On December 1, 2020, the Nasdaq Stock Market filed a proposal with the Securities and Exchange Commission (SEC) to revise listing requirements pursuant to Rule 19b-4 of the Securities Exchange Act of 1934, which would advance board diversity and enhance transparency of diversity statistics among its listed companies.
The basic provisions of the revised listing requirements would require Nasdaq-listed companies, subject to certain exceptions:
- to have at least one director who self-identifies as a female, and
- to have at least one director who self-identifies as Black or African American, Hispanic or Latinx, Asian, Native American or Alaska Native, Native Hawaiian or Pacific Islander, two or more races or ethnicities, or as LGBTQ+, or
- to explain why the company does not have at least two directors on its board who self-identify in the categories listed above.
In addition to the board diversity requirements, the revised listing standards would also require Nasdaq-listed companies, subject to certain exceptions, to provide statistical information in a proposed uniform format on the company’s board of directors related to a director’s self-identified gender, race, and self-identification as LGBTQ+.
The proposed listing requirements would also be phased in over time. Once the SEC approves the proposed rule, listed companies will have two calendar years from the approval date to have at least one diverse director. Companies listed on the Nasdaq Global Select or Global Market tiers must then have two diverse directors on their boards within four years of the approval date of the rule.
Smaller companies will also have a bit more flexibility on compliance with the new standards. Specifically, while most companies will be required to have at least one female and one member of an underrepresented group as noted above, smaller companies will be able to satisfy the requirement with two female directors. In addition, companies listed on the Nasdaq Capital Market will have an extra year to gain compliance with the final requirements.
With enhanced investor focus on ESG factors in investment decisions, perhaps the most immediately impactful aspect of the proposal is the enhanced disclosure requirements. With the proposed standardized diversity disclosure, investors will have a much easier time screening for companies that meet defined diversity criteria. In addition, the added transparency regarding board diversity may prove to be a double-edged sword, allowing ESG focused investors new tools for screening, but also allowing potential activist investors new tools for targeting companies that fall short of diversity goals.
Within the 271 pages of the proposed changes to listing requirements, the Nasdaq provides a wealth of information, including references to a broad range of academic studies that highlight the benefits to corporate performance and shareholder returns of enhanced board and management diversity among companies. Certainly, it seems sensible for corporate boards to be more reflective of the society in which companies operate, but the proposal seems to be aimed at correcting the symptoms rather than the underlying cause of the disparities. I was struck by some of the candor in the proposal regarding how board members are recruited, noting that many are recruited because they are within the same social circles as the C-suite executives that are doing the recruiting. Many boards lack diversity simply because CEOs and other board members tend to recruit new members that look just like them.
So, how can companies correct this underlying cause of homogenous leadership? It might be easy to suggest that corporate executives need to expand their social circles to include more people that don’t necessarily look like them, and that is a laudable goal. Perhaps more immediately impactful might be expanding the source of membership beyond the traditional board recruiting consultancies. This could include looking at a broader range of educational and alumni relationships that extend beyond a limited number of elite schools, or possibly reviewing a broader range of disciplines and ranges of responsibilities rather than limiting candidates to former CEOs and CFOs. Finally, companies might look to specialized recruiters that focus on finding board candidate from underrepresented communities. There are a number of new firms that have built sizable networks of diverse candidates that can present corporate boards with new and innovative candidates to enhance board diversity.
One might also ask what role a professional organization like CFA Society Chicago might play in enhancing diversity at the most senior levels of companies? Certainly, as members of the investment profession, they can continue to advocate for adding new senior managers and board members from underrepresented communities to the companies in which the public invests. They can also continue efforts to expand opportunities for enhanced diversity among their members through outreach to local schools and higher educational institutions highlighting the potential career paths in finance and investing. A Diversity and Inclusion Committee was recently implemented by the CFA Society Chicago Board, creating another avenue to foster diversity and inclusion across their membership, speakers and volunteer opportunities over time.
Ultimately, the current proposal is another important step – but just a step – in helping public companies to be more reflective of the world in which they operate. With continued motivation from exchanges, regulators and most importantly from investors, investors will see this transformation continue for the foreseeable future.