March 1, 2022

The Climate Report | First Quarter 2022

Send

Embed

Jones Day

First Year of Implementation for the Taxonomy Regulation in the European Union

As of January 1, 2022, the first delegated acts adopted to supplement European Regulation (EU) 2020/852 of June 18, 2020 (the "Taxonomy Regulation") became applicable. The Taxonomy Regulation sets out a classification system establishing a list of environmentally sustainable economic activities in order to direct investments toward activities identified as environmentally sustainable.

Commission Delegated Regulation 2021/2139 of June 4, 2021 (the "Climate Delegated Act") supplements the Taxonomy Regulation with a list of activities and applicable technical screening criteria. This delegated regulation was published on December 9, 2021. It includes two annexes listing a total of 95 activities for which technical criteria are set out to determine whether the relevant activity either "contributes substantially to climate change mitigation" (Annex I) or "contributes substantially to climate change adaptation" (Annex II). The activities currently targeted by the Climate Delegated Act include a broad variety of industries, including manufacturing activities of various products (e.g., aluminum, iron, chlorine), certain types of energy generation, as well as certain transportation modes and financial and insurance activities.

Additional activities will be added in the future by additional climate delegated acts, together with the relevant technical criteria. In particular, on February 2, 2022, the European Commission announced it had approved a new delegated act which will cover nuclear energy and natural gas. The publication of these supplementary regulations are expected in a few months after a validation period by the European Parliament and Council.

Commission Delegated Regulation 2021/2178 of July 6, 2021 (the "Disclosures Delegated Act") was published on December 10, 2021, and specifies the content and presentation of information to be disclosed by certain undertakings subject to the taxonomy. It applies as of January 1, 2022, with transitional provisions for the first year with respect to reporting on activities undertaken in 2021. The scope of entities subject to such disclosure obligations includes financial as well as large non-financial companies, with a reference to Directive EU 2014/95 (the Non-Financial Reporting Directive, or NFRD).

The preparation of taxonomy reports includes two main steps. First the reporting company must identify whether it has undertaken activities "eligible" under the taxonomy (i.e., activities listed in Annex I and/or Annex II of the Climate Delegated Act). Then it must establish whether such eligible activities are "aligned" (i.e., compliant) with the criteria set out by the Climate Delegated Act's annexes for such activity.

Such reporting obligations create additional constraints on financial and non-financial entities, already subject to a number of non-financial reporting obligations, and should be carefully reviewed considering the complex and technical nature of the Taxonomy Regulation. They will also create opportunities for non-financial entities with "taxonomy aligned" sustainable activities which may benefit from favorable financing conditions. They may also reduce the risks for misleading and greenwashing claims thanks to this new comprehensive and unified reporting methodology.

_____________________________________________________

EPA Issues Stringent Greenhouse Gas Emissions Standards for Passenger Cars and Light Trucks

On December 30, 2021, the U.S. Environmental Protection Agency ("EPA") published a final rule (the "Final Rule") setting revised greenhouse gas emissions standards for passenger cars and light-duty trucks with model years ("MY") 2023-2026. The final standards increase in stringency year-over-year by 10% in MY 2023, 5% in MY 2024, 6.6% in MY 2025, and by more than 10% in MY 2026. According to EPA, the 10% increase in MY 2023 is appropriate given the technological investments industry was on track to make under the previous standards. In addition, EPA determined that the sharp increase in MY 2025-2026 is justified given the lead time and in light of the accelerating transition to electrified vehicles that has already begun. The MY 2025-2026 standards represent the most stringent fuel efficiency standards finalized by EPA to date.

The Final Rule is a consequence of President Biden's Executive Order 13990, "Protecting Public Health and the Environment and Restoring Science to Tackle the Climate Crisis," which in part directed EPA to consider suspending, revising, or rescinding the standards previously set under the Trump administration's Safer Affordable Fuel-Efficient ("SAFE") Vehicles Rule, which is discussed in our prior article. In deciding to implement more stringent standards than were set under the SAFE Vehicles Rule, EPA in the Final Rule found that it was more appropriate to place greater weight on the magnitude and benefits of reducing emissions that endanger public health and welfare, while continuing to consider compliance costs, lead time, and other relevant factors.

EPA believes that the standards set in the Final Rule can be met with gradually increasing sales of plug-in electric vehicles in the United States, from about 7% market share in MY 2023 (including both fully electric vehicles and plug-in hybrid vehicles) up to about 17% in MY 2026. And based on compliance with the final revised standards, the industry-wide average emissions target for new light-duty vehicles is projected to be 161 grams of carbon dioxide per mile in MY 2026. It has been reported that this will translate into an industrywide average fuel economy of 40 miles per gallon at the end of 2026, as opposed to the 32 miles per gallon average that would have been required under the SAFE Vehicles Rule.

The Final Rule goes into effect on February 28, 2022. In the Final Rule, EPA announced that it is planning to initiate a rulemaking to establish multipollutant emission standards for MY 2027 and later, consistent with President Biden's Executive Order 14037, "Strengthening American Leadership to Clean Cars and Trucks." In addition to complying with the emission standards in the Final Rule, regulated entities should closely monitor this subsequent rulemaking, as its standards will extend to at least MY 2030, will apply to light-duty vehicles as well as medium-duty vehicles, and is likely to significantly build on the standards established in the Final Rule.

_____________________________________________________

New Guidelines on State Aid for Climate, Environmental Protection, and Energy in the European Union

On January 27, 2022, the European Commission ("Commission") adopted the Guidelines on State Aid for Climate, Environmental Protection, and Energy 2022 ("CEEAG"). They replace the Guidelines on State Aid for Environmental Protection and Energy 2014-2020 ("EEAG").

The European Green Deal has set ambitious climate and energy targets (including cutting greenhouse gas emissions by 55% by 2030). The Commission estimated that these priorities will require 350 million euros of additional annual investment and will impact all sectors of the economy. This investment challenge will require both private and public funding. As a result, there will be increased opportunity for businesses to receive State aid.

The CEEAG set out the conditions the Commission applies to assess the compatibility of notifiable aid for climate, environmental protection, and energy (i.e., aid that requires pre-approval from the Commission). The General Block Exemption Regulation, or GBER (in the process of being revised), applies to projects that do not have a notification obligation.

A Broadened Scope

Categories of aid: Thirteen categories are covered by the CEEAG, compared to nine in the EEAG. New categories include (i) aid for the reduction and removal of greenhouse gas emissions including through support for renewable energy and energy efficiency ("Decarbonisation aid"), (ii) aid for clean mobility, (iii) aid for resource efficiency and for supporting the transition toward a circular economy, (iv) aid for the remediation of environmental damage, the rehabilitation of natural habitats and ecosystems, the protection or restoration of biodiversity and the implementation of nature-based solutions for climate change adaptation and mitigation, and (v) aid for the closure of power plants using coal, peat, or oil shale and of mining operations relating to coal, peat, or oil shale extraction. Aid in the form of reductions from electricity levies for energy-intensive users is now a separate category, covering more types of levies but less sectors. Nevertheless, should sector-specific rules contain provisions on environmental protection and energy, these shall prevail over the CEEAG. However, certain categories of aid, such as State aid for research, development, and innovation (dealt with under the Framework for R&D&I—in the process of being revised), or State aid for nuclear energy are outside the scope of the CEEAG.
Aid instruments: A wider variety of aid instruments can be used. These now include Decarbonisation aid in the form of contracts for difference, which may entail a payback by the beneficiary to the State if the reference price (e.g., market price) exceeds the strike price set in the contract.
Cost coverage: As a general rule, the aid will cover 100% of the funding gap (i.e., the net extra cost compared to the counterfactual scenario where no aid is granted).

Compatibility Assessment

The compatibility assessment is a three-step exercise:

Step 1: The aid must facilitate the development of an economic activity (positive condition). In particular, the aid must have an incentive effect, inducing the beneficiary to engage in additional or more environmentally friendly activity than in the counterfactual scenario. To increase transparency, a public consultation will be required prior to the notification of Decarbonisation aid measures that exceed certain thresholds, as of July 1, 2023 (some exceptions apply).
Step 2: The aid must not adversely affect trading conditions to an extent contrary to common interest (negative condition). The aid must address residual market failures for which no alternative policy measure or aid instrument would be less distortive of competition. Its amount must be limited to the minimum necessary. The Commission will carry out a detailed assessment of the net extra cost where the aid is not granted under a competitive bidding process. Measures are approved for 10 years maximum, after which a re-notification is required to prolong the measure.
Step 3: The positive effects of the aid on competition and trade are weighed against its negative effects (balancing test), applying the "do no significant harm" principle. With a view to phasing out fossil fuels, measures that involve support to the latter are unlikely to be deemed compatible. The same applies for new investments in natural gas, unless the Member State establishes that it will contribute to achieving the 2030 climate target and 2050 climate neutrality target.

In addition, the CEEAG lay down specific rules for each of the 13 aid categories.

Aid schemes with a high distortion potential, large budgets, or novel characteristics, as well
as schemes that are to apply in markets where significant technology, regulatory, or market changes are expected, may be subject to an ex post evaluation by an independent expert, shorter time limitation, and/or in the absence of a competitive bidding process, individual notification of certain projects may be required.

Member States have until December 31, 2023, to align existing aid schemes with the CEEAG, where necessary. To this end, the Commission proposes appropriate measures to the Member States concerned, pursuant to Article 108(1) of the Treaty on the Functioning of the European Union. If they accept these measures within two months from the publication of the CEEAG in the Official Journal of the European Union ("OJEU"), a summary notice of the decision of the Commission recording that finding is published in the OJEU, while the full text of the Commission decision is available on the website of the Commission. Businesses wishing to benefit from existing aid schemes that fall within the scope of the CEEAG should closely monitor changes that may be made to these schemes. More generally, as the CEEAG is complex and brings about important changes, businesses should make sure to anticipate and tailor their future projects and funding requests so as to be consistent with the CEEAG's text. For more on the CEEAG, please see our recent Commentary.

_____________________________________________________

French Regulations Foster a More Climate-Compatible Building Industry

As of January 1, 2022, new French environmental regulations ("RE2020") are coming into force, replacing the former thermic regulations ("RT 2012"). RE2020 creates new rules for the energy, environmental, and health performance of new building projects with the clear objective of ensuring that future buildings in France will meet climate change challenges.

In this respect, this legislation pursues two objectives. First, it aims at strengthening the requirements applicable to new buildings in order to reduce the carbon footprint associated with the building industry and its impact on climate change throughout the life cycle of the buildings. Second, it seeks to boost resilience of construction against the consequences of climate change.

To achieve these goals, RE2020 requires that new building projects, including for the renovation of buildings, meet several targets, such as optimizing overall energy conception, reducing primary energy consumption, reducing the impact on climate change of such consumption and of the components of the buildings, as well as limiting heat discomfort in buildings during summertime.

Project managers ("maîtres d'ouvrage") of buildings that are in the scope of RE2020 will have to file declarations and certificates establishing that the project complies with the performance indicators and thresholds defined by ministerial orders and decrees as part of the building permit application. An attestation confirming that the building meets the requirements set out by RE2020 will also have to be established by a qualified professional at the end of construction. Finally, additional energy performance requirements are set for non-housing buildings, such as healthcare establishments or industrial buildings.

RE2020 applies to housing buildings with permit requests filed on or after January 1, 2022. It will progressively be extended to other construction, such as office buildings and associated parking lots, for permit applications filed after July 1, 2022. In addition to this timeline, and to ensure that adjustments can be made to the requirements should they prove to be too ambitious, performance indicators will be used to determine if RE2020 is working as intended.

RE2020 creates both new challenges and opportunities for various sectors associated with the building industry. (Indeed, challenges will surely arise due to the complex technical nature of certain requirements.) Overall, this legislation should accelerate the development of a more climate-compatible building industry. In particular, it should increase the attractiveness of bio-sourced building materials and more efficient energy sources.

_____________________________________________________

Climate Change and Investor-State Dispute Settlement

Climate change litigation is often viewed by companies as a risk. However, it is also an opportunity—if brought in the right forum—for companies exposed to certain climate-related government measures to vindicate their rights. The past decade has seen increasing use of such a forum: Investor-State Dispute Settlement ("ISDS"). In ISDS cases, individuals and entities of one State can bring claims directly against another State for unlawful government interference with their foreign investment, so long as the two States have entered into a bilateral or multilateral treaty—and there are more than 3,000 such treaties—allowing these claims. A majority of ISDS cases are governed by the Convention on Settlement of International Investment Disputes, or the ICSID Convention.

As many investment treaties were enacted before climate change was at the forefront of public consciousness, these treaties may be in conflict with measures taken to satisfy States' new climate-related international obligations. As a result, in recent years investors have started to challenge States' climate-related actions before ISDS tribunals. Indeed, according to one tracker, there are currently at least 13 pending climate change-related disputes brought by investors against States.

Among these challenges are claims for compensation following the introduction of climate-related measures diminishing the value of investments. In two separate cases filed in 2021, German energy companies RWE and Uniper brought claims against the Netherlands under the Energy Charter Treaty, alleging that the government's planned phase-out of coal power plants by 2030 was a violation of the treaty. Investors have also sued States for amending or rolling back climate-related measures, notably in the case of changes to incentive programs introduced by European governments to encourage investment in renewable energy. In The PV Investors v. Spain, for example, a group of investors filed suit against the Spanish government alleging that a series of reforms to an earlier energy regime, including a 7% tax on power generators' revenues and a reduction in subsidies for renewable energy producers, violated the Energy Charter Treaty. The tribunal ruled in favor of the investors, awarding them approximately $100 million in damages.

There also have been a number of ISDS claims stemming from environmental permitting decisions. In 2021, for example, Canadian TC Energy initiated a legacy claim against the United States under the North American Free Trade Agreement ("NAFTA") seeking $15 billion in damages following the U.S. government's decision to revoke the company's permit for the Keystone XL pipeline.

The ISDS regime does not, however, allow foreign investors to restrict States' ability to engage in proportionate and necessary regulation in protection of the environment. Modern investment treaties expressly protect a State's right to engage in legitimate environmental regulation. For example, Chapter 14 of the United States–Mexico–Canada Agreement, or USMCA, which replaced NAFTA, provides that "[n]othing in this Chapter shall be construed to prevent a Party from adopting, maintaining, or enforcing any measure otherwise consistent with this Chapter that it considers appropriate to ensure that investment activity in its territory is undertaken in a manner sensitive to environmental, health, safety, or other regulatory objectives." Moreover, even older treaties, which usually contain no carve-outs for environmental protection, have been interpreted to recognize legitimate environmental measures.

Nonetheless, government measures that are unreasonable, disproportionate, arbitrary, or discriminatory may trigger valid treaty claims. As such, ISDS tribunals are (and will continue to be) tasked with balancing the competing interests of foreign investors and host States.

ISDS is therefore likely to be an increasingly important avenue for the resolution of climate change disputes. Companies in industries most affected by States' climate change obligations (e.g., fossil fuels, mining, etc.) should audit their corporate structure and change it, if needed, to ensure they are protected by an investment treaty. Such restructuring should take place before any climate-related dispute with the State has arisen or is reasonably foreseeable. Notably, some treaties have superior investor protections than others. It is thus important to assess which treaty would best protect the company from any adverse climate-related government measures.

_____________________________________________________

Climate Change Litigation in the European Union: The Netherlands

On January 13, 2022, the NGO Milieudefensie (the Dutch chapter of Friends of the Earth) announced that it had sent a letter to 29 Dutch companies and financial institutions considered by Milieudefensie to be "Netherlands' large polluters." Not only has this letter been sent to energy majors, but also to entities from a variety of sectors, including pension funds, banks, consumer groups, and chemical groups. In this letter, the NGO called on the chief executives of these companies to draft a "climate plan" before April 15, 2022, detailing and explaining the actions that will be taken to reduce the companies' CO2 emissions by 45% in 2030 relative to 2019 levels, in line with the UN Climate Convention and the Paris Climate Agreement.

According to Milieudefensie, the ruling issued by Hague District Court on May 26, 2021, in the case against Royal Dutch Shell implies that every large CO2 emitter in the Netherlands has, at a minimum, an obligation to reduce its emissions in line with the global imperative that has been confirmed most recently by the Glasgow Climate Pact. Milieudefensie has indicated it is collaborating with the New Climate Institute to assess the plans of all companies and publish the results and a ranking in June 2022.

With this new initiative, Milieudefensie expects that, by implementing their "climate plan," the 29 companies targeted will individually reduce their CO2 emissions (scope 1, 2, and 3) by at least 45% by 2030 compared to 2019 levels. Although Milieudefensie announced that it was not intending to start litigation against each and every company, it did not exclude taking "follow-up steps" against the addressees that do not comply with this demand.

Some of the targeted companies have already provided a response to Milieudefensie by pointing to their climate efforts, but none has provided further information on whether they are planning to comply with the demand and provide the said "climate plan."

This action confirms the new face of NGO climate change activism, which is taking the form of increasingly concrete actions against companies. Rather than the traditional "name and shame," it is now transforming into a "name and change" initiative, under which NGOs seem to position themselves as "regulators" by imposing on companies the implementation of measures to mitigate climate change under the threat of litigation.

This kind of action is likely to be extended outside of the Netherlands and may create a risk of businesses receiving similar requests making climate change-related voluntary commitments that they cannot keep. In light of such voluntary commitments, the risk of businesses being held to a standard later that is not contemplated now is significant and should be carefully considered before providing any response to such requests.

Caution is therefore advised when establishing a response to this new kind of action, and absolute statements or commitments on climate change mitigation measures should be avoided or drafted carefully unless there is certainty that they can be fulfilled.

_____________________________________________________

UK Government Faces Judicial Review Challenge Over Net Zero Strategy

Three months after hosting the COP26 climate summit in Glasgow, and as required by the Climate Change Act 2008, the UK government published its third five-year risk assessment of climate change on the United Kingdom. This publication will underpin policymaking in the next few years and beyond.

The assessment considers 61 UK-wide climate risks across multiple economic sectors. Eight specific areas have been identified for immediate action in the next two years:

Risks to the viability and diversity of terrestrial and freshwater habitats and species from multiple hazards;
Risks to soil health from increased flooding and drought;
Risks to natural carbon stores and sequestration from multiple hazards;
Risks to crops, livestock, and commercial trees from multiple climate hazards;
Risks to supply of food, goods, and vital services due to climate-related collapse of supply chains and distribution networks;
Risks to people and the economy from climate-related failure of the power system;
Risks to human health, well-being, and productivity from increased exposure to heat in homes and other buildings; and
Multiple risks to the United Kingdom from climate change impacts overseas.

Just for these eight individual risks, the publication concludes that economic damages could exceed £1 billion per year each by 2050 with a temperature rise of 2°C, with the cost of climate change to the United Kingdom rising to at least 1% of GDP by 2045. The assessment identifies the following adaptation work streams undertaken by the UK government including:

Investing £5.2 billion to build 2,000 new flood defenses by 2027;
Continuing work on the Green Finance Strategy to align private sector financial flows with clean, environmentally sustainable, and resilient growth;
Increasing the total spend from the Nature for Climate Fund on peat restoration, woodland creation, and management to more than £750 million by 2025; and
Ensuring that climate science and research, such as the UK Climate Projections 2018, are fully integrated into planning and decision-making, including on major infrastructure.

The report considers that the evidence shows that the United Kingdom must do more to build climate change resilience into any decisions that have long-term effects, such as in new housing or infrastructure, to avoid often costly remedial actions in the future. In addition, the United Kingdom must consider low probability but high impact events arising from, "for example, high warming scenarios and interdependent or cascading risks."

The assessment also highlights the international nature of many climate risks that can cause cascading effects across borders and sectors with significant impacts on the United Kingdom. The UK government is building on the discussions and key messages from COP26, wherein adaptation was a focal point championed by the UK presidency as a core priority.

The assessment concludes, "We will continue learning from others about how to adapt, while also building capacity and sharing knowledge as we progress towards our 'Global' goal of investing $100bn in climate finance by 2023."

_____________________________________________________

UK Government Publishes Third Climate Change Risk Assessment January 17, 2022

The assessment considers 61 UK-wide climate risks across multiple economic sectors. Eight specific areas have been identified for immediate action in the next two years:

Risks to the viability and diversity of terrestrial and freshwater habitats and species from multiple hazards;
Risks to soil health from increased flooding and drought;
Risks to natural carbon stores and sequestration from multiple hazards;
Risks to crops, livestock, and commercial trees from multiple climate hazards;
Risks to supply of food, goods, and vital services due to climate-related collapse of supply chains and distribution networks;
Risks to people and the economy from climate-related failure of the power system;
Risks to human health, well-being, and productivity from increased exposure to heat in homes and other buildings; and
Multiple risks to the United Kingdom from climate change impacts overseas.

Investing £5.2 billion to build 2,000 new flood defenses by 2027;
Continuing work on the Green Finance Strategy to align private sector financial flows with clean, environmentally sustainable, and resilient growth;
Increasing the total spend from the Nature for Climate Fund on peat restoration, woodland creation, and management to more than £750 million by 2025; and
Ensuring that climate science and research, such as the UK Climate Projections 2018, are fully integrated into planning and decision-making, including on major infrastructure.

Send Print Report

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.