New England Biz Law Update
“Strength lies in differences, not in similarities.”
— Stephen R. Covey
“Diversity” in business means variance in gender, race, ethnicity, age, disability and experience. Few goals are more discussed, and yet so unachieved, as diversity on corporate boards of directors.
Statistics published this spring by the National Association of Corporate Directors are depressing. Discussions on public boards reflect consensus that diversity will “enhance … cognitive diversity” (70 percent); fulfill a moral imperative (49 percent); and be more representative of customers and clients (38 percent).
Even on boards of larger privately owned companies, diversity is viewed as a positive. Still, achieving diversity is painfully slow.
Perceived impediments to achieving diversity are significant. The most cited excuse is lack of open seats (54 percent for public companies) and inability to find qualified candidates (50 percent).
These impediments could be addressed by boards themselves, yet belief that these are unmovable roadblocks persists. Further, the collegial environment that boards covet creates its own seeming challenge: reluctance to add possibly discordant voices.
What are the numbers? Percentages for the Fortune 500: minority men, 11.5 percent; minority women, 4.6 percent; Caucasian women, 17.9 percent; Caucasian men, 66 percent.
This problem of underrepresentation of minorities on boards has long been under attack. Today, NACD still cites to its “Blue Ribbon Commission” diversity report dated 2012. That seven-year-old report suggests specific methods for achieving diversity; nonetheless, many public boards have failed materially to “move the needle.”
What are the numbers? See Deloitte’s online study “Missing Pieces Report: The 2018 Board Diversity Census of Women and Minorities on Fortune 500 Boards.” Percentages for the Fortune 500: minority men, 11.5 percent; minority women, 4.6 percent; Caucasian women, 17.9 percent; Caucasian men, 66 percent.
Questionable truths
Current faith in the value of diversity has not always been supported empirically. Stanford Graduate School of Business’ report on diverse boards surveyed studies from the 1990s to 2014 and concluded that “research evidence on board diversity and corporate outcomes is highly mixed.”
The report cites academic studies that have concluded that diverse boards improve corporate performance, have modest impact on corporate performance, have no impact on corporate performance, have a negative impact on corporate performance, contribute to controls and governance quality but not to performance, harm governance quality and firm value, or have uncertain results.
Nonetheless, it seems firmly established in current thinking, based on other supportive studies, that diverse boards are better qualitatively and are essential in the moral and business sense.
NACD recommendations
The National Association of Corporate Directors counsels a straightforward three-step diversity strategy: discuss board composition, identify solutions, and disclose the search process.
Suggested implementation is logical: increase director turnover or expand board size to create space for diversity; establish programs to increase the pool of candidates; don’t look for “star” members but rather diverse members with skills determined lacking through board evaluation; regularly place diversity on the agenda; select the right recruiters.
Those techniques have resulted in some progress in public companies, but targets fixed for gender or minority membership on boards are not being met in both for-profit and nonprofit companies. (Private companies present problems of history, culture and family ownership and are not addressed here.)
In light of unsatisfactory progress, ancillary mechanisms to foster diversity have been adopted.
Different approaches
In the United Kingdom, the government sought to improve gender diversity in its largest companies by establishing non-mandatory targets. The Department of Business, Energy and Industrial Strategy in 2016 set a target for women to make up one-third of public boards and executive committees by the end of 2020. The 100 largest companies seem on track, but the next 250 are lagging behind. About 100 of these company boards have either no women or only one (consensus seems to be that a minimum of three women on the board is necessary to release full contribution).
Nor has an increase in women on UK boards impacted the number of C-level managers; executive level women have not increased over the past 10 years, and, according to the Cranfield University report, “women are less likely than men to be promoted to executive roles — they have to change companies to get that recognition.”
Interestingly, once women do achieve directorship, they hold their percentage representation in chairing board committees.
Is the problem in the UK that government standards are aspirational but not mandated? As of mid-2018, the UK was performing better than some countries that did have quotas (Germany and Spain).
Norway’s government-mandated gender quota, established in 2007, requires all listed company boards include at least 40 percent women. While the law has succeeded statistically, the anticipated upward effect on the number of women in the executive ranks has not occurred (echoing the UK experience). Queried about the possibility that the Norwegian government also would mandate C-suite quotas, one senior researcher at the Norwegian Work Research Institute argued that the specific requirements to serve in the C-suite, based in part on proven experience, cannot be mandated.
As of March 2018, Finland and Sweden had 30 percent or more female board seats, with Denmark around 22 percent. In France, the number was approximately 30 percent; but in Germany, only 18.5 percent. (In Canada and the United States, the number is around 20 percent). Women directors in South America, Latin America and most of Africa are few and far between.
Several countries now have government-mandated gender-based targets for public boards: Belgium, France, Germany, Iceland, India, Israel, Italy, Norway and Spain. One 2015 article suggests that countries adopting gender quotas share certain characteristics, including (not surprisingly) a female labor market and “left-leaning political government coalitions.”
The governmental corporate codes of 15 countries require reporting gender diversity but not achieving specific percentages. The U.S. Securities and Exchange Commission requirements function in much the same manner. Literature also suggests that state legislation mandating disclosure may be considered in New York and New Jersey.
California is the only state currently establishing a requirement for the number of female directors. (In Canada, the province of Quebec has done so.) Legislation adopted in 2018 requires any corporation (regardless of where formed) that has a principal executive office within California and that is listed on a major stock exchange to have at least one female director by the end of the current year, two by the end of 2021 for boards with five directors, and three for boards with six or more directors.
According to the Harvard Law School Forum on Corporate Governance and Financial Regulation, the expectation is that 79 percent of California companies will fail to meet the 2021 standards.
Institutional investors now also are pushing gender diversity. State Street and BlackRock have either voted against reelecting certain nominating committees or expressed an expectation of female directors, and a large group of other institutional investors have suggested that gender diversity should be a board priority. Proxy advisory firms (ISS and Glass Lewis) announced they will generally recommend voting against nominating committee chairs where there are no female directors.
The above discussion centers on gender diversity. Although the Deloitte study provides statistics on minorities, no government has tackled the establishment of suggested or required non-gender board participation, and while diversity generally is seemingly important to institutional investors, specific non-gender metrics have not appeared — yet. It may be that women are a better organized bloc and their issues are given better hearing.
On Feb. 6, the SEC released Compliance and Disclosure Interpretations, setting requirements for public company disclosure concerning board diversity. The SEC demands disclosure of whether the nominating committee considers diversity characteristics such as race, gender, ethnicity, religion, nationality, disability, sexual orientation or cultural background, and disclosure of the manner in which those factors were considered.
Another provision requires disclosure of the experience, qualifications and skills that led to naming someone as a director, and the manner in which the board enforces diversity policies.
Best practices
With pressures for increasing diversity brought by numerous stakeholders (the public, customers, proxy advisors, major investors, government), why is there delay?
Director reticence to take a leadership role in what is perceived as difficult, controversial issues? It also may be that if you do not measure something, you cannot achieve it.
While government should not establish quotas, there is no impediment to a board establishing its own quota, and in identifying new sources in cohorts that have not traditionally been tapped.
I recall when government contractors were scampering to establish minority (non-board) hiring programs to eliminate discrimination that had become unlawful under federal contract law. This resulted in drafting “affirmative action plans,” which were met with great suspicion but were executed successfully because it was too unprofitable to fail.
While absolute economic necessity should not drive boards to adopt an affirmative action plan, the growing pressures described above, and the current political climate, may be a wake-up call for directors to create space for diversity.
Conclusion
Bob Dylan in 1964 observed that “the times they are a changin’.” Who knows how many women or minorities sat on public boards in 1964? But we are 55 years later, and the times aren’t a changin’; they have already changed. Public board inertia still prevails, but we are on the cusp of a sea change. Inertia runs both ways. Objects at rest stay there, but once objects are in motion they just keep rolling along.
Stephen M. Honig practices at Duane Morris in Boston.
