Genetic Diversity Loss and Financial Risks – Part I

Ragini Gupta, CLB Student Fellow—LLM (Environmental Law and Policy, ’23)

10 percent of the world’s terrestrial genetic diversity may already be lost, due to climate change and habitat destruction. Part I of this post discusses the financial risks from loss of genetic diversity and biodiversity and the implications this has for liability under corporate law. Part II will consider the securities law aspects in some more detail.

What is genetic diversity?

Genetic diversity has been defined as the variety of alleles and genotypes present in a population. It is one of the levels of biodiversity, the others being species diversity and ecosystem diversity. It is “the combined differences in DNA of all the individuals in a species.” Genetic diversity has been described as underpinning other levels of biodiversity.  It is important because it strengthens the ability of species to resist stresses like diseases, pests and changes in climate.

Why should we be concerned about loss of genetic diversity?

Genetic diversity is recovered much more slowly than it is lost, which means it is in effect irreversible. We may be used to thinking of nature as distinct from us, but loss of genetic diversity can affect us all. The Food and Agricultural Organization has warned that the erosion of plant genetic diversity will severely threaten world food security.  This is because world food security depends, too a large extent on 30 crop species that provide most of the dietary energy or protein and genetic diversity within these species is important for their continued stable production. Humans have looked to nature for medicines for thousands of years, for not just traditional but also modern medicines. Examples of medicines derived from plants are aspirin (from willow tree bark), digoxin (from the flower Digitalis lanata) and morphine (from opium). In the United States, of the top 150 prescription drugs, atleast 118 are based on natural sources; according to one estimate, biodiversity loss means we are losing at least one major potential drug every two years.

Biodiversity loss as a financial risk

The health impacts of biodiversity loss are intuitive to contemplate, but biodiversity loss is also a financial risk. Economic activities depend on ecosystem services provided by natural capital, including biodiversity. Biodiversity loss, leading to decrease in agricultural productivity and collapses in fish stocks, for instance, can have effects along the entire supply chain. This in turn can cause inflationary pressures and systemic financial risks. As of 2022, biodiversity loss is one of the top three global risks according to the World Economic Forum – more than half of the world’s economic output depends on healthy ecosystems. The long-term economic damages from biodiversity loss are estimated to range between USD 2 – 4.5 trillion per year. Besides losses to business, biodiversity loss can in turn affect financial institutions, which are exposed to these risks  via the businesses they advise, lend to, invest or insure.

What does this mean for corporate law?

There is a growing body of work which argues that climate change presents foreseeable financial and systemic risks and has implications for the fiduciary duties of directors under the law of corporations. A similar logic may be extended to risks from loss of genetic diversity or biodiversity broadly.

 Under Delaware law, there are two main fiduciary duties for directors – a duty of loyalty and a duty of care. The argument in the climate change context is that a board may breach its duty of care where it fails to inform itself about the foreseeable and material financial risks relevant to its industry or is grossly negligent in evaluating that information. The duty of loyalty may be breached if directors “consciously disregard or are willfully ignorant of climate-related financial risks,” as “conscious disregard for one’s responsibilities is bad faith.” It has further been argued that directors might be in breach of the duty of oversight, a component of the duty of loyalty if they fail to implement climate risk controls, fail to monitor compliance with climate change-specific regulations or fail to monitor mission critical risks related to climate change. An example of such regulations are securities law obligations requiring disclosure of climate change risks. The SEC’s 2010 interpretative release on disclosures related to climate change already discusses some ways in which climate change may trigger disclosure requirements under existing regulations. These requirements may be further enhanced if the SEC’s proposed rules to enhance and standardize climate-related disclosures are adopted.

These arguments can be extended to financial risks from biodiversity loss. Like for climate change, the risks from biodiversity loss can broadly be classified into physical risks and transition risks. Physical risks arise from loss of ecosystem services on which a business is dependent. For instance, production of crops that depend on pollinators contribute USD 50 billion to the economy in the U.S. every year. Decline in pollinators could in turn pose physical risks to industries dependent on these crops. Transition risks occur due to shifts in policy or consumer sentiment arising from attempts to counter biodiversity loss. For example, at COP 15 of the parties to the UN Convention on Biological Diversity, nations adopted the Kunming-Montreal Global Biodiversity Framework. Target 18 of the Framework calls on parties to identify, by 2025 and eliminate, phase out or reform incentives including subsidies harmful for biodiversity by at least USD 500 billion by 2030. Actions by national governments further to such targets could cause transition risks for some businesses. Biodiversity related risks are material, in that the losses they can cause are substantial. They are also foreseeable – it is unlikely a business or its directors could argue that it was unaware of risks from biodiversity loss, given extent of discussion on the subject. In a March 2022 report, a study group consisting of central bankers, supervisors and researchers found that biodiversity loss is a financial risk that can be a threat to financial stability, thus falling within the mandates of central banks and financial supervisors. Therefore, directors might be in breach of their fiduciary duties if they are insufficiently informed of the risks that biodiversity loss causes to their business, or fail to incorporate them into their business strategy thus exposing shareholders to economic losses.

There are however differences between the risks from climate change and those from loss of biodiversity/genetic diversity. For one, the complexity of biodiversity makes it difficult to measure – there is no one metric to track biodiversity loss unlike climate change where carbon emissions serve this purpose. There is also the question of offsets – while Net Zero pledges are based on entities offsetting the carbon they emit, there can arguably be no replacement or “offset” for an ecosystem that is destroyed. While efforts to manage climate risk largely involve a single target – emissions reduction, protecting biodiversity will require a much more multi-faceted approach.

Climate change litigations based on securities law and fiduciary duties have so far been largely unsuccessful. It is possible that future litigations on biodiversity risk will face similar obstacles. Given that litigations at the intersection of climate change and corporate laws are relatively new, it is too early to declare them a failure just yet. Further, litigations are not the only way a company’s actions can be influenced. The number of shareholder proposals related to climate risk continues to grow. Investors, in some cases, are citing climate change as a reason for opposing election of management-backed directors. We may see similar shareholder activism based on biodiversity risk though so far, institutional investors are almost always voting against biodiversity proposals.  This might change – the Task Force on Nature Related Financial Disclosure’s framework is expected to be finalized in September 2023. This and other frameworks will increase public scrutiny on companies’ management of their biodiversity risks.

(Part II will discuss how existing securities law disclosure obligations may apply to biodiversity/genetic diversity loss.)

 

References 

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