Challenge to board diversity revived, but to what effect?

On June 21, the 9th U.S. Circuit Court of Appeals revived one of the lawsuits challenging Senate Bill 826, a law enacted in 2018 requiring certain publicly traded companies headquartered in California to have a minimum number of women on their boards of directors.

In Meland v. Weber, 2021 DJDAR 6120 (9th Cir., June 21, 2021), the unanimous panel reversed the district court's order dismissing the plaintiff's lawsuit for lack of standing. Plaintiff Creighton Meland, Jr., a shareholder of a company subject to SB 826, alleged the law "requires or encourages him to discriminate on the basis of sex," which was a concrete personal injury sufficient to confer Article III standing.

The 9th Circuit agreed, citing Monterey Mechanical Co. v. Wilson, 125 F.3d 702, 707 (9th Cir. 1997), which held that "[a] person required by the government to discriminate by ethnicity or sex against others has standing to challenge the validity of the requirement, even though the government does not discriminate against him." The Meland v. Weber court further followed the reasoning of Monterey Mechanical that "discrimination is wrong even if the beneficiaries are members of groups whose fortunes we would like to advance," thereby preserving a definition of "discrimination" that includes efforts to combat discrimination.

While Meland can now move forward, it was not the only challenge to SB 826. In California state court, another case challenging SB 826, Crest v. Padilla, survived a demurrer on June 3, 2020. Where the shareholder plaintiff in Meland complained of the effect SB 826 would have on his shareholder franchise rights, the plaintiff in Crest v. Padilla, is a taxpayer alleging that any expenditure of taxpayer funds or taxpayer-financed resources on SB 826 is illegal under the California Constitution. 19ST-CV-27561 (L.A. Super. Ct., filed Aug. 6, 2020). Crest v. Padilla is currently set for trial on Oct. 25.

The Meland v. Weber and Crest v. Padilla matters will not only determine the federal and state constitutionality of SB 826, but they are also likely to affect the outcome of challenges to related legislation, Assembly Bill 979, which requires publicly held corporations to have board members from "underrepresented communities." This is defined as "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." The same plaintiff as in Crest v. Padilla brought a virtually identical suit challenging AB 979 the day it was enacted.

As SB 826 was enacted in September 2018, two years before AB 979, which was signed into law on Sept. 30, 2020, there has been less guesswork regarding threshold issues like standing for AB 979. Indeed, the defendant California Secretary of State in Crest v. Padilla II answered, rather than demurred, to Crest's complaint challenging AB 979. Crest v. Padilla II is set for trial in March 2022.

However, it remains to be seen what practical effect the outcome of these cases will have on the corporations that are subject to the laws they are challenging. To date, no corporation itself has challenged either law. And in March 2021, more than two years after the enactment of SB 826, the California secretary of state reported that of the 318 corporations that filed a 2020 Publicly Traded Corporate Disclosure Statement, "311 reported compliance with the 2020 Women on Boards requirements." Assuming women remain on these boards, SB 826 has arguably achieved some of its goals even if it is later ruled unconstitutional.

Whether the same will be true of AB 979 is less clear. Corporations have had time to comply with SB 826 while the constitutional questions remain unanswered. If the cases challenging SB 826 speed up the progress of the case challenging AB 979 (as Crest v. Padilla did when the state answered instead of demurred to the complaint in Crest v. Padilla II), it is possible that there will be an answer to the constitutional question for AB 979 in a shorter time period than it will take for SB 826.

Nevertheless, the momentum to which SB 826 and AB 979 have contributed is undeniable, and companies may choose to increase diversity on their boards voluntarily.

For example, in 2019, the Institutional Shareholder Services announced its own recommendations regarding board gender diversity, advising that "companies in the Russell 3000 or S&P 1500 indices, generally vote against or withhold from the chair of the nominating committee (or other directors on a case-by-case basis) at companies where there are no women on the company's board." Then, in 2020, ISS announced a similar recommendation for racial and ethnic diversity, advising that "companies in the Russell 3000 or S&P 1500 indices, effective for meetings on or after Feb. 1, 2022, generally vote against or withhold from the chair of the nominating committee (or other directors on a case-by-case basis) where the board has no apparent racially or ethnically diverse members."

One can also look to Nasdaq's Dec. 11, 2020, Proposal to Adopt Listing Rules Related to Board Diversity (as amended April 14, 2021), which is awaiting approval or disapproval by the SEC. Under the proposal, if approved, (1) all operating companies listed on Nasdaq's U.S. exchange would publicly disclose consistent, transparent diversity statistics regarding their board of directors; and (2) most Nasdaq listed companies would meet, or explain why they do not meet, an objective of at least two diverse directors, including one who self-identifies as female and one who self-identifies as either an underrepresented minority or LGBTQ+.

In the end, however, if the Nasdaq proposal is not approved and either or both of AB 979 and SB 826 are struck down, the durability of the forces of change to which these proposals and laws have contributed will be tested. The California laws and the Nasdaq proposal share the requirement for public disclosure of board composition, which one could describe as a public accountability measure (although the plaintiff in Meland called it "public shaming"). This could reflect increased public expectation of transparency in addition to serving as a compliance tool. Thus, it remains to be seen whether, even without these laws, corporations will continue to increase diversity on their boards.