ESG stands for Environmental Social Governance. In this globalized world industrial sector is flourishing at a very high pace. As such, it is inevitable to maintain a balance between environmental well-being and economic affluence. In this regard, certain standards and sets of guidelines are needed to protect the environment and in turn, protect the biotic components of the world.
Environmental, social, and governance (“ESG”) refers to a set of standards for a company’s behaviour used by socially conscious investors to screen potential investments. Environmental criteria take into account a company's environmental protection efforts, such as corporate climate change policies. The management of relationships with customers, suppliers, employees, and the communities in which it operates is examined under the social criteria. Leadership, executive compensation, audits, internal controls, and shareholder rights are all topics covered by governance. The number of legal disputes involving ESG-related concerns tends to rise as ESG becomes more significant in business policies and investment choices. A wide range of ESG-related claims regarding its interpretation and compliance in specific circumstances have already been filed in numerous judicial and quasi-judicial forums, demonstrating the broad scope of those issues. However, there are two types of claims that are particularly well suited for arbitration: claims based on commercial contracts and claims based on treaties.
Legal Foundations & Statutory Compliance
The Environmental pillar of ESG becomes immensely important in relation to the growing global concerns over environmental degradation, carbon footprints, and related issues.There has also been a growing concern about human rights globally. As such, it is important for corporates to comply with the standards in terms of human rights and maintain harmonious relationships with the employees. Hence, the Social Pillar becomes the base here. Similarly, for the successful conduct of a company, there should be efficient and honest management, which is covered under the governance pillar.
There are certain provisions in various statutes from which the idea of ESG seems to have culminated. Section 135 of the Companies Act (“Act”) provides for Corporate Social Responsibility, in accordance of which, it is explicitly mentioned in Schedule VII(iv) of the Act that ensuring environmental sustainability may be included by companies in their CSR policies. In addition to that, among others, the Environmental Protection Act, 1986 (“EPA”) contains various provisions which form the base of the Environmental pillar. From laying down standards for the emission of environmental pollutants, as per Section 3(2)(iv) of the EPA, to carrying out and sponsoring investigations and research relating to problems of environmental pollution [Section 3(2)(ix)], the EPA gives several powers to the central government to take measures to protect and improve the environment. As such, the companies are expected to comply with the rules.
As far as the Social pillar is concerned, it has to be seen from the perspective of various labor laws based on the principles of social security, social justice, and social equity. Apart from this, Article 43 of the Constitution of India provides that the State shall endeavor to secure a living wage, decent standards of life, etc. for workers. Parliament has passed a number of laws pertaining to workers’ social security. In 1948, the parliament passed one such law called the Employees’ State Insurance Act. It was the first substantial social security law to give such benefits to organized sector workers in cases of sickness, maternity, and injuries at the workplace. There are certain other legislations like The Employees’ Provident Fund and Miscellaneous Provisions Act, 1952, with which a company is expected to comply.
As for corporate governance, the Board of Directors is responsible for the smooth and efficient management of the company. Companies Act, 2013 and Companies Rules, 2014 provide a robust framework for the same. Section 177(9) of the Act, requires the corporation to develop a vigil mechanism through which directors and employees can report concerns about unethical behavior, real or suspected fraud, or violations of the company’s code of conduct or ethics policy.
Role of Arbitration in ESG Dispute Resolution: Enhancing Effectiveness?
Indeed, the International Chamber of Commerce (ICC) task force's 2019 report on “Resolving Climate Change Related Disputes Through Arbitration and ADR” noted the growing trend of ESG disputes being resolved through arbitration and made the case that arbitration is particularly well positioned to achieve this goal. Arbitration is well-suited for addressing ESG disputes due to its ability to select specialized arbitrators who understand the complexities of ESG issues, its capacity to handle international aspects effectively, and its provision for swift injunctive relief.
The component of party autonomy in arbitration makes it easier for the parties to choose arbitrators who hold expertise in the field of arbitration. Judges may not be suitable for adjudicating upon the specifics of three pillars of ESG. The issues related to ESG are affecting people globally. In case a corporation is not maintaining the environmental standards, it would have effects globally. When the social pillar is not taken into consideration, the delicate social fabric is tinkered with, which affects society at large. And for that matter, the violation of governance pillar will have impact to a similar extent. As such, arbitration would enable parties to get quick injunctions to address these impacting issues. At the same time, the arbitral awards tend to gain recognition globally owing to the New York Convention, 1959.
Commercial Contracts and Investment Treaties Arbitration: A Saga of Two
Businesses can control ESG risks through the management of commercial contracts. Companies have the chance to assess their current supply networks and try to implement ESG into their contract portfolio as a result of exceptional supply chain disruption. These ESG guidelines may be derived from a company’s own ESG objectives and policies or from relevant legal requirements. Where there are varying standards, laws or regulations, and levels of openness between several nations throughout the supply chain, ESG contractual requirements will be especially important. Contractual clauses demanding compliance with specified ESG-related duties by all counterparties can be used to resolve jurisdiction-based conflicts.
International trade and investment treaties are now increasing at a rapid rate. The relationship between ESG factors and investment arbitration has been largely overlooked, both in academic discourse and practical considerations. Article 15 of the BLEU Model BIT (2019) provides that, “Each Contracting Party shall ensure that its laws and policies provide for and encourage high levels of environmental and labour protection and shall strive to continue to improve those laws and policies and their underlying levels of protection.” This could lead to the emergence of new and innovative claims and defenses in the settlement of investor-state disputes, with more claims being brought by states.
For instance, states might be allowed to bring claims (or counterclaims) against investors for ESG failures and/or the diluting of investor protection where that protection conflicts with the state's ESG objectives. ESG considerations have helped host states file winning counterclaims in cases like Perenco v. Ecuador . In the instant dispute, Ecuador claimed that Perenco's business operations caused a serious environmental catastrophe. The host state requested restitution to make up for the harm done to the environment. The tribunal made a decision in response to Ecuador's environmental counterclaim, ordering the investor, Perenco, to give Ecuador a substantial amount of USD 54 million as compensation for the essential remediation efforts required to address the environmental catastrophe. Typically, investment treaty arbitration conducted by ICSID serves as the forum for dispute resolution.
ESG commitments are becoming more and more significant. Businesses who are able to adjust to these expectations stand to gain significantly. Arbitration could be a useful tool for resolving ESG conflicts. Arbitration is in a unique position to settle ESG issues because it offers the option of selecting a neutral court with subject-expert arbitrators. Therefore, it is expected that there will be an increase in the number of arbitrations on this subject given the growing significance of ESG in business operations and the benefits that arbitration provides for resolving ESG issues. ESG risk allocation clauses are now more prevalent in commercial contracts that businesses sign into as a result of the expanding scope of ESG duties. This tendency is clearly evident in merger and amalgamation deals, which frequently address ESG issues. Similar to this, it is typical for businesses to attempt to reduce and manage ESG risk in the agreements they make with their suppliers throughout their whole manufacturing chain. These clauses have caused commercial issues and most likely will continue to do so. We can anticipate that international arbitration will frequently be the preferred forum for the resolution of ESG-related disputes because many of the companies that are now putting ESG-related elements in their contracts operate on a worldwide scale.