Corporate governing boards have a substantial homework assignment given multiple important developments affecting board composition and oversight of workforce culture. These developments encompass new surveys from prominent governance and consulting sources, notable litigation trends, and a new state law.  Collectively, they represent an accelerated focus by third parties on how directors are selected and employees are retained.

Governance Trends

A significant new report from The Conference Board highlights important governance trends relating to board composition and diversity, the profile and skills of directors, and policies on their election, removal, and retirement.  The report is based upon a close review of 2019 corporate disclosure and organizational documents of companies across the S&P 500 and the wider Russell 3000.

Ten key findings are that:  (i) relatively few companies explicitly disclose the ethnicity of their directors; (ii) as much as 13.4 percent of the Russell 3000 do not yet have a single woman on their board; (iii) less than 5 percent of board chairs are women; (iv) companies are looking beyond the executive suite for new directors; (v) the most popular specialized skills are finance and information technology; (vi) U.S. board members serve longer than some of their foreign counterparts; (vii) the average age of board members remained unchanged year-over-year (approximately 63); (viii) more than half of the companies in the Russell 3000 index do not restrict the number of additional directorships their board members can accept (ix) a plurality of companies made no changes to the composition of their board of directors; and (x) almost half of Russell 3000 companies have not yet transitioned to majority voting in director elections.

The report offers several practical governance recommendations based on these trends.  They include making diversity a factor in every board search, adding to the diversity of nominating committees and of board leadership positions, placing limitations on the number of outside boards on which directors can serve, and developing more aggressive processes for recruiting, onboarding, and engaging first-time directors.

More broadly, the report observes that many companies are on the threshold of generational change in the boardroom, with a large number of directors nearing retirement age.  Boards are thus encouraged to embrace changes in their composition and practices in a way and at a pace that makes sense for the company based on its individual circumstances.

Gender Equality

The sixth annual Women in the Workplace study by McKinsey and LeanIn projects that one in four women are considering either downshifting their careers or leaving the workforce entirely as a consequence of the Covid-19 pandemic. The report describes this as a looming crisis for corporate America which, without bold responsive steps, could erase the slow but measurable progress made in recent years toward gender equality.

The report is grounded in the startling conclusion that working women have suffered disproportionately from the pandemic-roiled economy.  Three groups of women appear to have been affected the most: working mothers, senior-level women, and black women.  The workplace pressures placed upon these groups by the Covid-19 economy have them thinking about downshifting or leaving because of burnout.

Six specific action items are recommended to companies in order to address these Covid-driven gender equality concerns:  (i) Make the workplace a more sustainable environment, especially for working mothers and senior level women; (ii) Reset norms in terms of work options and communicate support for workplace flexibility; (iii) Reassess performance criteria applied before the pandemic for continued utility; (iv) Take measures to minimize gender bias within the organization; (v) Adjust policies and programs to better support employees during Covid-19; and (vi) Strengthen employee communication regarding the state of the business and key decisions.

New State Law

Efforts to secure diversity on corporate boards reached a new level of intensity with California’s recently enacted law requiring publicly held corporations whose principal executive offices are located in the state to satisfy mandated levels of a racially, ethnically, and otherwise diverse board beginning in 2021.

The new law requires affected companies to ensure that their boards have a minimum of one director from an underrepresented community by the close of 2021.  By the close of 2022, the obligation shall increase in accordance with the size of the board.

If its number of directors is nine or more, the corporation shall have a minimum of three directors from underrepresented communities.  If its number of directors is more than four but fewer than nine, the diversity requirement drops to a minimum of two such representative directors.  If the number of directors is four or fewer, the diversity requirement drops further, to a minimum of one such representative director.  The new law expressly permits companies to increase the size of their board of directors to accommodate adding directors.

For purposes of the new law, “Director from an underrepresented community” means 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.

Board Diversity Litigation

Boards should also take note of a series of diversity-based derivative complaints filed against a broad cross section of prominent corporations during the second half of 2020.  These complaints (many of which were filed by public interest law firms) are similar.  They reflect claims that implicate the board’s Caremark reporting system obligation, the accuracy of proxy statement disclosures, the reasonableness of executive and director compensation and the breadth of the board’s fiduciary duties.

The Caremark Claims.  This set of claims alleged that the defendant companies and their boards failed to implement information reporting systems that would have alerted the boards to alleged compliance failures associated with various anti-discrimination laws.  Individual complaints alleged specific harm attributed to such alleged failures as governmental lawsuits, advertising boycotts, gender pay and racial discrimination, and complaints of a “discriminatory, abusive [workplace] culture.”

Proxy Statement Claims. This set of claims alleged that the defendant companies made certain statements regarding their commitment to diversity that were “materially false and misleading.”  Many of the claims contain further allegations that comments about the company’s “commitment” to diversity were falsely used in responses to shareholder proposals, on the company’s website, and in its annual and social responsibility reports.

Fiduciary Duty to Ensure Diverse Board.  This set of claims alleged that members of the nominating and governance committees of the boards of the defendant companies failed to satisfy what the complaint described as a fiduciary obligation to nominate diverse board candidates and evaluate board composition and performance, by their failure to recommend well-qualified minority candidates.  Some of the complaints contained additional executive compensation-related allegations (e.g., failure to consider achievement of diversity and inclusion goals as a compensation metric; continuing to reward executives with increased compensation notwithstanding their failure to address compliance in areas of diversity, sexual harassment, and discrimination).

Demands for Relief.  Most of the claims included a demand to replace a number of current directors with an equal number of minority directors and to create a multi-million dollar fund dedicated to hiring, promoting, and retaining minority employees.  Other demands for relief included the publication of an annual diversity report, mandatory diversity training, tying a specified percentage of executive compensation to achievement of diversity goals, and donating all 2020 compensation to a charity or an organization dedicated to advancing minorities in America.

Summary

With the limited exception of the new California statute, none of these developments mandates specific requirements concerning the composition, structure, or agenda of governing boards.  To that extent, they may not require immediate action by the majority of boards.  However, as a collective theme, they offer important messages concerning the increasing focus of third parties (legislatures, governance authorities, consulting firms, special interest groups) on matters of diversity, gender equality, and similar issues of representation and equity within corporations.

Boards will be expected to be attentive to these messages, to encourage and support increased management efforts to ensure diversity and gender equality, and to exercise continued oversight of the effectiveness of such efforts. Boards must demonstrate a tone at the top so individual and full board actions reflect a commitment to these themes.

REFERENCES

1. The Conference Board: Corporate Board Practices in the Russell 3000 and S&P 500: 2020 Edition (October 2020) https://www.conference-board.org/topics/board-practices-compensation/corporate-board-practices-2020-edition.

2. McKinsey & Co. Women in the Workplace 2020: https://www.mckinsey.com/featured-insights/diversity-and-inclusion/women-in-the-workplace#.

https://www.forbes.com/sites/michaelperegrine/2020/10/13/women-and-the-pandemic-workplace-leaderships-critical-new-challenges/#42d7e44b4c56.

3. Newsom signs law mandating more diversity in California corporate boardrooms: /california/story/2020-09-30/california-law-requires-diversity-corporate-boardrooms-gavin-newsom.

https://www.forbes.com/sites/michaelperegrine/2020/10/02/california-ushers-in-a-bold-new-era-of-board-diversity/#5828ccf23955.

4. See, e.g.:  Verified Shareholder Derivative Compl. for Breach of Fiduciary Duty, Unjust Enrichment and Violations of the Federal Securities Laws, City of Potomac Gen. Employees’ Ret. Sys.v. Joyce et al.,No. 1:20-cv-02445 (D.D.C. Sept. 1, 2020).

This post comes to us from Michael W. Peregrine, a partner at the law firm of McDermott Will & Emery who advises corporations, officers, and directors on matters relating to corporate governance, fiduciary duties, and officer and director liability issues. His views do not necessarily reflect those of the firm or its clients. He wishes to acknowledge the contributions of Robin Bienemann and Emily Palmer to the preparation of this post.