Greater certainty for trustees when it comes to responsible investing
The much anticipated High Court decision in the case of Butler-Sloss & Others v Charity Commission in late April 2022 has been widely welcomed in the charity sector by clarifying the law on responsible investment (previously labelled “ethical investment”) by charities.
Whilst trustees have had the power to make financial investments aligned with their charity's purpose and values for some time, there has been long standing uncertainty over whether such investments could be made where they do not maximise financial returns, regardless of any other non-financial considerations.
This has been shaped by the only previous reported case dealing with “ethical” investments known as the “Bishop of Oxford case” (Harries v Church Commissioners for England  where the judgment referred to maximising financial return as the starting point for charity trustees when considering the exercise of investment powers (recognising, however, that there are exceptions to this rule).
The Charity Commission's guidance on investments ("Charities and investment matters: A guide for trustees (CC14))" has been based on the principles deriving from this case.
The Butler-Sloss judgment now provides helpful clarity that charity trustees have a wide discretion to invest responsibly notwithstanding that doing so may not maximise financial return, providing they reasonably weigh up non-financial vs financial considerations when making such investment decisions.
Facts of the case
In this case, two charities had sought court blessing for the adoption of their proposed investment policies which ensured that their investments did not conflict with their charitable purposes (which included environmental protection or improvement) even if the financial returns were not maximised as a result. The charity trustees had decided to use the 2016 Paris Climate Agreement as a basis for assessing whether their investments are consistent with their charitable purposes by excluding investments, where possible, that were not aligned with the agreement.
The agreement, to which 195 countries are party, seeks to limit global warming through the reduction of greenhouse gas emissions and the fostering of climate resilience and sustainable development. The two charities' investment policies aimed for a total investment portfolio that would limit greenhouse gas emissions to comply with the Agreement's goal of limiting global warming to 1.5% degrees Celsius.
Such a policy would exclude over half of publicly traded companies and many available investment funds. The charity trustees therefore sought assurance as to whether they had sufficiently balanced the financial detriment that would be suffered, in accordance with their duties, by adopting the proposed investment policies.
In the judgment, the High Court clarified that, whilst there is no absolute prohibition against making investments which conflict with a charity's objects, trustees may decide to exclude such investments and put in place a suitable investment policy to reflect this. This is provided they have taken into account all relevant factors, to include balancing the seriousness of the potential conflict against the financial detriment that might be suffered.
In this case, the High Court found that the trustees of the two charities concerned had exercised their powers of investment properly, having taken into account all relevant factors, and blessed their decision to adopt their proposed investment policies.
The judgment in the case helpfully clarified trustees' duties when approaching investments (noting that social investments or impact or programme related investments are made using separate powers than the power of pure investment which this case focused on). This clarification provides a useful guide for trustees to follow in practice:
The starting point for trustees when deciding to invest is for them to check their powers of investment in the charity's governing documents (are any specific investments prohibited thereunder for example?) and understand their investment duties under the Trustee Act 2000. In particular, section 4 of the 2000 Act requires trustees to consider the suitability of the investment and the need for diversification, as well as seek appropriate advice.
Trustees must bear in mind that the power to invest must be exercised to further the purposes of the charity. This is usually achieved by maximising the financial return on investments made by the charity, at an appropriate level of risk. Should trustees take the view that certain investments potentially conflict with their charitable purposes then they have discretion to exclude such investments.
However, as part of exercising that discretion they should reasonably balance all relevant factors including, in particular, the seriousness of the potential conflict against any financial detriment. As part of this, trustees can take into account the risk of losing support from donors and damage to the reputation of the charity generally but be cautious about making investment decisions purely on moral grounds.
If this balancing exercise is properly done with a reasonable and proportionate investment policy put in place, the trustees have complied with their legal duties and cannot be criticised.
The importance of clearly recording the basis for decision making over investments cannot be emphasised enough. Any written record should include listing the factors the trustees took into account, the balancing exercise they undertook and how they concluded that their discretion should be exercised in favour of adopting the proposed investment policy.
The exercise of good judgment by trustees in investment decisions is key. Trustees must be mindful of their overarching duty to act honestly, reasonably, with due care and skill, and responsibly.
The Charity Commission has welcomed the judgment, having last year issued a consultation on potential changes to its guidance on investment following feedback that it did not offer sufficient assurance to trustees to adopt a responsible investment approach.
Any final updates to the guidance had been put on hold by the Charity Commission, following the responses received, pending the outcome of the Butler-Sloss case. The Charity Commission will now take steps to finalise its updated guidance.
The decision, and the updated Charity Commission guidance to follow, will provide comfort to charity trustees who have long been uncertain over the power to invest responsibly where maximum financial return might not be achievable as a result. Charities supporting environmental causes, in particular, will now have the confidence to invest in a more focused way to help mitigate climate change.
This positive development arises alongside recent reports that the number of organisations making progress toward a more environmentally conscious investment strategy have doubled since 2021. Then couple all of this with the many responses to the Charity Commission's above-mentioned consultation having expressed the view that there should be a positive expectation of, or at least encouragement of, charities to consider the wider impact of their investment approach, with a particular focus on the impact of climate change.
Thus we can likely expect significant growth in the charity sector in environmental, social and governance (ESG)-compliant investments, which many understand to include the term "responsible investments”.
As to what charities decide to be part of any ESG compliant strategy remains a matter for the trustees. The benchmarks of the ESG concept are ever evolving as it is often determined by public mood and what counts as "the right thing", which in turn is often steered by world events.
This has been highlighted by Russia's invasion of the Ukraine and the response to it. There are reports of the Ukraine invasion having been a "game changer" for investors' approaches towards their ESG strategies.
For example, prior to the invasion investors had been looking to divest from arms companies, whereas post-invasion the idea that the defence industry should be reassessed in a neutral or positive ESG light is winning support as it can be seen to maintain peace, stability and other social goods (considering how weapons have helped the Ukraine during the invasion).
It will also be on the minds of investors that finding alternatives to Russian gas could stand in the way of reducing emissions, yet on the other hand will reduce Western reliance on a country that promotes an autocratic regime – a weighty factor for investors wanting to avoid investing in countries where human rights violations are known to exist.
Next steps for trustees
In the wake of the Butler-Sloss decision, charity trustees will be encouraged to revisit their investment policies and evaluate what they view as acceptable investments within any ESG strategy they might have.
In the shadow of the Russia-Ukraine conflict, labelled the first war of the ESG age, trustees will recognise the importance of keeping any ESG strategy in their investment policies under frequent review, not least for reputational purposes, to remain aligned with public mood in the knowledge that world crisis can shape and change this.