California Court Strikes Down Law on Board Diversity

California Court Strikes Down Law on Board Diversity

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On Friday, May 13, a California Superior Court judge struck down Senate Bill (“SB”) 826—California’s landmark gender diversity law regarding the representation of women directors on the boards of publicly held corporations based in California.  In passing SB 826 in September 2018, California became the first state in the nation to pass such a bill, followed by several other states proposing and passing various bills to increase board diversity in the years since.  In its May 13th decision, the court found that the State failed to offer a compelling interest for the law, rendering the law unconstitutional under the Equal Protection Clause of the California Constitution.  Crest v. Padilla (Cal. Super. 2022), No. 19STCV27561, at 1. 

Specifically, the court was unpersuaded by the State’s assertions that the statute was necessary and appropriately tailored to (1) eliminate and remedy discrimination in the director selection process; (2) increase gender diversity on the boards to benefit the public and state economy; and (3) increase gender diversity to benefit and protect taxpayers, public employees, and retirees.  Id. at 7-8.  Rather, applying strict scrutiny to SB 826, the court concluded that the statutory goal was to achieve “gender equity or parity” but “not to boost California’s economy, not to improve opportunities for women in the workplace nor not to protect California’s taxpayers, public employees, pensions and retirees.”  Id. at 9.  The court highlighted testimony offered by the State that women are “consensus builders” and offer “less risky behavior in investments,” concluding that “this offer of stereotypes” was not a justification for SB 826.  The Secretary of State has indicated that the State will appeal the ruling.

This ruling comes just a month after a similar bill, Assembly Bill ("AB") 979, was struck down in California state court for violating the Equal Protection Clause of the California Constitution.  Crest v. Padilla (Cal. Super. 2022), 20 STCV 37513, at 22.  Enacted in September 2020, AB 979 required companies to have at least one board director who is a member of an “underrepresented community” by the end of 2021, and two or three such directors (depending on overall board size) by the end of 2022.  The court stated that the legislature “skipp[ed] directly to mandating heterogenous [sic] boards” without attempting “to create neutral conditions under which qualified individuals from any group may succeed.”  Id. at 2.

Despite these two rulings, board diversity continues to be a key focus at the national level.  For Nasdaq issuers, this is the first year of compliance with Nasdaq's Board Diversity Rule, which requires issuers to publicly disclose in a standardized template (1) the total number of company board members and (2) how those board members self-identify with respect to gender, race, ethnicity, and LGBTQ+ status.  The Rule also requires issuers to have or explain why they do not have at least two diverse directors.  In a statement approving the rule change, the Securities and Exchange Commission (SEC) heralded the Rule as an important “step forward,” but highlighted that this initiative is a “starting point for initiatives related to diversity, not the finish line.”  A lawsuit in the Fifth Circuit is challenging implementation of the Rule, arguing that it violates federal equal protection guarantees under a theory similar to that used in the California cases; argument is tentatively scheduled for August 2022.  In addition to Nasdaq’s Rule, shareholders are calling on companies to diversify their boards, and legislation on board diversity requirements is being considered in at least four states. 

In light of these various efforts, companies should continue to consider the composition of their boards and related developments.  The WilmerHale team regularly advises companies on developments in this area—please contact the WilmerHale ESG team to learn more.

Associate Allie Gottlieb also contributed to this blog post.

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