California Board Diversity Law Overturned: Debate Could Rekindle

The pushback against diversity and inclusion in corporate boardrooms accelerated this month as California Judge Terry Green of the Los Angeles County Superior Court ruled that a state law mandating diversity on corporate boards was in violation of the state’s constitution, and therefore, illegal. The decision will likely focus more attention on how much progress that has been made since California Assembly Bill 979 went into effect in 2020—sparking debates among corporate board members and shareholder groups.

California Assembly Bill 979, which applies to publicly traded companies headquartered in California, requires “a corporation with 5 directors to have a minimum of 2 female directors and such a corporation with 6 or more directors to have a minimum of 3 female directors.”

The bill also required that, by the close of the 2021 calendar year, corporations “have a minimum of one director from an underrepresented community, as defined. The bill would require, no later than the close of the 2022 calendar year, such a corporation with more than four but fewer than nine directors to have a minimum of two directors from underrepresented communities, and such a corporation with nine or more directors to have a minimum of three directors from underrepresented communities.”

The bill defines underrepresented communities as persons who self-identify as Black, African American, Hispanic, Latino, Asian, Pacific Islander, Native American, Native Hawaiian, Alaska Native, gay, lesbian, bisexual or transgender.”

Judge Green ruled that the law violated the equal protection clause in California’s state constitution. The court decision could rekindle the debate over diversity and inclusion efforts at companies nationwide. Companies that have made a commitment to diversity will likely ignore the California court ruling. However, boards that have been slow to move on diversity or haven’t moved at all may want to consider and prepare for the following possibilities:

• Discord among board members over diversity and inclusion. Many companies have begun meeting the California law’s mandate to add women and underrepresented groups to corporate boards. The Los Angeles County Superior Court ruling that the law is illegal may stir up negative feelings between board members about the need for board diversity. Unfortunately, boards may find they might have to monitor whether microaggressions or hostile behaviors are being aimed at directors who were recently added to comply with diversity mandates. Boards may also find themselves engaged in heated debates over whether to slow or discontinue diversity efforts that were started within the last few years. The board and management team will need to work together to confirm the company position on diversity and inclusion in light of the new court ruling.

• Increased shareholder and stakeholder actions. Boards should be prepared to communicate and engage with stakeholders and shareholders on this issue. Boards should expect some shareholders to advocate more aggressively for board diversity. Expect to see more shareholder proposals requesting boards become more diverse and requesting diversity audit reports on the company employee base. Additionally, employees and community groups may actively protest companies that state publicly that they are against diversity. Boards will need to develop a strategy to communicate their position on diversity and inclusion that can mitigate some of the negative actions that may result from opposing board diversity.

• Incumbent board members losing reelection votes. The largest institutional shareholders have stated that they will vote against directors up for reelection who oppose board diversity. Proxy advisory firms may advise investors to vote against directors who oppose board diversity as well. Directors who come out in favor of rolling back board diversity measures could very well risk their board seats.

• Expect more lawsuits that challenge whether board diversity can be mandated. The California decision opens other diversity efforts to legal challenges. Lawsuits challenging California’s gender diversity law (California-based public companies must have at least one woman on their bord) and Nasdaq’s listing rules that require companies disclose board-level diversity statistics have yet to be decided. In the meantime, diversity advocates will need to determine whether to appeal the ruling striking down California Assembly Bill 979.