Nature-related risks should be at the top of the boardroom agenda: key steps directors should take to manage these risks

A growing need for directors to exercise due care and diligence 14 min read

Nature-related risks and opportunities have fast become a hot topic of discussion in Australian boardrooms. Investors have warned that boards and executives need to be upskilled on nature-related risks to be ready for what is to come.

Earlier this year, the Taskforce on Nature-related Financial Disclosures (TNFD) announced the inaugural cohort of 'Early Adopters', comprising 320 organisations from around the globe that have signalled their intent to start making TNFD-aligned nature disclosures in their corporate reporting for FY2023, FY2024 or FY2025. Barrister Sebastian Hartford Davis and solicitor Zoe Bush also issued a legal opinion in late 2023, further reinforcing a director's duty to consider and take steps to manage and report on the company's nature-related risks as appropriate.

Each company is different and has its own unique challenges. While boards grapple with numerous responsibilities, including the upcoming mandatory-related financial disclosures, it's critical not to overlook the escalating importance of nature-related risks.

In this Insight we recommend four key steps for boards in exercising their duty of care and diligence regarding nature-related risks, and lay out the potential consequences of a failure to do so.

Key takeaways

• Boards should seek information to understand the company's material dependencies and impacts on nature and ensure they have access to suitable nature-related expertise.
• Nature-related matters should be considered and embedded into business strategy, including risk management and governance frameworks, on a standalone basis or in conjunction with other ESG risk areas, as appropriate.
• Boards should take steps to ensure that nature-related risks are adequately managed and considered in relevant business decisions.
• Material nature-related risks must be adequately disclosed in accordance with a company's reporting and disclosure obligations.

Who in your organisation needs to know about this?

Boards and NEDS, general counsel, sustainability teams.

What is the duty of directors regarding nature-related risks?

Over the last decade, we have seen boards and corporate Australia focusing keenly on directors' duties and ESG related matters—in particular, environmental considerations. During this time, climate change has mainly dominated the discussion. However, the significant dependency of business on natural capital, coupled with evidence of biodiversity and ecosystem decline, has placed nature-related risks and directors' duties firmly on the agenda in both the international and domestic spheres.

This spotlight has continued to grow—in 2022, the Kunming-Montreal Global Biodiversity Framework was signed (which is the nature-related equivalent to the 2015 Paris Agreement on climate change), and in late 2023 we saw Hartford Davis and Bush issue their legal opinion regarding a director's duty to consider and take steps to manage and report on the company's nature-related risks as appropriate.¹

Section 180 of the Corporations Act 2001 (Cth) provides that directors and officers must exercise their powers and discharge their duties with the degree of care and diligence that a reasonable person would exercise in the same position in the company's circumstances. It is well established that this duty requires directors to consider and manage the company's material risks.

When applying this duty to nature-related risks, Hartford Davis and Bush note that directors must consider nature-related risks arising from the company's dependencies and impacts on nature, and should ensure they have effective oversight over management so that nature-related risks are adequately managed and disclosed. This duty is not a 'red light' requiring businesses to cease all activities that have an impact on nature or give rise to nature-related risks. Rather, directors must balance the foreseeable risk of harm to the company against the benefits that could reasonably have been expected to accrue to the company from the conduct in question.

Four key steps boards should take

Directors will need to consider the specific circumstances of their company. However, broadly speaking, we recommend four key steps for boards in exercising their duty of care and diligence regarding nature-related risks.

1. Understand the company's dependencies on nature and identify risks arising from these dependencies

Directors need to be sufficiently aware and knowledgeable of nature-related risks in order to manage those risks. Boards should request information from management and external advisers (as appropriate) to understand how their company interacts with nature, including by ensuring there is an appropriate format for management to report to the board on nature-related risks and dependencies. This includes the extent to which the company relies on natural ecosystem services to function. For example, for a company in the mining sector, a key dependency on nature may include water supply. For a company in the pharmaceutical sector, a key dependency on nature may include genetic material.

If information or a report raises concerns, directors should make further inquiries, testing and challenging management. Once the board clearly understands the company's dependencies on nature, it should seek to understand the risks arising from those dependencies. Where a company relies on natural ecosystem services to function, the board should understand how any interruption to or degradation of those services could impact the company, including whether it could have a material financial risk to a company.

For example, if a company has key dependencies on pollination, soil quality regulation and/or flood mitigation, such as a company in the agriculture sector, an interruption to these ecosystem services could have a material impact on that company due to crop decline or extinction, land asset devaluation and/or increased production costs. In some cases, the quality and integrity of these natural ecosystem services could have a material impact on the value of a company.

Boards should also seek to understand the impact that natural events, including climate change, weather events and natural disasters could have on the company.

2. Understand the impacts of the company on nature and identify risks arising from these impacts

Boards should request information from management and external advisers (as appropriate) to get a complete picture of the direct and indirect impacts the company has on nature. This includes the impacts of the company's existing operations, as well as the impacts of any future business decisions. For example, for a company in the land use, land-use change or forestry sector, such as a timber production company, the company may have a direct impact on nature by causing habitat loss, and an indirect impact on nature through emissions generated by end-product transport and shipping.

By comparison, for a company that participates in asset management, commercial banking or insurance, most dependencies and impacts on nature are likely to arise indirectly through its financial activities, rather than its direct operations (which is analogous with Scope 3 greenhouse gas emissions reporting by financial institutions). In some cases, boards may need to consider the impact of past activities carried out by the company.

Once the board clearly understands the impacts of the company on nature, it should seek to understand the risks arising from those impacts. There are many ways in which the nature-related impacts of a company could give rise to risks. These include:

• If a nature-related impact caused by a company relates to the same set of ecosystem services on which a company depends, this can create or exacerbate dependency-related risks.
• If a nature-related impact constitutes actual or potential non-compliance with environmental law, the company could be exposed to regulatory action, which could include penalties or restrictions on future activity.
• A company may face increasing regulation—both in Australia (eg by way of significant proposed reforms to the Environment Protection and Biodiversity Conservation Act 1999 (Cth), which are currently under consultation) and in foreign jurisdictions in which the company operates—of its nature-related impacts, making it harder to do business in the future.
• The focus on nature-related impacts in the Global Biodiversity Framework (which includes a target to substantially increase public and private financial resources—by at least US$200 billion annually—towards addressing the biodiversity financing gap) and the recommendations of the TNFD (discussed further below) will also continue to drive market expectations. Investors and customers are increasingly seeking information from companies on their physical and transition risks associated with biodiversity loss and their nature-based targets. Falling behind in these areas may give rise to risk to the company, including reputational risk.

3. Embed nature-related matters into business strategy; ensure there are effective risk management and governance frameworks in place

Boards will need to go further than identifying nature-related risks. As noted above, directors need to weigh the risk of harm to the company from its nature-related risks against potential benefits, and determine what actions should be taken to manage identified risks (balancing against other business considerations). Boards should confirm they have effective oversight over management to ensure nature-related risks are adequately managed and considered in relevant business decisions.

4. Ensure adequate disclosures and effective communication with stakeholders

Boards should ensure that nature-related dependencies and impacts that pose a material risk of harm to the company are adequately disclosed, whether in half-yearly or annual reports or, for ASX-listed companies, in line with their continuous disclosure obligations.

Risks of not getting it right

As shareholder, regulator and other stakeholder expectations regarding the management and disclosure of nature-related risks continue to grow, a failure—or perceived failure—to appropriately consider, manage and/or disclose a company's nature-related matters can give rise to various risks for companies and their directors. These may include:

• Financial risks: as noted above, failure to appropriately manage nature-related impacts and dependencies can have a material impact on a company's value, eg due to decreased crop yield or increased production costs.
• Personal liability for directors: as the Hartford Davis/Bush opinion reinforces, a failure to consider and adequately oversee the management of nature-related risks could lead to directors being found liable for breaching their duty of care and diligence. Additionally, in certain circumstances, liability may also arise where a director's failure to exercise reasonable care and diligence has caused or allowed the company to breach its general disclosure requirements with regards to reporting of material nature-related risks.
• Elevated investor scrutiny: a company considered to have inadequate nature risk management processes in place may find itself increasingly subject to investor scrutiny and agitation (eg AGM questions and shareholder led-resolutions, and potentially, strategic litigation, and on a broader scale, through global investor engagement initiatives such as Nature 100). Businesses should also be alert to the possibility that management of nature-related dependencies, impacts and risks may be priced into investment decisions going forward.
• Greenwashing risk: in light of sustained and heightened stakeholder activism and regulatory activity in relation to greenwashing and misleading sustainability/environmental claims (which remain an enforcement priority for ASIC and the ACCC in 2024-25), we expect that companies' nature-related claims, targets and commitments, much like their climate counterparts, will increasingly be put under the microscope. Boards should remain alive to the potential greenwashing risks associated with nature-related disclosures, which can include regulatory investigation and enforcement activity, shareholder/activist litigation and reputational and financial harm.

What's next?

Understanding the risks arising from your company's nature-related dependencies and impacts, developing a strategy to mitigate your potential exposure and making the most of opportunities in this area is paramount.

The preparation and review of nature-related disclosures, with a view to managing greenwashing risk, as well as considering the interactions of such disclosures with existing disclosure obligations and governance and risk management processes more broadly, is becoming increasingly important.

You may wish to seek advice on directors' duties regarding nature-related matters and undertake targeted reviews and verification exercises involving your risk and governance frameworks, to understand what the company is doing and where exposure may arise and, to the extent needed, seek advice regarding uplift to those risk and governance frameworks.