The Situation: A number of shareholder derivative lawsuits in federal court have been filed seeking to hold directors and officers of major companies accountable for alleged failures to uphold their commitment to diversity. To date, the lawsuits have been filed predominantly by the same plaintiffs’ law firm.

The Issue: Shareholders allege that directors and officers breached their fiduciary duties by failing to monitor compliance with anti-discrimination laws and nominate diverse candidates to their boards, and violated federal securities laws by misrepresenting their efforts to achieve satisfactory levels of diversity among board members and executives.

Looking Ahead: These novel shareholder claims are the latest example of the continuing evolution of the securities plaintiffs’ bar, similar to the spate of litigation over the last several years regarding director compensation. Shareholders may continue to use derivative litigation to hold their company executives accountable for alleged failures to commit to and obtain results in the areas of diversity and inclusion. These cases and their outcomes warrant close attention, as they could propel similar claims against directors and officers of other major companies.

Shareholder Actions Targeting Commitment to Diversity

Jones Day has been closely tracking a recent spate of lawsuits filed in federal court since early July, relating to an alleged lack of diversity among corporate boards and executive management. These suits are shareholder derivative actions, which are lawsuits filed by a shareholder purportedly on behalf of a company, typically against its directors or officers, to pursue claims belonging to the company that it has declined to bring, or is unable to decide to bring, if such claims raise conflicts of interest. The suits appear intended to ride the coattails of, and seek to profit from, the current cultural movement in the United States focused on social justice, diversity, and inclusion.

Each of these lawsuits generally alleges that the defendant officers and directors made material misstatements and omissions to investors regarding their companies’ professed commitment to achieving and maintaining diversity and inclusion. According to the lawsuits, the alleged lack of diversity among the companies’ boards of directors and senior executive teams, in particular the lack of African-American board members and executives, demonstrates that the defendants have made no real efforts to achieve diversity and inclusion.

The Legal Implications

The lawsuits assert claims for, among other things, breach of the duty of loyalty by virtue of a lack of oversight (a so-called “Caremark claim”) for failing to enforce compliance with anti-discrimination laws, breach of the duty of care for failing to seek suitable minority candidates for the board of directors, and violation of the federal securities laws for making false or misleading statements pertaining to board diversity in annual proxy statements.

For the Caremark claims, the shareholders allege that the directors and officers of the companies at issue breached their Caremark duty to oversee and monitor the companies’ processes and functions, by failing to ensure compliance with certain anti-discrimination laws. These laws include those that combat gender-based wage discrimination, hate speech discrimination, and housing discrimination. The claims suggest that these alleged failures under Caremark subjected the companies to multiple disparaging and costly lawsuits by applicable government agencies.

In addition, the complaints assert that the charters of the companies’ governance committees create fiduciary duties that require the members of those committees to ensure well-qualified minority candidates are nominated as directors. The claims further allege that the members of those committees breached their fiduciary duties by failing to ensure that diverse candidates are actively sought out and recommended for board positions.

The claims also include violations of Section 14(a) of the Securities Exchange Act of 1934, alleging that the companies’ boards authorized material misstatements in their annual proxy statements. Specifically, the claims point to the companies’ public commitments to fostering diversity and inclusion among company leadership and the general workforce, while it is alleged that the companies’ boards remained largely white, male, and unaffected by any attempts to fulfill those commitments.

Some complaints target company statements made in opposition to shareholder proposals, which would have required new or different company procedures to ensure greater diversity among board members. These claims allege that shareholder reliance on these false or misleading statements facilitated the reelection of existing board members, and the rejection of shareholder proposals in pursuit of greater diversity.

Finally, the lawsuits target directors’ and officers’ compensation. The complaints are unified in their claims that directors and officers unfairly benefited from the lack of diversity among executives, due to the lower wages the companies allegedly pay their minority and female employees. In addition to monetary relief, the shareholder plaintiffs seek to change the composition of the companies’ boards through injunctive relief, by forcing the companies to replace a number of existing board members with minority candidates. Further, a portion of the injunctive relief sought demands that certain company funds, and executive compensation, be redirected to furthering diversity and inclusion initiatives both within the company and nationwide.

To date, these lawsuits have been filed against five large public companies in California, primarily by the same California-based shareholder plaintiffs’ law firm, Bottini & Bottini. A sixth lawsuit was recently filed by a different plaintiffs’ law firm against a large public company on the East Coast. We expect that these lawsuits may prompt similar claims of liability to be filed against company leadership at other major public companies throughout the United States.

This post comes to us from Jones Day. It is based on the firm’s memorandum, “Shareholder Derivative Litigation Concerning Diversity in Corporate Leadership Is an Emerging Trend,” dated September 2020 and available here.