Australia's Climate Change Act: potential implications on the private sector

Key takeaways

The Australian Federal government has legislated an emissions reduction target of 43% from 2005 levels by 2030 and net zero emissions by 2050. The Climate Change Act codifies Australia’s updated 2022 Nationally Determined Contribution (NDC) under article 4 of the Paris Agreement.

While the Climate Change Act imposes obligations on the Federal government and its agencies (not on corporations and private sector entities), achieving these targets will require a concerted effort between the public and private sectors.

The Climate Change Act may have the following impacts on the private sector:

• increase in climate clauses and relevance of emissions reductions for projects and contracts with Federal or State governments;
• increase in ESG-linked pricing, for example, in debt financing we may see more step-up mechanisms on interest rates if certain emissions reduction KPIs are not satisfied;
• focus on government departments approving projects that enable Australia to achieve its NDC, with those projects that do not contribute, or contribute substantially less, to the realisation of Australia’s NDC facing greater hurdles; and
• increase in emissions reduction reporting obligations especially for entities that must report to government departments.

 

Introduction

11 years after Australia’s first emissions reduction legislation was enacted (and subsequently repealed), Australia has enacted the Climate Change Act 2022 (Cth) (Climate Change Act). While the Climate Change Act imposes obligations on the Federal government to achieve Australia’s emissions reduction target, the private sector is a key player in achieving this reduction.

This article provides an overview of the Climate Change Act, considers the implications on the private sector, and outlines proactive steps the private sector can take to manage the likely impacts of the Climate Change Act and contribute to Australia’s emissions reduction targets.

 

Overview of the Climate Change Act

The Climate Change Act has five key elements:

• legislating Australia’s emissions reduction targets as:
  • a 43% reduction from 2005 levels by 2030; and
  • net zero emissions by 2050.
• requiring the Minister for Climate Change (Minister) to deliver an annual statement to Parliament detailing Australia’s progress towards achieving its emissions reduction targets, including providing updates on the effectiveness of Australia’s climate change policies in achieving these targets, and any relevant international developments;
• establishing a Climate Change Authority to advise the Minister on the annual climate change statement;
• providing that the Climate Change Authority advise the Minister at least every five years in relation to the setting of future emissions reduction targets to be included in new NDCs; and
• implementing periodic reviews of the operation of the Climate Change Act.¹

The Climate Change Act essentially codifies Australia’s updated 2022 NDC under article 4 of the Paris Agreement.²

In addition to the Climate Change Act, the Climate Change (Consequential Amendments) Act 2022 (Cth) embeds this emissions reduction target into the functions of key governmental agencies including:

• Clean Energy Finance Corporation;
• Australian Renewable Energy Agency (ARENA);
• Infrastructure Australia;
• Northern Australia Infrastructure Facility (NAIF); and
• Export Finance Australia.³

While the Climate Change Act imposes obligations on the Federal government and its agencies (not on corporations and private sector entities) and does not expressly provide for the mechanisms by which emissions will be reduced, achieving these targets will require a concerted effort between the public and private sectors. As a result, the private sector, particularly corporations who contract with Federal and State governments and agencies, are likely to see a flow through of climate commitments into project and finance documents with the government. The next section sets out our thoughts on the likely implications the Climate Change Act will have on the private sector, including how the private sector can start to prepare for these changes.

 

Implications on the private sector

As noted above, the Climate Change Act does not expressly impose obligations on private sector entities; rather these commitments bind the Federal government. However, to achieve Australia’s emissions reduction target these commitments will need to be passed on through mechanisms the Federal government can control, for example, tender requirements in Federal projects. We foresee four key implications on the private sector:

Climate clauses

We will likely see projects and contracts with Federal or State entities with more ESG-related clauses and commitments, including obligations to reduce carbon footprint. Emissions reduction initiatives are much more likely to feature as critical requirements in tender documents and may become more important than pricing considerations in some tender processes.

We expect contractors may be required to submit to climate clauses which require the contractor to, for example:

• procure energy for the project from renewable sources;
• adopt a site waste management plan to encourage sustainable use of materials and minimise wasted materials; and
• be subject to a formal “carbon budget” or benchmarking against the market in a competitive tender process.

Contracts are likely viewed as a well-tested framework in which to embed emissions reduction and net zero commitments. Contracts are flexible, allowing the government and contractors to incentivise emissions reduction, whilst also imposing an enforcement mechanism to encourage achievement of the relevant target. Climate clauses are also likely to have a far more immediate impact. While the government can legislate further emissions reduction requirements or adopt new policies, this can take a substantial amount of time to implement. Introducing climate clauses to existing project contracts is likely a simple way for the government to flow through its climate commitment to the private sector.

While such changes may appear burdensome on contractors, these commitments will provide contractors with an opportunity to truly embed sustainable practices from the start of a project, which may even lead to improvements as the project progresses. In turn, this can deliver greater value to key stakeholders whilst also promoting an individual entity’s ESG agenda.

We are already starting to see such clauses in other jurisdictions. For example, The Chancery Lane Project, a non-profit collaborative initiative of international legal and industry professionals, are creating new, practical contractual clauses ready to incorporate into law firm precedents and commercial agreements to deliver climate solutions. These clauses are currently designed for use in contracts governed by UK law and have seen a strong uptake within the market. Major companies including Vodafone, NatWest, and New Zealand Green Investment Finance have all used The Chancery Lane Project climate clauses in their contracts to assist in their business’ transition to net zero.⁴ The Chancery Lane Project are currently transposing these UK-oriented clauses for use in the Australian market.

Climate-linked pricing

In addition to climate clauses in project documents, it is likely the implications of the Climate Change Act will extend to financing as more financiers look to divest fossil fuel assets and promote ESG investing. We expect the Climate Change Act emissions reduction targets will impact on both equity and debt financing and government grant funding.

First, we may see more banks and private investors tying funding to the borrower achieving certain emissions reduction KPIs. For example, in debt financing we may see more step-up mechanisms on interest rates if certain emissions reduction KPIs are not satisfied. Such practices were even apparent prior to the Climate Change Act. For example, Pact Group, a manufacturer of speciality packaging solutions, converted AUD 420 million of loan facilities, representing 42% of Pact’s total banking facilities, into a sustainability-linked loan; a first in Australia’s manufacturing sector. Pact’s sustainability-linked loan incentivised four KPIs: (1) increasing the percentage of recycled content across Pact’s packaging portfolio; (2) increasing the percentage of recycled material processed and distributed to the external market; (3) reducing scope 1 and 2 greenhouse gas emissions; and (4) reducing the gender pay gap. Pact Group will receive loan margin benefit if it meets its sustainability KPIs and incur a margin penalty if it underperforms.⁵

From an equity perspective, many of Australia’s largest companies are listed and subject to detailed disclosure requirements. Australia’s financial regulators, the Australian Prudential Regulation Authority, the Australian Securities and Investments Commission (ASIC), and the Australian Securities Exchange (ASX) all require climate-related disclosures to investors. For example, ASIC has updated its Regulatory Guides on disclosure. Regulatory Guide 228 Prospectuses: Effective disclosure for retail investors was updated so that the potential impacts climate change may have on a company’s operations is now included as an “external threat” which companies should consider explaining to potential investors in the “explanation of industry” section of a prospectus.⁶ In addition to these requirements, companies are encouraged to disclose the risks arising out of “[t]ransitioning to a lower-carbon economy” and the physical risks arising from climate change on a company’s operations.⁷ Further, the ASX Listing Rules Guidance Notice 9 recommends a listed entity “disclose whether it has any material exposure to economic, environmental and social sustainability risks and, if it does, how it manages or intends to manage those risks”. Institutional investors are increasingly likely to divest their holdings or refuse to invest in companies that do not have clear emissions reduction commitments. A failure to have a clear emissions reduction strategy may limit a company’s access to equity finance which may lead to increased reliance on debt funding which may be charged at a premium.

Second, in addition to private project financing, it is likely the Climate Change Act will impact on how grant funding is awarded, particularly given the emissions reduction targets have been formalised in the objectives and functions of key government agencies responsible for funding such as ARENA and NAIF. For example, the consequential amendments flowing from the Climate Change Act amend the Northern Australia Infrastructure Facility Act 2016 (Cth) to allow NAIF to consider Australia’s emissions reduction targets when determining terms and conditions for the provision of financial assistance. Not only will emissions reduction targets be considered in the award of grant funding, but it may also be the case that such funding is conditional on certain emissions reduction commitments being maintained or satisfied.

Importantly, if an emissions reduction KPI is a contractual requirement when contracting with the government, the relevant borrower would not qualify for sustainability-linked debt financing. This is because sustainability-linked debt financing requires a borrower to do something it would not otherwise do in the ordinary course of its business to reduce emissions. As noted in the International Capital Market’s Association Sustainability Linked Loan Principles, borrowers’ sustainability targets should “be ambitious and meaningful to the borrower’s business and should be tied to a sustainability improvement in relation to a predetermined performance target benchmark”.⁸ The borrower needs to clearly demonstrate how it intends to adapt its business to make a positive contribution to the transition to net zero over and above its “business as usual” position. Contractually imposed emissions reduction requirements would be insufficient to demonstrate this level of “additionality”.

The private sector also stands to benefit from ESG-linked pricing. Many financiers offering sustainability-linked products look to incentivise the borrower by offering a margin reduction if sustainability KPIs are satisfied. Adhering to these requirements can help companies to focus and commit the necessary resources to achieving important sustainability goals whilst also being held to account by financiers and key stakeholders, including shareholders. Depending on the percentage of ESG-linked facilities in a company’s total banking facilities, there is also potential for ESG-linked pricing to deliver a financial benefit in the form of cost savings on interest payments if a margin reduction is earned.

Project approvals

While the Climate Change Act does not prohibit the approval of new projects or expansions to existing projects that are likely to have significant greenhouse gas emissions, it may be that such projects are subject to more stringent approvals, including environmental approvals under the Environmental Protection and Biodiversity Conservation Act 1999 (Cth). Further, the shift in Australian public sentiment to demand greater action against climate change will likely see more public objections lodged to projects which do not seek to further these objectives.

We have already seen new and expansion projects face additional scrutiny. For example, in 2017, Gloucester Resources Limited sued the New South Wales Minister for Planning following the Minister’s decision to deny its application to construct an open cut coal mine. The Court held the open cut coal mine was not in the public interest due to the significant climate change impacts, including direct and indirect greenhouse gas emissions.⁹ Similarly, the New South Wales’ Independent Planning Commission (IPC) blocked expansion plans for South32’s Dendrobium mine. The IPC concluded there were significant concerns around ground and surface water impacts, biodiversity and upland swamps, Aboriginal cultural heritage and greenhouse gas emissions.¹⁰ Both Gloucester Resources Limited and South32 ultimately decided to abandon their respective projects.

Now armed with a legislated emissions reduction target, government departments may choose to focus on approving and progressing projects that enable Australia to achieve its NDC. Projects and project expansions that do not contribute, or contribute substantially less, to the realisation of Australia’s NDC may face greater hurdles. Coupled with potential objections from the public, the evaluation of projects in light of the Climate Change Act may cause project delays or may cause companies to re-evaluate whether the project’s expected returns support the investment and time commitment to clear these regulatory hurdles. This may, in turn, slow the pipeline of projects for the private sector, and provide a greater push for only “green” projects.

Importantly, the transition to net zero will not happen overnight. Over time, as Australia pursues more transition projects and continues a downward trajectory of CO₂ emissions, public and government expectations around emissions-intensive projects are likely to further shift. As Australia moves further along this downward trajectory and increasingly adopts renewable energy sources, approvals for fossil-fuels projects will likely dwindle both due to lack of demand and changed public expectations.

Climate reporting obligations

Finally, it is likely the private sector, particularly those entities which contract with Federal or State governments, may be required to report more fulsomely on their emissions reduction commitments. At this stage, it is unknown what reporting the government may require, or how it will request that information be provided for the purposes of monitoring Australia’s progress against its emissions reduction target. It is equally unknown as to whether an Australian entity’s emissions reductions from operations in other countries will be included in the tally for the purposes of the Climate Change Act. However, it is likely reporting obligations will include submitting data on the source of electricity used in Federal or State government projects, construction material wastage, or actual emissions produced.

 

Preparing for these changes

The following proactive steps may help the private sector prepare for, and embrace, the effects of the Climate Change Act, including:

• implementing climate clauses: climate clauses are becoming more prevalent in project documents. Including climate clauses can help the private sector be “on the front foot” and avoid costly re-procurement in the event the government legislates further climate commitments. Climate clauses can ensure a commitment to sustainable practices, such as powering a project from renewable sources, is embedded from the start of a project, and can ensure a project’s supply chain is also helping to meet climate commitments. This in turn can contribute to an entity’s ESG agenda, improve an entity’s public perception, and ensure any sustainability-linked financing is maintained;
• considering project pipeline: as public sentiment continues to shift away from supporting new fossil fuel projects (some 63% of Australians say they support a ban on new coal mines),¹¹ it is likely government departments may focus on approving projects that enable the achievement of Australia’s NDC. Emissions reduction requirements may not be limited to fossil-fuel projects; any construction project will usually involve the creation of emissions (even renewable energy projects). As a result, the private sector should review its project pipeline and consider what additional emissions reductions requirements might be required to progress any projects, whether it be a fossil-fuel project, infrastructure project, renewable energy project or other type of development. This evaluation should also consider that Australia’s transition to net zero will not happen overnight. The private sector should consider its longer-term strategy as Australia embarks on a downward trajectory of CO₂ emissions leading to net zero in 2050. This will likely see a substantial decrease in fossil-fuel projects and greater expectations from the public, including key stakeholders such as shareholders, that a company’s activities should limit emissions and make a positive contribution to Australia’s NDC commitments; and
• considering reporting metrics: the private sector should be actively monitoring its carbon footprint and looking for ways to reduce it. This includes understanding supply chain emissions. Private sector entities should be actively monitoring and reporting on its own emissions to key stakeholders to promote transparency and accountability within its own operations, whilst also being prepared to make such reports to government entities for the purpose of tracking Australia’s progress against the emissions reduction targets. This includes actively engaging with suppliers at project inception to set clear expectations on the supplier’s emissions output associated with the project to ensure the supply chain emissions count is accurately reflected in the project’s total.

 

Looking ahead

The Australian government has sent a clear signal to the private sector that it is committed to accelerating Australia’s investment in the transition to net zero and “harnessing the opportunities of a renewable revolution”.¹² While the Climate Change Act imposes obligations on the Federal Government to achieve Australia’s emissions reduction targets, the private sector is a key player in achieving this reduction. Private sector entities, particularly those who are involved in Federal or State government projects, should start implementing climate clauses in their contracts to ensure emissions reduction commitments are at the forefront of project planning. The private sector should also prepare to see more ESG-linked pricing both from a private and grant funding perspective as more financiers shift away from funding fossil-fuel based projects. We are also likely to see government departments focussing on approving projects that enable Australia to achieve its NDC, with those projects that do not contribute, or contribute substantially less, to the realisation of Australia’s NDC, facing greater hurdles.

 

Should you wish to learn more about the Climate Change Act and how it could impact your business, please reach out to one of the authors. DLA Piper is a leader in understanding and advising on legal liability and the legal risks associated with the impacts of climate change. We have advised governments and the private sector on climate change legislation, including being the provider of legal services for COP26. DLA Piper is also a supporter of The Chancery Lane Project, a non-profit collaborative initiative of international legal and industry professionals responsible for creating new, practical contractual clauses ready to incorporate into law firm precedents and commercial agreements to deliver climate solutions.

 

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¹ Explanatory Memorandum to the Climate Change Bill 2022 (Cth), page 5.
² Australia’s Nationally Determined Contribution – Communication 2022 (online, 2022), available at: https://unfccc.int/sites/default/files/NDC/2022-06/Australias%20NDC%20June%202022%20Update%20%283%29.pdf
³ Climate Change (Consequential Amendments) Act 2022 (Cth).
⁴ The Chancery Lane Project, Impact Report (October 2022) (online, October 2022), available at: https://chancerylaneproject.org/wp-content/uploads/2022/10/The-Chancery-Lane-Project-Impact-Report-October-2022-.pdf
⁵ Pact Group’s Sustainability-Linked Loan a first for Australian Manufacturers (online, 12 September 2022), available at: https://pactgroup.com/news/pact-groups-sustainability-linked-loan-a-first-for-australian-manufacturers/
⁶ Australian Securities & Investment Commission, Regulatory Guide 228 - Prospectuses: Effective disclosure for retail investors (August 2019) RG 228.68(e).
⁷ Australian Securities & Investment Commission, Regulatory Guide 228 - Prospectuses: Effective disclosure for retail investors (August 2019) RG 228.77.
⁸ International Capital Markets Association, Sustainability Linked Loan Principles (online, March 2019), available at: https://www.icmagroup.org/assets/documents/Regulatory/Green-Bonds/LMASustainabilityLinkedLoanPrinciples-270919.pdf
⁹ Gloucester Resources Limited v Minister for Planning [2019] NSWLEC 7.
¹⁰ Lisa Cox, Controversial $1bn Dendrobium coalmine expansion plan abandoned by mining company (The Guardian, online, 23 August 2022), available at: https://www.theguardian.com/environment/2022/aug/23/controversial-1bn-dendrobium-coalmine-expansion-plan-abandoned-by-mining-company
¹¹ Lowy Institute, Climate Poll 2021 (online, May 2021), available at: https://poll.lowyinstitute.org/charts/potential-federal-government-policies-on-climate-change/
¹² Hansard, Climate Change Bill 2022 Second Reading Speech (27 July 2022), page 18.