Ernest Akayeu | Dreamstime
Diverse Group

Legally Mandating Board Diversity

Nov. 4, 2020
California expands requirement that began with women to include minorities.

Two years ago, at the height of the #MeToo movement, California enacted a law mandating that any corporations based in California must have at least one female director on its board of directors. On Sept. 30, the state took the next logical step when Gov. Gavin Newsom (D) signed into law a new requirement that companies in the state have at least one director drawn from an underrepresented community by the end of 2021.

A member of an underrepresented community is defined as “an individual who self-identifies as Black, African American, Hispanic, Latino, Asian, Pacific Islander, Native American, Native Hawaiian, or Alaska Native, or who self-identifies as gay, lesbian, bisexual or transgender.”

Before the ink on Newsom’s signature could dry, Judicial Watch filed suit seeking to overturn the law for being unconstitutional because it establishes quotas.

If the law is not overturned in the meantime, by 2022 one director from an underrepresented community would be required for corporations with four or fewer directors, but the number increases for larger boards. Corporations with more than four but fewer than nine directors must have at least two of these directors, and corporations with nine or more directors must have at least three such directors by the end of 2022.

Under the state’s gender diversity law, by the end of 2021, some boards will be required to have installed two or three women directors, depending on the size of the board. According to one analysis, 669 board seats have been filled by women since the law was enacted in 2018.

Washington State’s new board diversity law went into effect in June, and Illinois, Pennsylvania, Hawaii and New Jersey are looking at similar legislation. The U.S. House of Representatives passed a similar bill last year that went nowhere because Republicans controlled the Senate.

Other countries already have board diversity laws on the books. A 2012 European study found large-cap companies with at least one woman on their boards outperformed those with no women by 26% over a six-year period. However, a U.S. study published last year asserted that companies who chose to increase the number of women directors experienced a decrease in market value. Of course, it’s not known whether either study controlled for factors other than board diversity.

In 2019, the Securities and Exchange Commission began requiring publicly-held companies disclose the diversity characteristics (such as race, gender, ethnicity, religion, nationality, disability, sexual orientation or cultural background) of board members and how they were considered.

Activist investor groups have begun suing companies to force them to make their boards more diverse. These claims allege that board members and other executives violated their fiduciary duties by failing to implement diversity regarding the companies’ board and C-suite positions. Companies targeted include Danaher, The Gap, Norton LifeLock., Qualcomm, Facebook and Oracle.

According to the Reed Smith law firm, these suits demand resignation of board members and executive officers to make room for diverse candidates; “disgorgement” of the current board’s compensation (including stock gains); a commitment to promoting hiring, advancement and pay equity to minorities; required annual diversity, affirmative action, anti‐discrimination and anti‐harassment training of board members and executive officers; termination of auditors; punitive damages; and (of course) attorney’s fees.

A private, voluntary program called The Board Challenge was launched in September asking companies to pledge they will add at least one Black director over the next year. So far, 27 companies have signed on, including Uber, Lyft, United Airlines, Verizon, The New York Stock Exchange, Nasdaq, Merck and Nordstrom.

The pressure for companies to commit to board diversity is only growing, and whether you agree with it or not, it is unlikely that you will be able to avoid it.

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