEE shareholding, such 30% BEE shareholding does not need to comprise of the 5% (minimum) non-transferable carried interest to each of Qualifying Employees and Host Communities, and a 20% effective ownership to BEE entrepreneurs (5% of which must preferably be owned by women).  Mining right holders are free to structure their BEE shareholding as they deem fit.

Moreover, non-compliance with the ownership and mine community development elements of Mining Charter III will no longer render a mining company in breach of the MPRDA, and subject to the provisions of section 93, read with section 47, 98 and 99 of the MPRDA. Accordingly, non-compliance with the Mining Charter III will not render a mining right subject to suspension and/or cancellation in terms of the MPRDA.

Conclusion

It must be noted that not all of the provisions of the Mining Charter III were reviewed and set aside. These clauses include amongst, that new mining rights must have a minimum of 30% BEE shareholding, the clauses which concern employment equity, human resource development, mine community development, and housing and living conditions. Given that the Court held that the Mining Charter III is a policy document rather than a legally binding instrument, mining right holders may, but are not legally obliged to, comply with the remaining requirements imposed under the Mining Charter III.  

It must be noted further that section 23(6) of the MPRDA provides that a mining right is subject to the terms ‘prescribed’ by the Minister. Section 23(6) of the MPRDA requires the holder of a mining right to comply not only with the terms and conditions of its right, but also the ‘prescribed terms and conditions’. The term ‘prescribed’ is defined in section 1 of the MPRDA to mean prescribed by regulation. In terms of section 107 of the MPRDA, the Minister may make regulations regarding “any other matter the regulation of which may be necessary or expedient in order to achieve the objects of this Act”. In light of the above, the Court indicated that the Minister is entitled to prescribe any regulations in order to achieve the objects set out in sections 2(c), (d), (e), (f) or (i) of the MPRDA.

Moreover, it is open to the Minister to impose elements of the Mining Charter III indirectly, through incorporating the principles as terms and conditions of a mining right.

As at the date of this bulletin, none of the respondents had yet to indicate whether they will appeal the judgment. 

 Courtesy: FASKEN

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The madness of crowds

Old Mutual Wealth Investment Strategists Izak Odendaal and Dave Mohr 

Once again, South Africa is the country that see-saws from one extreme emotion to another. Two weeks ago, the robustness of our rule of law was being celebrated. Now we are grieving the loss of many lives and widespread destruction and looting. This just as the devastating third wave of Covid-19 infections seems to have peaked. 

What just happened? 

What may have started out as a political protest – to the jailing of former president Jacob Zuma – quickly descended into widespread violence and pillaging on an unimaginable scale in KwaZulu-Natal and townships around Johannesburg. Perhaps because phone cameras are ubiquitous now, many harrowing images were circulated this week.  

The military has now been deployed and a semblance of order is returning. The next major challenge is to restore supply chains so that food, fuel and medicines remain accessible in affected areas.  

While we have never experienced anything on this scale before, South Africa does have a history of violence stretching back centuries, but particularly in the 1980s and early 1990s. Crime is rife in our society and there are frequent outbreaks of public violence. These range from violent strikes and service delivery protests to battles between rival taxi operators and xenophobic attacks against foreign nationals.  

Order needs to be restored and maintained, but the underlying issues and social ills also need to be addressed as a matter of urgency.  

Chart 1: SA unemployment rate 

Source: Refinitiv Datastream 

However, there is footage showing that it was not only desperately poor people who looted. Many of the stolen goods were loaded into upmarket vehicles. This unjustifiable lawlessness is deeply worrying and calls for serious soul-searching as a nation. 

Trust in the security services will have to be rebuilt, as well as trust in one another. There is no other alternative for people who want to stay in South Africa. As is always the case in our country, there was also good news amid the chaos. There were, for example, many encouraging scenes of communities standing together to protect shopping centres and neighbourhoods, and there was also no shortage of volunteers keen to help clean up and rebuild.   

Can the centre hold? 

South Africa has been on the brink many times, but somehow always managed to veer away from a descent into complete anarchy. It’s as if we are always peering over the edge, stepping back only at the last minute.  

This recalls Yeats’ Second Coming which former President Mbeki was fond of quoting: “Things fall apart; the centre cannot hold.” The events of the past few days will convince many that the country has finally spun out of control, its centrifugal forces no longer strong enough.  

But their pessimism is likely to be misplaced. What is crucial is that South Africa has a framework within which to rebuild social trust and repair the economy.  

The big philosophical questions of representative democracy have long been settled. What seemed like intractable conflict in the 1980s gave way to our constitutional order: all adults can vote, everyone is equal before the law, and our basic rights and freedoms are enshrined in the Constitution. The problems we are faced with today are largely practical, not conceptual or ideological. They are big, and we have failed to address many of them, but progress is possible.  

Failed states cannot even begin to address their problems because there is no consensus on the basic rules of the game. In contrast, most of South Africa’s 60 million citizens want peace. Most are fed up with crime and corruption. Most want shared prosperity and hope for all.  

So the centre can hold. It is held together by ordinary people and key institutions such as our free and fair elections, a parliament with opposition parties, our Reserve Bank, businesses and business organisations, civil society, trade unions, and of course the courts.  

What will the economic impact be? 

The combination of Level 4 lockdowns and the violence and looting means July is likely to see steep declines in economic activity across a number of sectors, and the third quarter as a whole could see negative GDP growth. The losses will run into billions, some of it insured, much of it not. Some smaller businesses therefore might have to close for good.  

The biggest impact will be on the retail sector, followed by transport and logistics, and manufacturing. Retail is an important sector at around 7% of GDP, but clearly an economy is much bigger than its shops and malls. South Africa is a R5 trillion economy, some of it informal and fragile, but much of it sophisticated, flexible and robust. 

Depending on how soon calm can be restored and shelves restocked, activity can rebound fairly quickly as we saw a year ago when the economy emerged from hard lockdown. People still need to buy food, clothing and other household items. The rebuilding and restocking efforts will add to economic activity, giving a boost to fourth quarter growth numbers. The exact timing is of course is up in the air at this stage.  

While it is easy to overstate the short-term damage, it is also possible to underestimate the long-term consequences. These are likely to extend well beyond the retail sector, dealing a blow to already fragile business and consumer confidence. The blow can be softened if government deals more decisively with the violence and also adapts its policies to boost the economy. 

As the looting intensified, the World Bank released a report highlighting some of the steps South Africa should take to grow the economy and create jobs. While important economic reforms have been announced – most notably the deregulation of electricity production – there is more that can be done to make it easier to do business. Listening to the expert economic advice of global institutions like the World Bank is an important start, just like the government has relied on expert advice in dealing with the pandemic. 

Crime and unrest have long impacted the economy negatively in a number of ways. Last week’s riots were in many respects an acute flare-up of a chronic condition. Injury and loss of life cost the economy billions (and unquantifiable anguish). Diverting scarce resources to security measures is extremely costly. Small businesses, particularly in townships, are very vulnerable to theft and often don’t survive as result. Stolen goods can be replaced, but it drives up insurance premiums, sometimes to unaffordable levels for informal entrepreneurs.  

What we can’t measure is the investment that does not take place because of crime and violence, when global businesses and investors overlook the country, or when locals decide to emigrate and take their skills and capital with them. Or simply when a business that wants to expand finds it impractical to do so (as was recently the case with Rio Tinto’s Richards Bay mineral sands operation).  

How did markets respond? 

The rand is the country’s financial pressure valve, and it lost about 2% against the US dollar in the past week. Neither local nor foreign investors like to see scenes of anarchy, but if short-lived they are unlikely to count as a dramatic event in the context of the currency’s history. Foreign investors are more likely to dump South African equities, bonds and the currency when they are concerned about global economic growth than in response to events on the ground here. In fact, some of the weakness in the rand was due to a stronger dollar in response to firmer US inflation.   

Chart 2: Rand dollar exchange rate 

Source: Refinitiv Datastream 

South Africa has long been better at attracting portfolio flows than foreign direct investment (FDI). In other words, foreigners are more likely to buy bonds and equities that they can quickly trade in and out of thanks to our sophisticated financial markets than buying businesses that they have to operate. There are substantial FDI flows, but portfolio flows are bigger. Portfolio investors also tend to have short memories and most often trade on global financial considerations    

Foreign investors in emerging markets accept that there is less social stability and weaker government control than in developed markets. It ends up being built into the valuations and the higher return expectations. Violent protests are not unique to South Africa. Just in the last year, Chile, Colombia, Brazil and Mexico have experienced widespread riots. In fact, according to the latest Global Peace Index, the number of riots, strikes and anti-government protests worldwide jumped 244% percent in the last decade. The frustrations and depravations of Covid-19 lockdowns have been fuel to the fire in many cases.  

Even the US was engulfed by protests against police brutality and discrimination last year. And of course it doesn’t take much for football supporters in Europe (the UK especially) to become unruly.  

The JSE as a whole was largely unchanged, but that is because it is mostly a global index and rand hedges rose. Retail and bank shares were quite a bit weaker, as could be expected. 

Bonds were weaker, but South Africa’s dollar credit default spread (its market-based credit rating) has moved in line with its emerging market peer group. The rising bond yields therefore do not reflect a fundamental change in the assessment of the government’s creditworthiness, but rather the weaker rand.  

Chart 3: South African dollar credit default swaps vs peers 

Source: Refinitiv Datastream 

It is ultimately global financial developments that matter most to our markets. And as things stand, the global environment remains very supportive. Commodity prices are still elevated, and capital still abundant.  

How should investors respond? 

If you have a diversified portfolio, there is no reason to take any immediate action. As citizens we are saddened and angered by the events of the past few days, but as investors we can spread our eggs over many baskets. Global markets are unaffected by what happens in South Africa. 

A knee-jerk reaction would be to sell out of South African investments completely and take all the money offshore. However, remember that the local assets are already pricing in a lot of bad news hence the surprisingly small market reaction to these events. It is sensible for local investors to have substantial global exposure to manage risks and to access different return opportunities, but be careful of throwing out the baby with the bathwater. It is generally better to be a buyer when others are selling in a panic. If you are aiming to increase offshore exposure, do not attempt to be too clever in timing the rand. Focus on what you want to buy on the other side.  

We can’t ignore what is happening around us. We are all shaken. Ultimately, however, what happens in Beijing and Washington and the trading floors in New York and London matters more for your portfolio than chaos on the streets of Durban or Soweto. 

 

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